Finance Exam 2

Reduced Level Budget

decision unit manager creates this to define a predetermined % which the unit must cut the budget. This includes services considered critical/essential to the unit, and may include new or existing programs.

Private Financing Sources and Techniques

sources of private financing are unlimited in the sense that owner can use whatever money they possess. Many chose to tie financing sources to the franchise itself, rather than own finances.

Financing sources

sources of public financing can be used, but who will pay for them? A community pays little when source is a general sales tax. But, only people at events pay when source is a ticket tax.

Gifts

sport organizations receive tax-free donations/gifts. Any non-profit can set up a 501 plan to receive donations and allow donor to take a tax deduction.

Lotteries and Gaming Revenues

state-run lotteries and local gaming establishments are a creative/non-sport source of financing. Construction costs were financed through lease revenue bonds and backed by sport-themed state lottery tickets.

Efficiency principles

tax easy to understand, simple for government to collect, low in compliance costs, and difficult for taxpayers to evade. For a tax to be effective in raising tax revenues, it should be applied to products/services with low price elasticity of demand.

Allocating resources

the ranking list results in a priority order for the allocation of resources. The most important are funded, regardless if they are existing/new, and in the future, funding for lower-ranking items can be reduced.

Inflation

the sale of securities will be undercut by the increased costs of goods/services resulting from inflation. Gains must be high enough to outpace inflation and to reward the investors

Player Income Tax

those in favor of charging athletes of visiting teams income tax parallels use of non-resident taxes to fund facility. Athletes who benefit from facility should fund it.

Benefit/User Pays Principle

those who benefit from a projet ought to be the ones taxed. Ex: ticket tax satisfies the benefit principle more than cigarette tax.

Asset-backed securities (ABS)

ABS is instead of borrowing from a bank, a franchise may package guaranteed COI or expected revenue streams together, and sell bonds based on assets. This technique, called securitization , is used with financial instruments that pay interest, instead of COI's or revenue streams. COI's provide known and consistent payments, and can be securitized in this way

Risk

an investor will consider the risk involved in investment in terms of the size of the dividend payments or the expected stock appreciation. With a higher perceived risk, the required rate on equity capital will also have to be higher to entice investors.

Required Rate of Return

annual return an investor would require from a particular investment to account for the riskiness of the investment. An investor requires a return of at least a certain amount which depends on:

Current Expenditure

are short term and written off during the same year the expense occurred.

Public Financing Sources and Techniques

as the costs of facilities increases, the sources beyond general funding of a city/county/state have been used to pay for them. Other financing sources include:

Price of equity:

borrower must pay lender interest in order to borrow $. Price of obtaining capital by issuing stock in form of dividends and loss of equity by the company's owners.

Base Budget

created at the decision unit and contains expenditure levels necessary to maintain last year's service level at next year's prices. Manager increases existing budget by the rate of inflation.

Secured claim

debt for which the borrower provided collateral, an asset the creditor can seize if debt is not paid. When liquidated, the assets are divided according to priority of claims. Secured claims are first priority. Ex: a bank can take a house and sell it if mortgage isn't paid.

Decision Packages

decision unit manager creates a decision package of specific additions to the reduced-level budget, ranked in priority order.

Shares:

issue stock of the company in exchange for money. Buyers of shares own some % of the company and will be entitled to a portion of dividends company may pay out. - Dividends -> periodic payments made to shareholders of a company as a way of distributing profits.

Sin Taxes

items taxed are considered socially undesirable. People with low incomes tend to spend high proportion of income on cigarettes/alcohol, relative to people with high incomes.

Sale of Government Assets

local/regional/state governments own a lot of land and determine best use for private industry. Some facilities are partially financed through government sale of land, with proceeds as a source of funds. Land is an indirect source of financing.

Forecasting

prediction and quantification of future events for the purpose of budgeting. A forecast is simply a prediction, whereas a plan defines actions to be taken. A forecast relates to events in the environment. if A is adopted, then X is most likely to occur, if B is adopted, then Y is most likely to occur. - The individuals who complete a budget will determine the forecasting tasks to be done. Forecasting is concerned with what the future ​will​ look like, a budget is concerned with what is ​should​ look like.

Historical Phases of Facility Financing, Public vs. Private Funding

private -> financing that doesn't use public dollars. Public -> use of public funds to finance a project.

Private Financing

private investors may not be willing to build places that lure high-profile events because a lot of revenue will flow to businesses outside the building.

Capital Budget:

process of evaluating, comparing, and selecting capital projects to achieve the best return on investment over time. Investment decision making that justifies capital expenditures. Important in success/failure of an organization since investments in capital (fixed) assets affect financial health of the organization.

