ACCA Financial Management (FM) Pocket Notes - Chapters 1 to 20

Flashcards covering vocabulary and core concepts from the ACCA Financial Management (FM) syllabus, including investment appraisal, working capital management, risk, and business valuation.

Shareholder wealth maximisation

The assumed primary aim of companies which underpins many of the techniques used in financial management, such as the use of $NPV$ for investment appraisal.

Agency theory

The concept that the objectives of shareholders ($\text{principals}$) and managers ($\text{agents}$) may not coincide, leading to a problem of goal congruence.

Corporate governance

The system by which companies are directed and controlled, involving ethics, risk management, and stakeholder protection.

Value for Money (VFM)

Achieving the desired level and quality of service at the most economical cost, generally measured through economy, efficiency, and effectiveness.

Relevant cash flows

Future, incremental cash flows and opportunity costs used in decision-making that ignore sunk and committed costs.

Return on Capital Employed (ROCE)

A profit-based investment appraisal measure calculated as \text{ROCE} = \frac{\text{Average annual profit before interest and tax}}{\text{Initial capital costs}} \times 100\text{%}.

Payback period

The time taken to recoup the initial cash outlay on a project, favoring projects that minimize risk and maximize liquidity.

Net Present Value (NPV)

The sum of all future cash flows discounted to the present value; a positive $NPV$ indicates a project is financially viable and should lead to the maximisation of shareholders’ wealth.

Internal Rate of Return (IRR)

The rate of interest at which the Net Present Value ($NPV$) of a project equals $0$.

Specific inflation

A situation where different cash flows within an investment appraisal are subject to different rates of inflation.

Tax-allowable depreciation

A tax relief on capital expenditure, typically providing a 25\text{%} reducing balance allowance, which replaces accounting depreciation for tax calculations.

Equivalent Annual Cost (EAC)

The equal annual cash flow to which a series of uneven cash flows is equivalent to in present value terms, calculated as $\text{EAC} = \frac{\text{PV of costs}}{\text{Annuity factor}}$.

Hard Capital Rationing

An absolute limit on the amount of finance available imposed by external lending institutions.

Sensitivity margin

The maximum possible percentage change in an input value before a decision changes, calculated as \text{Sensitivity margin} = \frac{\text{NPV}}{\text{PV of flow under consideration}} \times 100\text{%}.

Cash operating cycle

The length of time between the company’s outlay on raw materials and the inflow of cash from the sale of goods, calculated as $\text{Inventory holding period} + \text{receivables collection period} - \text{payables payment period}$.

Overtrading

A situation where a company grows turnover too rapidly, leading to liquid asset shortages and an increased reliance on short-term finance.

Economic Order Quantity (EOQ)

The re-order quantity that minimises the total cost of holding and ordering inventory, calculated as $\text{EOQ} = \frac{2 \times C_o \times D}{C_h}$, where $C_o$ is cost per order, $D$ is annual demand, and $C_h$ is holding cost per unit.

Just-in-time (JIT)

An inventory management system aimed at the reduction or elimination of inventory, viewing it as waste.

Factoring

The outsourcing of the credit control department to a third party, which may provide debt collection, financing, and credit insurance.

Miller-Orr Model

A cash management model used for setting target cash balances that incorporates uncertainty in cash inflows and outflows.

Moderate/Matching approach

A financing strategy where fluctuating current assets are financed by short-term credit, while permanent current assets and non-current assets are financed by long-term funds.

Fiscal policy

The manipulation of government spending, taxation, and borrowing to influence aggregate demand and the level of activity in the economy.

Monetary policy

Policy concerned with influencing the volume of money in circulation ($\text{money supply}$) and the price of money ($\text{interest rates}$).

Transaction risk

The risk of an exchange rate changing between the date a transaction is initiated and its subsequent settlement date.

Purchasing Power Parity Theory (PPPT)

The claim that exchange rates between currencies depend on relative inflation rates, predicting that countries with higher inflation will see their currency depreciate.

Interest Rate Parity Theory (IRPT)

The claim that the difference between spot and forward exchange rates is equal to the differential between interest rates available in the two currencies.

Forward Rate Agreement (FRA)

A financial instrument used to fix the interest rate on a loan or deposit starting at a date in the future.

Yield curve

Also known as the term structure of interest rates, it represents the relationship between interest rates and the time to maturity for debt.

Weighted Average Cost of Capital (WACC)

The combined cost of a company's pool of funds, calculated by weighting the cost of each source of capital by its market value.

Capital Asset Pricing Model (CAPM)

A model used to calculate a risk-adjusted cost of equity using the formula $E(r_i) = R_f + \beta_i (E(r_m) - R_f)$, where $\beta$ measures systematic risk.

Systematic risk

Also known as market risk, it is the risk that cannot be diversified away and is measured by the $\beta$ value of a share.

Operating gearing

A measure of business risk looking at the cost structure, calculated as $\frac{\text{Fixed costs}}{\text{Total costs}}$ or $\frac{\text{Contribution}}{\text{PBIT}}$.

Pecking order theory

A theory suggesting a preferred order for financing: internally generated funds first, then debt, and finally new equity issues.

Total Shareholder Return (TSR)

A measure of investor returns calculated as $\text{TSR} = \frac{\text{DPS} + \text{change in share price}}{\text{Share price at start of period}}$.

Sukuk

A key term in Islamic finance representing debt finance where returns are generated from wealth-generating investment activities rather than interest.

Efficient Market Hypothesis (EMH)

The theory that security prices fully reflect all available information and adjust rapidly to new information.