Finance Exam 1

-(DIO + DSO) - DPO -Days Inventory Outstanding + Days Receivables Outstanding - Days Payable Outstanding

Cash Conversion Cycle Equation

current assets / current liabilities

Current Ratios Formula

365/ Inventory Turnover

Days Inventory

ROE = Profitability x Productivity x Leverage

DuPont Framework equation

EBIT- Taxes

EBIAT Equation

Net Profit + Interest + Taxes

EBIT Equation

Net Profit + Interest + Taxes + Depreciation and amortization

EBITDA Equation:

A. Debt carries an explicit interest rate.

Home Depot, a home improvement supply store, issued $2 billion in debt in late 2016. What is the main difference between debt and other liabilities, like accounts payable? A. Debt carries an explicit interest rate. B.Debt represents ownership in the company. C. Debt is a residual claim. D. Debt is only owed to suppliers.

-Due to having high market dominance, amazon can have their suppliers wait before getting paid, leading to a negative cash conversion cycle, and their operations become a source of cash

How can amazon have low profitability but high cash flows

Difference between accumulated depreciation in both years

How do you find Depreciation Expense in new year

-Find Expected NPV, Find Expected NPV if abandoned, subtract the two (abandoned - expected)

How to find the value of the option to abandon?

C. 2 percent.

If your supplier offers you a 2 percent discount if you pay twenty days earlier than you would have otherwise, how much is the supplier implicitly charging you for a twenty-day loan? A. 0 percent B. 1 percent C. 2 percent D. This is a discount, not a loan, so there is no implied interest rate.

B. False

True or false: a high ROE is always a good thing. A. True B. False

52 days

United States Steel Corporation has a receivables collection period of thirty-three days, a days inventory of sixty-eight days, and a payables period of forty-nine days. How long is its funding gap? -14 days 52 days 84 days 150 days

ask

he lowest price that a seller is willing to sell a share for.

Difference in gross PPE btw the years

how do you find CAPEX

The conservatism principle

implies that companies should record lower estimated values of their assets and, by extension, higher estimates of their liabilities

lessons about cash

--First, cash is a better measure of economic returns relative to profits. —Second, cash earned today is more valuable than cash earned tomorrow because of the opportunity cost of capital.

B. Companies in stable, predictable industries with reliable cash flows

2. What types of companies are more likely to have high leverage? A. Companies with high growth opportunities in new industries B. Companies in stable, predictable industries with reliable cash flows C. Technology Companies D. Companies with low profitability

D. Preferred stock dividends must be in even-numbered percentages (2 percent, 4 percent, etc.).

3. In 2009, Warren Buffett invested $3 billion in Dow Chemical, via an issuance of preferred stock. Which of the following is not an advantage of preferred stock to the owner of the preferred stock? A. In the case of bankruptcy, preferred stockholders get paid before common stockholders. B. Even when common stockholders get no dividends, preferred stockholders may get dividends. C. Preferred stock is associated with ownership in the company, unlike debt. D. Preferred stock dividends must be in even-numbered percentages (2 percent, 4 percent, etc.).

Revenue/Total Assets

Asset Turnover

D. United States Steel Corporation, a steel manufacturer

BHP Billiton is one of the world's largest mining companies, and accounts receivable make up 21 percent of its total assets (in 2016). Which of the following companies is most likely to owe BHP Billiton money as part of BHP Billiton's accounts receivable? A. Bank of America, a global bank B. Mining Recruitment Agency, a recruiter for employees specialized in mining C. Sysco, a food distributor D. United States Steel Corporation, a steel manufacturer

B. Buys companies, improves them, and then sells them to another private investor or the public markets

In 1989, the private equity firm KKR was involved in a famous $31 billion deal with RJR Nabisco. What does private equity do? A. Invests in private pension funds on behalf of companies B. Buys companies, improves them, and then sells them to another private investor or the public markets C. Combines the private equity assets of thousands of investors and invests those assets in a broad portfolio of diversified assets D. Advises companies on private investors who may be interested in buying bonds from them