Advantages and disadvantages to prioritizing

process of setting priorities provides significant accountability to administrators, coaches, and staff who develop the criteria. In cases where revenues are decreasing, the lowest-ranked priorities may be eliminated, and conflicts/resistance should be less than under other budgeting systems. This has more paperwork, requires preparation time, managers tend to inflate activities they wanted funded, and the outcome may not differ much from with incremental budgeting.

Loans :

provided by financial intermediaries like banks/insurance companies. They operate similar to bonds, except they are not originated through a publicly traded market. Key aspects include its maturity, interest rate, and any prepayment provisions. Recently, lenders have begun to combine loans into packages and buy/sell them to other financial companies. This enables lenders to diversify their holdings by selling off some loans and purchasing others.

Budget

quantifies planned revenues and expenses for a period of time. It includes planned changes to assets, liabilities, and cash flows. - Budgets are prepared in advance of the time period they cover.

Production Opportunities :

reasons the company needs the money in the first place is a factor in the return on equity capital, or the combination of dividend payments/capital gains offered by the investment. - The quality of the new product offering/geographic expansion affects the financial return from the project. - If a company believes it can create large returns from the project once it receives the equity capital, it may be willing to pay high returns on that capital. - Final expected return on equity capital-> result of a balance between the supply of possible investments and the demand to invest in the projects.

Management of future revenue streams

revenue streams must be initiated/managed. Sale of naming rights -> right to place firm's name on facility, is helpful to financing and completion of facility. Policy makers determine who will pay costs of selling those rights. Cities have opted to exit stadium management and allow team to pay to manage facility.

Trade Credit :

short-term financing often takes the form of trade credit rather than a loan. This credit is granted by a manufacturer to a retailer. After the manufacturer ships its product to the retailer for sale, the retailer may delay payment for a period of time depending on the terms. The manufacturer is providing the retailer short-term financing for purchasing from them. This is in the best interest of the manufacturer to help their retailers remain solvent. In the U.S., the size of trade credit is only a few % points less than the amount commercial banks lend to businesses.

Payback Period Method:

# of years required to recover a capital investment. For any project to be accepted in a capital budget, the project's payback period must be less than the maximum acceptable payback period set by the organization. - Single-Project Payback Period Calculation -> 1. List expected cash flows 2. Add yearly incremental cash flows to initial cost of project to determine approximate time needed to recover from project's costs. 3. Divide amount of the last negative cumulative return by the incremental cash flow of the year the cumulative return is positive to get the payback date. - 2-Project Payback Period Calculation -> when choosing between 2 projects, we must compare their cash flows. Any project must meet the max. payback period requirement, but a shorter payback period is preferred. - Advantages/Disadvantages -> easiest to use, and few calculations are needed to determine how long it will take to recover the initial investment. But, ignores TVM and fails to take into account cost of capital.

Price Elasticity of Demand (PED)

% decrease in the # of units sold compared to the % increase in price of product. A product with high PED sees a substantial decrease in quantity sold if a tax were imposed, which would offset much of the proposed tax gain.

Disadvantages of Publicly Traded Equity Financing :

- Cost of issuing stock is substantial, up 10-20% on value of company, depending on size. - Time required for preparations to go public are a burden on operations of a company. - If time is not ripe to go public, IPO may be postponed/halted. - Lack of operating confidentiality is why a lot of teams/leagues are not publicly traded. - Most publicly traded companies' original owners don't own 50% + of the business. - Public ownership reduces organization's strategic flexibility. BoD must approve all major decisions, and Wall Street expects income growth. - Conforming to SEC's accounting/tax requirements is expensive, more than requirements of a private company. - Financial strategy of IPO's want to ensure an initial upward movement, and the positive publicity/momentum that come with it.

Elements of MZBB

- Fixed​: do not vary with volume. - Variable:​ change with volume. Ex: arena has people come even if there is little attendance. - Mixed​: possess both fixed and variable elements. Ex: an arena has repairs/maintenance and utilities. - Step​: constant within a range of use but differ between ranges of use. Ex: cost of security fixed under contract, but attendance may vary per game.

Historical Phases of Facility Financing,

- Phase 1: Construction was 100% privately financed. 5/27 facilities built before WWII were publically funded. - Phase 2: After WWII, 57 sport facilities were built to hold many teams. An increase in construction cost and $ the public was willing to pay. Public $ covered 83% of the cost. - Phase 3 : 90 new facilities were built over 20 years. Usually have 1 tenant. Between 2000-10, 51 facilities totaled $21 billion with $12 billion being public $. Even though the shares by the public decreased, the amount in nominal terms has increased because of increases in stadium construction cost.

