Finance

List two reasons why one may choose trade secret protection over patent law protection

1. Trade secret law can sometimes protect inventions that did not qualify for patents. 2. Some inventors want to avoid the detailed disclosure required by the U.S. Patent and Trademark Office. 3. There are no time restrictions on trade secrets (in contrast to patents).

List two reasons why firms holds cash.

1. to meet its day-to-day needs, 2. to compensate for the uncertainty associated with its cash flows, 3. to satisfy bank requirements.

List three reasons why a firm holds cash.

A firm holds cash to meet its day-to-day needs, to compensate for the uncertainty associated with its cash flows, and to satisfy bank requirements.

Edna's Laundry Services just completed pro forma statements using the percentage of sales approach. The pro forma shows a projected external financing need of -$5,500. Interpret this figure. What are the firm's options in this case?

A negative value implies that the company has excess cash above its desired minimum. With a negative external financing need, the firm has a surplus of funds that it can use to reduce current liabilities, reduce long-term debt, buy back common stock, or increase dividends. If acceptable opportunities exist, the firm might also use the extra funds to purchase fixed assets, thereby increasing its potential growth, should that action be warranted.

How does the pro forma balance sheet help the financial manager forecast net new financing?

An imbalance on the pro forma balance sheet will show the amount of net new financing that is needed to fund the firm's growth.

What are the three main things that the financial manager can accomplish by building a long-term financial model of the firm?

Building a long-term financial model of the firm allows the financial manager to (1) identify important linkages among the components of the firm's financial statements, (2) analyze the impact of a potential business plan, and (3) plan for future funding needs.

What is the multiples approach to continuation value?

Distant cash flows are difficult to estimate; therefore, a multiples approach is often used. Competition among firms within an industry will lead to long-term expectations of multiples to be the same across firms. Therefore, a long-term estimate of a valuation multiple for the industry is often used to estimate the continuation value of a firm.

Describe three steps in establishing a credit policy

Establishing a credit policy involves three steps: establishing credit standards (whom the firm will extend credit to), establishing credit terms (the length of the period before payment must be made), and establishing a collection policy to deal with late payments.

What is the advantage of forecasting capital expenditures, working capital, and financing events directly?

Fast growth often requires "lumpy" investments in new capacity, rather than in the smooth manner that the percent of sales forecasting method assumes. Forecasting these items directly allows for the assumption that the firm will make large investments in capacity and will need new funding in large, infrequent financing rounds.

How does forecasting help the financial manager decide whether to implement a new business plan?

Forecasting gives the financial manager the variables needed to value the firm with the expansion and without the expansion.

Pro forma financial statements, by definition, are predictions of a company's financial statements at a future point in time. So, why is it important to analyze the historical performance of the company before constructing pro forma financial statements?

Historical analysis helps decide for which financial statement items a percent-of-sales forecast might be appropriate. For example, a stable trend in the collection period would tell you that, unless you expect changes in the management of the accounts receivable, future collection periods should continue along this trend.

How does long-term financial planning fit into the goal of the financial manager?

Long-term financial planning is a tool to help financial managers maximize the value of the stockholders' stake in the firm.

If a firm grows faster than its sustainable growth rate, is that growth value decreasing?

No, growing faster than the sustainable growth rate is not necessarily value decreasing. If a company grows at a rate faster than the sustainable growth rate, it must incur flotation and issuance costs associated with the new financing. As long as the benefit of the growth is enough to cover these issuance costs, the growth can be value-enhancing

List and explain three of the limitations of financial analysis

Some of the limitations of financial analysis are the following: (l) Companies having different year ends can make for different compositions of assets, particularly current assets. The financial analysis of one company might differ significantly from that of a similar firm if one closes its books in July and the other closes them in December. (2) Companies may have acquired their property, plant, and equipment in different years; because of such things as inflation, there may be very large dollar differences between the amounts shown for the assets of the firms. (3) Companies may account for the same items with different accounting methods. (4) Industry patterns can cause significant differences between the amount and the relationship of a particular item to the total, as in comparing a company that takes more than a year to manufacture a particular machine and carries a large inventory balance with a company that sells purchased items such as a grocery store selling produce.