C. The sell side -Initial public offerings are a sale of stock. As such, they are managed by sell-side firms.

In 2012, Facebook conducted its initial public offering and sold 421 million shares to the public for the first time. Which player in the capital markets helped it sell these shares? A.Analysts B.The buy side C. The sell side D. The media

B. $400 million C. $500 million

In 2016, Pfizer invested $350 million in a new plant in China. For which of the following present values of the plant's cash flows does that decision make sense? (Choose all that apply.) A. $300 million B. $400 million C. $500 million D. All of the above

D.The principal-agent problem

In Freakonomics, authors Steven Levitt and Stephen Dubner note that professional realtors sell their own homes for 10 percent higher prices, on average, than comparable homes they sell for others. Which problem of capital markets might this be a manifestation of? A. The buy side B, Board oversight C. Herding D.The principal-agent problem

C. Leverage multiplies losses, too, as it increases a company's risk.

Increased leverage allows companies to control more assets and increase their ROE. What's bad about leverage? A. It reduces productivity, which can decrease overall ROE. B. Leverage-based profits are not cash-based and are ignored by finance. C. Leverage multiplies losses, too, as it increases a company's risk. D. There is nothing bad about leverage—using other people's money is a good way to increase the value of the company.

cost of goods sold/average inventory

Inventory Turnover

-Low Cash Conversion Cycle is good because your working capital is not tied up for long. If your working Capital increases from year 1 to year 2, it has a negative effect on the FCF because you want a smaller Working Capital -Low CCC is good, low WC is good (neg increase)

Is low CCC and low NWC good?

Free Cash Flow EBIAT + Dep +- changes in working capital - capital expenditures

It's the purest measure of cash and forms the basis of valuation. It removes the distorting effects of noncash charges such as depreciation and amortization What is the Equation:

C. A sell-side firm Most equity research analysts are employed by a sell-side firm.

Most equity research analysts are employed by (and receive their paychecks from): A. Individual households B. Industrial companies C. A sell-side firm D. The media

A. The present value of all future free cash flows from Facebook's business, after netting out cash and debt, implies a Facebook stock value of $150.

One share of Facebook stock is being traded at $150. If so, which of the following does the stock market believe to be true? A. The present value of all future free cash flows from Facebook's business, after netting out cash and debt, implies a Facebook stock value of $150. B. You can always sell a share of Facebook stock for at least $150. C. The net present value of buying one unit of Facebook stock is $150. D. The discount rate on future cash flows used to value Facebook stock is 15 percent.

net profit/revenue

Profit Margin

Net Income/Shareholder's Equity

ROE formula

net profit/total assets

Return on Assets

PP&E

Tangible, long term assets that a company uses to produce or distribute its product. (headquarters, factories, machines)

Diversified

The objective is to have a collection of stocks that do not move together and do not share the same risks.

-Paying suppliers late may erode relationships; they may become reluctant to supply products or be less willing to extend credit. If a hurricane were threatening to hit Atlanta, and everyone needed more supplies, your vendors might be more interested in working with your rivals than with you.

What are Trade Offs in Increasing Payables Period

-to reduce the days inventory is to stock less inventory; you can be certain that the store will sell out faster and you will need less financing. - if customers can't find a certain brand of paint or kind of tool in your store, they will go to your rivals and may never come back.

What are the Trade Offs in reducing Inventory Period

-You can reduce your receivables collection period by extending less credit to customers. -, those customers may need, or be used to receiving, credit from their suppliers; without it, they may prefer to buy from Home Depot's rivals.

What are the Trade Offs in reducing Receivables Period

NPV

What formula is this cash flow 0 + (cash flow/1+r) + cash flow/1+r^2

How much a company is worth as a whole Debt + Equity - Cash

What is Eneterprise Value

Producing more inventory It will decrease the FCF

What is an example that could increase Working Capital How will this impact the FCF

B.It decreases the amount of risk in your portfolio, relative to the amount of return.