Advantages of Publicly Traded Equity Financing

- Provides access to capital, financing that doesn't require interest, or repayment of principal. - Once a company becomes publicly traded, it is easier to issue another round of stock or issue corporate bonds. - It is easier for owners to carry out an exit strategy. Publicly traded allows an owner to exit the business with relative ease. In the initial public offering (IPO) , a company offers shares to the public for the first time in order to generate cash. A secondary offering is when a publicly traded company offers share for sale to the public, but it doesn't generate cash for the business if it consists solely of an owner's shares because the cash goes to the stock owner. - Free publicity generated by initial public offering process and coverage of company's financials. - Ability to attract/retain key employees. - Increases equity in the company, allowing it to issue debt if the need arises. - Mergers/acquisitions are easily arranged because value is readily determined.

Debt:

2 major sources of debt financing corporate bonds and loans.

Trade-offs of Equity Financing :

Britain has publicly traded soccer teams. A main reason for selling equity is to raise capital in order to improve stadiums. Securing funds by selling shares to the public has allowed some teams to pursue other ventures like running a chain of pubs, selling apparel, and leisure products. North American teams prohibit publicly traded franchises, requiring owners to approve any transfer of ownership.

Government Funding:

Direct Financing -> local, regional, state, and federal governments provide funding directly to sport organizations. State governments finance costs of intercollegiate athletics, intramurals, and recreation at public universities through state annual budgets. - Indirect Financing -> provision of land/cheap lease for stadiums allows organization to use cash on hand for other things

top-down management style

Funds are first allocated to departments/managers, then an incremental budget develops and only the incremental change in the budget request is reviewed.

Steps of Modified Zero Based Budgeting

Identify expenses 2. Allocate fixed/mixed expenses (some may be periodic expenses) 3. Once allocated expenses, identify fixed expenses that could be eliminated 4. Average the mixed expenses to determine the average amount spent per month over last 6-9 months 5. Address/prioritize the variable expenses 6. Variable expenses must be offset against anticipated revenues - Advantages/Disadvantages-​> focuses on the portion of budget that has flexibility rather than whole thing. Fixed/mixed costs can't be eliminated if a service is to be offered, but variable expenses can be reduced/increased when wanted.

Best Practices in Budgeting

Make budgeting procedures part of strategic planning. - Get agreements before spending time on preparing budgets. - Set up budget so that it can change quickly and easily.

Process of Capital Budget:

Most methods used to complete a capital budget include the evaluation of cash flow risk, and the determination of an appropriate discount rate for use in analysis of project. In the case of a capital budget, a discount rate -> required rate of return to justify an investment is used. After discount rate is calculated, the asset's value to an organization is estimated on a present value basis, and the PV of expected cash inflows is compared to the cost of project. If the PV exceeds cost, the project should be accepted and included in budget. If 2+ projects do this, managers pick the one that contributes more to organization's net income. - Determine Initial Cost of Project -> initial cost -> actual cost of starting the project, adjusted for any installation, delivery, or packing costs, discounts to initial price, sale of existing equipment, and taxes. - Determine Incremental Cash Flow of Project -> after finding the initial cost, we compute its incremental cash flow -> cash flow created through the implementation of a new project. Consists of any cash flow from the project that is greater than the cash flow that currently exists. 1. Calculate additional net earnings from new project 2. Calculate additional tax benefit of the depreciation on new fixed asset 3. Calculate incremental cash flow by using results from 1 and 2 - Select Capital Budgeting Method -> once the initial cost and incremental cash flows are calculated, we can complete the capital budgeting process by using average rate of return, payback period, discounted payback period, net value, internal rate of return, etc. Each method has advantages/disadvantages, but NPV is used the most by managers. - Conduct Post-Audit Analysis -> compare a project's actual results with the predicted results and attempt to explain any differences. Allows managers to make improvements to firm's forecasting techniques. - Complications: due to uncertainty in forecasting cash flows, a % of projects undertaken will not meet firm's expectations. Projects often fail to meet expectations for reasons beyond firm's control. It is hard to separate the operating results of one investment, like new grass/turf, from those of a larger system, like a stadium.

Strategic Planning Horizon

Planning for this time period focuses on the long-term aspirations of the sport organization and management.

Guidelines for forecasting

Relies on observing past relationships and making predictions from history. - Developing several forecasts under different potential scenarios. A ​sensitivity analysis​ is assigning a probability to each scenario - Longer planning periods tend to produce less accurate forecasts.