What is the basic idea behind the percent of sales method for forecasting?

The basic idea behind the percent of sales forecasting method is that as sales grow many income statement and balance sheet items will grow, remaining the same percentage of sales

How does the cash budget help the owner-manager control operations? Include a description of this budget in your answer.

The cash budget is simply a worksheet for determining cash receipts and cash payments, and then comparing these to capital cash available. The cash budget helps the owner-manager control operations by assisting him/her in keeping track of daily and weekly cash needs for the normal operations of the business and providing for the maintenance of the organization during this time.

What is the difference between the internal growth rate and the sustainable growth rate?

The internal growth rate identifies how much growth a firm can support using only its retained earnings. The sustainable growth rate tells us how fast the firm can grow by reinvesting retained earnings and issuing debt in an amount that maintains the firm's debt/equity ratio.

What is the primary difference between the income statement of a sole proprietorship or partnership and the income statement of a corporation?

The primary difference is that the income statement for a sole proprietorship or partnership does not show a line for income taxes as they flow through to the owner's individual tax return. The corporate income statement shows an entry for taxes, which are the corporate income taxes paid by the corporation.

How does a sales budget work?

The sales budget is the primary budget for the new venture. Once it is worked out, all of the other budgets flow from it. It begins with the owner-manager making a forecast of sales for the next year, breaking the sales down by month or quarter of the year, and then constructing budgets associated with these sales. For example, if the owner-manager believes that sales next year will be $400,000, then the business will need to stock more inventory, hire more personnel, and put together a more vigorous marketing strategy than if the forecast is only $200,000. By linking the other budgets to the sales budget, the owner can adjust expenditures up or down depending on how things go. If sales are greater than expected, production can be raised and the number of personnel can be increased. Conversely, if sales start to slow up, production can be temporarily halted and some of the people can be let go.

What does the term "2/10, net 30" mean?

The term "2/10, net 30" means that the buying firm will receive a 2% discount if it pays for the goods within 10 days; otherwise, the full amount is due in 30 days.

List three factors that determine collection float.

The three factors that determine collection float are the mail float, processing float, and the availability float. Mail float is how long it takes the firm to receive the check after the customer has mailed it. The time it takes the firm to process the check and deposit it in the bank is called the processing float. Availability float is the time it takes before the bank gives the firm credit for the funds after the firm deposits a check.

Casey Cordell is the owner of a digital photography service in Madison, Wisconsin. The company has been profitable every year of its existence. Its debt ratio is currently 68 percent, its current ratio is 1.1, and its debt-to-equity ratio is 72.2 percent. Do these financial numbers cause any reason to be concerned? Why or why not?

These numbers are of concern. A company debt ratio is computed by dividing its total debt by its total assets. A debt ratio of 68% means that 68% of Casey's total assets are financed by debt and the remaining 32% is owner's equity. This means that the majority of Casey's assets are financed by debt rather than equity, which gives him little freedom to maneuver without consulting his creditors. A current ratio of 1:1 is also of concern. A firm's current ratio is its current assets divided by its current liabilities. Casey's current ratio of 1:1 means that for every dollar of short-term assets the company has, it has one dollar of liabilities. This situation leaves Casey with no liquidity to meet unexpected expenses. Finally, Casey's debt-to-equity ratio is also a concern. A company's debt-to-equity ratio is calculated by dividing its long-term debt by its shareholders' equity. If a company's debt-to-equity ratio is high (72.2% is high), it may have trouble meeting its obligations and securing the level of financing needed to fuel its growth.

What tradeoff does a firm face when choosing how to invest its cash?

When choosing how to invest its cash, a firm faces a risk-return tradeoff. In fact, the firm may choose from a variety of short-term securities that differ somewhat with regard to their default risk and liquidity risk: the greater the risk, the higher the expected return on the investment. The financial manager must decide how much risk she is willing to accept in return for a higher yield