What is the main benefit of diversification? A. It increases the amount of risk in your portfolio, relative to the amount of return. B.It decreases the amount of risk in your portfolio, relative to the amount of return. C. It increases the amount of risk and return for your portfolio. D. It decreases the number of stocks in your portfolio.

Net Profit + Depreciation - increases in accounts receivable - increase in inventory + Increases in unearned revenue + increases in accounts payable

What is the operating cash flow equation

Revenue—> Net Profit—> EBIT —> EBITDA —> Operating Cash Flow —> Free Cash Flow

What is the order of the shift from Revenues to Free Cash Flow

Increase in Accounts Receivables Increase in Inventory Increase in Working Capital Decrease in Accounts payable

What will have a negative effect on a firms cash flows?

Decrease in Accounts Receivables Decrease in Inventory increase in Accounts payable

What will have a positive effect on a firms cash flows?

D. Investors can't be certain if the company failed to meet its estimates because of coincidence or bad luck, or if the missed estimate is a signal that management is obscuring deeper problems.

When companies report earnings that are only a few cents below their previous estimates, why do their stock prices go down by so much? Even a few pennies can make a huge difference when multiplied over millions of shares. B. Accounting earnings are inaccurate. C. Such an earnings miss indicates the possibility of a future dilution. D. Investors can't be certain if the company failed to meet its estimates because of coincidence or bad luck, or if the missed estimate is a signal that management is obscuring deeper problems.

when you think the stock will rise in value in the future. You want to keep it for long if you think it will do good

When do you want to long something

you want to short sell something if you believe the price of a stock will decrease in value

When do you want to short something

Preferred Stock Holders

When the world goes bad, preferred stockholders get paid before common stockholders

A.Analysts will work hard to provide accurate valuations for companies. B.High-ranking analysts may "herd" by choosing valuations similar to other analysts to protect their position in the rankings. D.Low-ranked analysts may make outlandish and contrary predictions, hoping that a lucky break will propel them to the top of the rankings.

Which of the following are possible consequences of the usual compensation model and industrial structure for equity analysts? (Choose all that apply.) A.Analysts will work hard to provide accurate valuations for companies. B.High-ranking analysts may "herd" by choosing valuations similar to other analysts to protect their position in the rankings. C.Analysts will always recommend "sell" in order to gain profits from selling short. D.Low-ranked analysts may make outlandish and contrary predictions, hoping that a lucky break will propel them to the top of the rankings.

A. Subway, a fast-food restaurant company

Which of the following companies is most likely to have the highest inventory turnover? A. Subway, a fast-food restaurant company B. Books-A-Million, a bookstore chain C. Whole Foods, a grocery store D. British Airways, an airline

B. Its suppliers

Which of the following constituencies care most about a company's current ratio? A. Its stockholders B. Its suppliers C. Its competitors D. Its customers

A. What constitutes economic returns (net profit or free cash flows) B. How to value assets (historical cost or future cash flows) D. How to value equity (book value or market value)

Which of the following is a disagreement between finance and accounting? (Choose all that apply.) A. What constitutes economic returns (net profit or free cash flows) B. How to value assets (historical cost or future cash flows) C. Where to record inventory (on the income statement or on the balance sheet) D. How to value equity (book value or market value)

B.Analysts are afraid to recommend "sell" for a company's stock because that company may not do business with their employer in the future.

Which of the following is an example of a bad incentive? A. Investors want to make money so they invest in companies that are doing well. B.Analysts are afraid to recommend "sell" for a company's stock because that company may not do business with their employer in the future. C.CEOs take large risks with their companies, because a great deal of their personal wealth is tied up in stock options. D. Pension funds invest in high-quality companies because they want to take care of their retirees.

A. Gilead Sciences Inc.'s patent for the highly profitable hepatitis C treatment it developed in-house

Which of the following is least likely to be listed as an asset on a balance sheet? A. Gilead Sciences Inc.'s patent for the highly profitable hepatitis C treatment it developed in-house B. Google's corporate headquarters C. Payments owed to Ford Motor Company by dealerships for the purchase of cars D. The $42 billion in Facebook's bank accounts at year-end 2017

B. It is for all capital providers and is tax adjusted.

Which of the following is true about free cash flow? A. It is for equity providers only and is tax adjusted. B. It is for all capital providers and is tax adjusted. C. It is for equity providers only and is not tax adjusted. D. It is for all capital providers and is not tax adjusted.