Discounted Payback Period Method:

Similar to payback period, but it factors TVM concepts into the calculation by discounting the expected cash flows at the project's initial cost of capital. We use this to determine the # of years necessary to recover the initial cost of a project by using discounted cash flows (DCF). - Single-project discounted payback period calculation -> if the discounted payback period is greater than the firm's maximum payback period, the project won't be included in the capital budget. By comparing the discounted period to non-discounted period, we can see the effect of TVM and its effect on time needed. - 2-project discounted payback period calculation -> when choosing between projects, we compare their cash flows. The project with the shorter discounted payback period should be selected for inclusion in capital budget. - Advantages/Disadvantages -> incorporates TVM in calculations, but doesn't consider the cash flows beyond the discounted payback period.

Payment terms

Some facilities are paid for with a current increase in sales tax, whose revenues are paid off within a few years.

Reasons for Building new Sport Facilities

Teams and Owners -> a new facility can generate substantial increases in revenue from tickets, concessions, sponsorship, merchandise, PSLs, suites, etc. A new facility can reduce the effect of winning on franchise revenues, fans care mostly about the experience of going to a game. A team wants to improve their on field performance by being in a new stadium. A franchise's incentive to build a new stadium is enhanced if it can get partial financing from local, regional, and state government. - Leagues -> leagues desire new construction because all members benefit through revenue sharing of increased ticket sales. - Fans -> gain from new facilities with enhanced offerings like restrooms, and food. Although, ticket prices increase, and more fans attend games. Cities and Geographic Regions : cities and residents may/may not be better off with a new stadium, depending on the cost to the city. Investing public money in new sport facilities provide economic impact to community, increase national awareness of city, generate civil pride, generate political capital, and provide quality-of-life services similar to parks/museums. - Positive Externalities -> generally, businesses pay for own offices/facilities without government subsidies, but for large projects, a company might make competition for the project between political jurisdictions. Positive externalities help governments justify public investment in private industry. Positive externalities -> benefits produced by an event that aren't captured by the event owner/sport facility. In sport, local businesses like restaurants, bars, retail stores, and hotels benefit by having sporting events in town. - Public good -> good that is non-rival/non-excludable, meaning consumption by one customer doesn't prevent another customer from consuming it, and team can't prevent someone from enjoying the good. Ex: a team can't charge local restaurants for the increase in customer traffic due to an event. - Psychic Impact- > team can't charge residents for being happy about the local team. - Controversy regarding benefits to political jurisdictions -> those who gain the most from construction of new facility aren't always those who pay for the construction/upkeep, and many benefits discussed, may not materialize sufficiently to justify the expense. - Franchise free agency -> threat of relocation to another city motivates city to help build facility for team. A league has control over the # of franchises meaning it can prevent a city from hosting a team even if the city wants to. Residents don't want to see their team move to another city, so are willing to pay to keep them.

incremental budgeting (Budgeting Approach)

a form of line-item budgeting often called the object of expenditure budget which was the earliest type of budgeting format used in private, public, and non-profit organizations.

Infrastructure Improvements:

accommodations for new facilities (highway exits, road expansions, parking lots, sewer and electrical systems) and are paid for by local/state governments. Costs are rarely included in the overall cost of financing a facility.

Historical Analysis of Construction Costs

according to construction cost index (CCI) , a measure of inflation in construction industry, prices rose 40% annually from 1977-2014. CCI is used to adjust stadium construction costs for inflation in order to compare all stadiums in real $. In nominal terms, costs of old stadiums were a fraction of the cost of new ones. In terms of real cost, old stadiums were about 1/2 as expensive as new ones. Stadiums are much higher quality than they used to be having amenities, so quality-adjusted cost may be lower than the past. The amount of public $ being spent on facilities has fallen since 1977. - Stadiums vs. Arenas-> stadiums are more expensive overall. Arenas are less expensive to build and attracts more events, so private financing is feasible. - Calculations of stadium construction costs typically don't include the cost of land acquisition/foregone taxes. Public stadium financing involves donating land/foregoing taxes (sales/property taxes). Lease arrangements with teams became beneficial to team owners than in the past, allowing owners to receive all forms of revenue from stadium, and city collecting small annual rent for use.

Land Donations:

actual cost to political jurisdiction includes opportunity cost -> lost opportunity to do something else with land, like sell to private entity at a market price. Most stadium financing plans have forms of opportunity cost, but is rarely mentioned as part of total cost of facility.

Calculating value of a bond :

after purchasing a bond, an investor can either hold it and receive the interest payments plus principal upon maturity, or sell the bond and get its price at that time. To find the value of an asset, you calculate present value of its future payment streams at some discounted rate. The present value of a bond is the price that a buyer would pay for it prior to mature. On the day of maturity, a buyer would pay the principal amount since that is what the bond holder will collect on that day. The present value= sum of the present values of interest payments + present value of the principal payment which is due at maturity years in the future

Stocks

all-for-profit businesses have equity ownership. Common stock is held by the owners of a company. State and federal laws govern the rights/privileges of ownership, but ownership implies control. Shareholders, or a BoD, selects executives/management to supervise. Typically, BoD own shares and are granted options to buy shares to align with the stockholders interests.

Call Provisions and Premiums:

allows borrower to pay the bond off earlier than scheduled. A minimum period called the call protection period guarantees lender of interest payments. After protection period, the borrower can pay off bonds by repaying the principal plus a call premium.

Budgets within Budgets:

budgets track an organization's revenue, expenses, cash, and capital expenditures. They're important planning tools an organization uses. They show the impact a budget will have on future organizational revenues, expenses, cash flows, and capital expenditures.

Calculating Public Payments for Stadium Financing :

calculate annual payment for a GOB so public officials/residents will understand the annual cost. Annual payments are constant, but a portion of it goes towards paying principal increases until the final year, where project is paid.

Net present value method:

capital budgeting method managers generally prefer for evaluating a single project or comparing 2+. NPV -> discounted cash flow method which the PV of a project's future cash flows is compared to the project's initial cost. Projects are accepted if NPV is +. 1. Calculate the PV of cash flows for each year 2. Process is same for calculating discounted payback period 3. Sum the discounted cash flows (present values) to get NPV a. If NPV is +, the project should be accepted b. If NPV is less than initial cost, project should be rejected - 2-project NPV Calculation -> the NPV for each is the sum of the discounted cash flows. This will be the same as the final cumulative cash flow figure. If both are negative, none are accepted, if both are positive, choose one with higher NPV. - Single-project NPV Calculation -> the criterion for acceptance in capital budget is the NPV must be equal to or greater than zero. If it has a positive NPV, it will generate cash above its debt service and provides the required rate of return and excess cash accrued to shareholders. - Advantages/Disadvantages -> method analyzes cash flows rather than net earnings, it considers TVM, and discounting cash flows by the project's cost of capital. It identifies projects with a + NPV which will increase the firm's value, and the owner will get $. But, it requires a detailed prediction of the project's future cash flows, and assumes the discount rate will remain the same over the useful life of project.

Reallocation of Existing Budget ->

cities have funded facilities through existing budgets, by reallocating budget $ or assuming new incremental revenues from a source. Method is uncommon because public isn't willing to reduce funding for government programs for facilities.

Public/Private Partnerships

co-production of a sport facility with goal of producing surplus value that wouldn't be produced by either partner working alone. Private entity might have difficulty improving ingress/egress for facility without government cooperation. Government entity isn't in a position to maximize revenues within a facility. Trend in funding facilities appears to be drifting away from tax increases. The users/beneficiaries who frequent to district fund the facility over time through their use of the district. - Public officials are looking for alternative sources of capital like taxes, generated directly from the facility, taxes generated from redevelopment surrounding facility, and special assessments in a uniquely identified sports/entertainment district.

Vertical equity

concerned with taxpayer's ability to pay, calling for a tax that doesn't cause poorer people to bear a disproportionate share.

Time Preferences for Consumption

consumers/businesses considering investment will base their decision on their time preferences for consumption. Those with a high preference for consuming will require a higher return on equity capital than those with a low preference.

Keys to Successful Budgeting

depends on involvement of entire organization in planning and implementation. A budget must also be sustainable, they must be readily adaptable to changes. - Input from entire organization-> input from each department is vital to drawing up a budget that realistically reflects revenue and expenses from each. - Means of sharing the budget across the organization-> to share budget with whole organization, user-friendly software is indispensable.

Public Financing Principles

determine financing sources that are appropriate for a project. -Equity principles -Efficiency principles

Planning

establishment of objectives and the formulation, evaluation, and selection of the policies, strategies, tactics, and actions required to achieve those objectives. This process produces a plan that provides info for the forecasting process.

Tax Abatements:

exempt the beneficiary from paying certain taxes like property/sales. Local government helping to finance the stadium by NOT charging franchise taxes that would have been paid by alternative user of space. Most facilities are publicly owned and leased to the team that plays there, which exempts team from paying property taxes.

Revenues from Tickets and Parking

facility financiers are turn to ticket taxes/parking revenues to pay for construction/maintenance to satisfy benefit principle. Parking/surcharges function the same as ticket taxes.

Responsibility for cost overturns

final actual cost of a stadium exceeds expected cost. Policy makers determine in advance who is responsible for cost overruns.

Bonds

financial mechanism that organizations use to raise capital through debt. A bond is a promise to pay back borrowed money plus interest to the investor who has purchased it. The face value of a bond-> amount of principal that the bond will be worth at maturity. The sale price may be higher/lower than the face value depending on risks. A bond's coupon rate -> rate an organization is paying for use of money, equivalent of an interest rate. A bond doesn't provide the investor any ownership privileges like stock does.