B. Low receivables collection period

Which ratio is a distinguishing feature of retail companies? A. High ROE B. Low receivables collection period C. High inventory turnover D. High total debt/total assets

C. Depreciation isn't a cash expense.

Why does finance add back depreciation and amortization in its measure of economic returns? A. Depreciation is highly uncertain and should not be counted. B. Companies often overspend for assets, leading depreciation to be too high. C. Depreciation isn't a cash expense. D. Depreciation appears on the balance sheet, not the income statement.

B. $230,000 case, adding each of the cash flows yields $480,000 ($90,000 + $80,000 + $70,000 + $60,000 + $180,000). The net present value of an investment is its present value minus its cost. In this case, that equals $230,000 ($480,000 − $250,000).

You are considering starting up a Five Guys Burgers & Fries franchise, which you estimate will cost $250,000. You expect to make considerable free cash flow for the next five years, after which you will sell off the franchise for $200,000. The discounted values of those cash flows are $90,000, $80,000, $70,000, $60,000, and $180,000 (which includes the fifth-year cash flow, as well as the proceeds of the sale), respectively. Which of the following is likely to be the net present value of your investment? A. $180,000 B. $230,000 C. $480,000 D. $600,000

A. Bayer, a multinational chemical and pharmaceutical company -When constructing a hedge, you usually want to find a roughly comparable company.

You are excited about an investment opportunity in Dow Chemical, a multinational chemical corporation, because it is undervalued relative to peers. Which of the following companies should you short to better capture the potential outperformance of Dow? A. Bayer, a multinational chemical and pharmaceutical company B. British Airways, an airline C. Consolidated Edison, a power company supplying electricity to the New York City region D. Not any one particular company; you would want to diversify to gain an advantage

A. Long GM, short Ford

You are the manager of a hedge fund and believe that General Motors (GM) is going to do really well next year. Specifically, you are certain that GM is going to outperform Ford Motor Company, a rival car company, and you wish to set up a trade. Which of the following is an investment strategy that will make money if you are right? A. Long GM, short Ford B. Long GM, long Ford C. Short GM, long Ford D. Short GM, short Ford

B. Increasing sales -Increasing sales would not change the funding gap as measured in days

You oversee the purchasing department of Best Buy, the electronics and appliance retailer, and are concerned about the funding gap in your cash conversion cycle. Which of the following will not reduce the funding gap? A. Increasing the payable period B. Increasing sales C. Decreasing receivables collection period D. Decreasing days inventory

B. No, the present value is still $50 million.

Your company builds a new plant with an investment of $100 million and an expected present value from its future cash flows of $150 million. Two years later, it becomes apparent that the new product isn't selling as well as expected, and the present value of future cash flows at that point is only worth $50 million. Should the company shut down the plant? A. Yes, the net present value is now negative. B. No, the present value is still $50 million.

Market Value of Equity

only focuses on shareholder value of the company

(Current Assets - Inventory) / Current Liabilities

quick ratio formula

Working Capital If the amount of working capital is lowered, that lowers the financing needs of a corporation.

the capital that companies use to fund their day-to-day operations =Current assets - current liabilities =(Accounts receivable + Inventory)- Payable

Bid

the highest price an investor is willing to pay for a share

operating, investing, financing

what are the three statements of cash flows

-Increase the days inventory. -Increase the receivables collection period. -Decrease the payables period.

what would increase the funding gap

-Reduce the days inventory. -Reduce the receivables collection period. -Increase the payables period.

what would reduce the funding gap

Hedge Funds

which include many pension, endowment, and sovereign wealth funds as customers, have lower levels of regulation because only so-called sophisticated investors (which just translates to "rich") can buy them.