Retained Earnings:

firm uses cash on hand/retained earnings to finance large project.

Ranking the Decision Package

forces prioritization. When revenue may be insufficient to meet demand for spending, it is useful for the organization to have a ranking of sports, programs, and activities based on their effectiveness, as well as potential alternatives to expensive/ineffective programs.

Revenue budget:

forecast of revenues based on projections of the organization's sales.

Cash budget:

forecasts how much cash an organization will have on hand and how much it will need to meet expenses. Budget can reveal potential shortages/availability of surplus cash for short-term investments

Incremental Budget (Budgeting Approach)

form of line-item budgeting in which next year's budget is the result of either decreasing/increasing last year's budget for each line item by the same %. Based on projected changes in operations and conditions.

Revenue Bonds

form of public financing paid off solely from specific, well-defined sources like hotel/ticket taxes, and other sources of public funding. If the source of funding doesn't meet expectations, bonds won't be paid off in full. Compared to GOB's, interest rates are higher, and debt service reserve is necessary. Revenue bonds require debt service coverage payment, or annual payment into escrow account in case of risk of shortfalls in revenue sources backed by debt. Total cost of revenue bonds is higher than GOB's because added risk. Advantage of funding from narrower source than GOB's. These bonds are tailored to satisfy benefit principle.

Expense budget:

found in all units within a firm and in nonprofit/profit making organizations. The expense budget for each unit lists its primary activities and allocates money to each. Fixed/semi-fixed expenses remain unchanged regardless of volume.

Goals of Public vs. Private Parties

franchises are concerned with league restrictions, site/design control, facility control/management, revenue control, and cash flow. Leagues restrict debt ratio a team may establish. Financing goals of teams/owners are to maximize contractually obligated income, minimize debt service payments, and coverage requirements. Team owners want to maximize COI, even if they're paying a minority of construction cost. Owner will advocate a higher total cost in order to provide better amenities and generate better contractors for seating than the government counterpart will offer. - Financing goals of government are to maximize credit quality of pledged revenues, . Governments that oversee facilities care about resource allocation, amount of public financing required, impact on the government's borrowing credit, government's share in upside of the facility, and possibility the team might relocate if the facility is not built.

Bankruptcy:

if a company is unable to pay its debts/restructure it, it is insolvent. A company must enter bankruptcy, the process of liquidation/reorganization of an insolvent firm. A court will either order liquidation of the company, the sale of its assets removing the company from existence, or will allow the company to reorganize to make it more valuable than if it were liquidated.

Budget Preparation

in any organization, each department submits an annual budget recommendation, which is incorporated into the organization's annual operating budget. The budget formulation process defines financial objectives, and establishes goals for achieving objectives

budget time horizon

in the immediate future which can be predicted with a reasonable degree of certainty on the basis of past business decisions and commitments. Generally considered for 12 month time span.

Horizontal equity

individuals with similar incomes should pay similar amounts of tax.

Rating a Bond:

intended to convey likelihood that payments will be made in full and the borrower will not default. Default risk -> risk a borrower will not pay back the principal of a debt plus interest. Analysts arrive at ratings by studying the financial performance of the corporation like a company's earnings stability, environment, potential product liability, and similar issues.

Capital expenditure budgets

investments in real estate, stadiums, arenas, buildings, and equipment are called capital expenditures which are substantial in terms of duration and magnitude. This justifies the development of separate budgets for each of these expenditures. This budget allows management to forecast capital requirements to keep on top of important capital projects, and to ensure that adequate cash will be available to meet expenses before they're due.

Returns:

investors make money by receiving an annual/periodic payment called the annual coupon interest payment -> a periodic return from owning the bond and is analogous to a dividend payment. The investor may earn capital gain upon selling the bond, only if it is sold prior to maturity. - C urrent yield -> amount the investor earns annually from the interest payment, compared to the price of the bond. Expressed as a %. - Capital gains yield -> annualized % change in price of the bond relative to its current price. The sale of a bond might decrease in discount rate due to lowered inflation expectations. - Total expected return-> when we combine the 2 ways to make money from a bond. The term yield to maturity (YTM) is used for the total annualized return from owning a specific bond. It is the same as the total expected return.

Contractually Obligated Income (COI)

is a revenue stream that team receives under multi-year contracts. Others include multi-year rights sold to concessions, naming rights, and sponsorship. These revenue sources serve as collateral for loans.

Certificates of Participation- COP

is an instrument that a government agency or non-profit corporation is setup to build a facility that will sell to 1+ financial institutions to obtain initial capital for construction. The agency or non-profit will lease facility either directly to tenant or to facility operator and use lease payments to pay off the COP. Riskier than GOBs since they are backed by lease payments, but don't require public vote. They're used because they circumvent direct decision-making by voters.

State Appropriations

many facilities receive funding from state government and residents may be hesitant to back a project if they know $ is coming in from the state.

Equity principles

measure of fairness -vertical equity -horizontal equity -benefit/user pays principle

Changes in Financing Methods

methods of financing stadiums has changed over 3 phases.Pre-WWII had facilities privately financed. After war, 2nd wave saw growth of public $. These financing methods included general obligation bonds (GOBS) -> lasted for 20+ years with debt and interest payments paid each year directly out of the general funds of local governments. General fund is a pool of $ that government collected via taxes, and uses to pay for government programs except those that required separate funding. 3rd wave ushered a constantly changing array of complex/creative financing methods. Initially public $ came from sales/property taxes and rent $, but funds came from hotel/car rental and other taxes. Private sources of financing came from capitalization of revenue streams from the facility and borrowing against those to pay for construction. - In 1970s, the U.S. had a tax revolt with a push towards privatization of public services. The private industry had to share the cost of providing services that public used to provide through tax system. Deficit Reduction Act of 1984 prevented tax-exempt bonds from being used to fund sport facilities where one organization would be responsible for 10%+ revenues. A facility that hosted events but didn't have a major tenant could use tax-exempt bonds since the facility would be deemed a public use facility.

General Obligation Bonds

most common method of facility financing, besides general fund. Spread cost of facility over 20-30 years. General obligation refers to the issuer with a commitment to repay the principal plus interest through whatever means necessary. Risks of purchasing GOB's for investment are lower than risk of all other bonds. Interest rates are lower, allowing for smaller debt payments. A disadvantage is their use may limit the amount of other bonds that the city/county/state can use for schools/bridges/etc. An advantage is they are generally tax exempt, so buyer doesn't have to pay taxes on earnings from these bonds. - Satisfying the 3 equity principles: doesn't satisfy benefit principle because everyone in a given jurisdiction pays for the facility, not just those who benefit. GOB's satisfy efficiency principle because they aren't burdensome/difficult to understand, and can't be easily avoided. They may/may not satisfy horizontal/vertical equity principles depending on whether largest sources of funding for general fund follow those principles.

Sales Tax

most common source of public financing for sport facilities. Method is to issue government bonds and pay them through an increase in sales tax. The payment period is longer, but the cost each year is lower than with "pay as you go." Small increases in sales tax don't impose burdens on any person, so opposition is less likely. Another method is to fund a facility through sales tax limited to those collected from facility itself, or from a district in vicinity.

Indirect Sources of Public Financing ->

non-cash sources/exemptions from payments like property/sale taxes.

Fair Share (Budgeting Approach)

not one sport program/department is increased/cut at a different level from others.

Decision Units

parts of the organization where budget decisions are made.

Budget Planning Horizon

period which forecasts can be made with a reasonable degree of confidence, generally 3-5 years. Individuals making budgets gather data to produce short-term and long-term budgets for these 2 time periods.

Changes in stock prices :

person thinks stock is more valuable than what owner paid, so it increases. People have different ideas for how big/small future dividends are.

Tax Increment Financing and Property Taxes (TIF)

taxes generated from a certain source finance the facility, and those incremental tax revenues wouldn't exist without the facility. Only additional tax revenues are used to pay facility costs. TIF's main objective is to generate some incremental tax revenues and not use public revenues for financing. After facility is built, any increases in tax revenues are used to pay off tax increment bond. TIF bonds are riskier than GOB's because if the area doesn't witness increased tax revenues, the TIF bond may fail.

Tourism and Food and Beverage Taxes

taxes on hotels, rental cars, and food/drinks. Visitors to the area help finance stadium, not residents. Drawback is the # of tourists visiting the area might decrease if it gets too expensive. These taxes fail the benefit principle because tourists aren't necessarily users of facilities, and they don't fulfill sense of vertical equity. People with higher incomes spend more on food/drinks outside home, and pay larger share of taxes than people with lower incomes.

Line Item Spending (Budgeting Approach)

technique which line items are the main focus of analysis, authorization, and control. Typical items are supplies, personnel, travel, and operational expenditures.

Internal rate of return: IRR

term for discount rate which the PV of estimated cash flows from an investment is equal to the initial cost of the investment. IRR is the discount rate which the NPV=zero. Is widely used in business, and important for managers to know how to calculate. IRR is a measure of a project's rate of profitability. A project with an IRR greater than its cost of capital should be accepted into capital budget. When IRR exceeds the cost of capital, a surplus accrues to the stockholders. - Calculating IRR with constant cash flows -> if cash flows are constant over the useful life of a project, we don't need a calculator and divide the initial cost of the project by its annual cash flow which gets the PV interest factor of an annuity (PVIFA), and we look up this in the appendix. - Calculating IRR with irregular cash flows- > when cash flows are not constant, we can find IRR by trial and error with the formula. - Comparing IRR to NPV -> when a project is being considered on its own merits, the NPV and IRR methods give the same accept/reject decision. However, when we are analyzing 2+ projects, the results of the methods may conflict, even if both projects have positive NPVs and IRRs greater than their cost of capital. - Ex: if project A of NPV is accepted and project B of IRR is accepted, it can occur in 2 circumstances: the projects differ greatly in financial size, and the projects differ greatly in timing of cash flows. It's known when conflicts arise, NPV is used.

Equity

the exchange of capital for an ownership stake in a company. Shares Retained Earnings Government Funding

Capital Expenditure

use of funds to acquire capital assets that will help the organization earn future revenues/reduce future costs. Several different sources of debt/equity financing will be used to fund a capital project. The cost to obtain capital assets is the weighted average of the cost of each of the funding sources, the weighted average cost of capital (WACC) . Common/preferred stocks, bonds, and other long-term debt are included in the calculation of a project's WACC.

Utility and Business License Taxes

utility taxes are state/local taxes on energy consumed,which are collected along with customers' utility payments. General business taxes include state/local corporate income taxes and sales and use taxes collected from business. - City of Memphis, Memphis Light, Gas, and Water provides payments in lieu of taxes (PILOT) meaning the city is using payments it receives from MLGW to pay for stadium. PILOT financing is common when land for a stadium doesn't generate property taxes because it is owned by the government.

Calculating stock values :

value of share of stock is equal to the present value of expected dividend stream. - 1/(1+i)^n - Perpetual growth rate-> expected annual growth rate in dividend payment beyond the years forecasted in perpetuity.

Lease Revenue Bonds

version of revenue bonds which revenue stream backing the payment of bonds is a lease. As stadiums generate more revenues through better amenities, financing through lease revenue bonds has become more common. Partnership between public/private sectors create synergies, public entity can have low interest rate bond, and private entity can generate funding for bond's payment because of demand for sport team.

Modified Internal Rate of Return :

when a project has a large cash flow sometime during/at the end of its useful life, in addition to the cash outflow at the beginning, it's said to have non-normal cash flows. For a project with non-normal cash flows, IRR may not be usable as a method since multiple IRRs may exist. For projects with non-normal cash flows, we recommend MIRR to find the rate of return. MIRR -> discount rate where the PV of project's cost is equal to the PV of the project's terminal value. Terminal value -> FV of the cash inflows compounded at the project's cost of capital. When PV of cost = PV of terminal value, we get the formula. - In the equation, the first/second terms give the PV of cash outflows when discounted at the cost of capital. In the right term, the numerator is the compounded value of the inflows (terminal value), with the assumption that the cash inflows are reinvested at the cost of capital. - MIRR assumes that cash inflows are reinvested at the cost of capital rather than at the project's IRR makes MIRR a better predictor for profitability. It provides a better estimate of a project's rate of return, and it overcomes multiple problems that arise with IRR when cash flows are non-normal. MIRR gives the same project selection decision as the NPV and IRR methods when we are considering 2 mutually exclusive projects of equal size, and with the same expected useful life.

Modified Zero Based Budgeting

​MZBB​ has spending levels matched with services to be performed. A great deal of effort can be devoted to documenting personnel and expense requirements that are readily accepted as necessary like travel/utilities/staff expenses.

Program Planning budgeting system

​PPBS​ is a method used to develop a ​program budget​ which focuses on outputs/goals & objectives an organization hopes to achieve. The emphasis is on organizational effectiveness, not spending. - PPBS integrates planning and budgeting process techniques for identifying and assigning resources, establishing priorities/strategies, and forecasting cost, expenditures, and achievements in the immediate financial year or longer.

Zero Based Budgeting

​ZBB​ is a budgeting approach and financial management strategy to help decision makers achieve more cost-effective delivery of goods/services. Forces an organization to remain competitive in a rapidly changing set of market conditions. Thought to be best achieved by having managers constantly asking why they are doing what they are doing and whether they should be using their resources for something else. ZBB requires building a budget from a "zero base", so they budget is not based on last year's and starts over on a clean slate every year. - 4 requirements-> each budget period starts fresh budgets are zero unless managers make the case for resources, every activity is questioned as if it were new, and each plan of action has to be justified in terms of total expected cost and benefit.