GEB1101:M2-C16: Mastering Financial Management

An invoice in the amount of $200 carries cash terms of "2/10, net 30." If the buyer takes advantage of the discount terms, how much will the buyer pay? $100 $120 $140 $160 $196

$196

certificate of deposit (CD)

A document stating that the bank will pay the depositor a guaranteed interest rate on money left on deposit for a specified period of time

Summarize the process of planning for financial management.

A financial plan begins with an organization's goals and objectives. Next, a firm's goals and objectives are "translated" into departmental budgets that detail expected income and expenses. From these budgets, which may be combined into an overall cash budget, the financial manager determines what funding will be needed and where it may be obtained. Whereas departmental and cash budgets emphasize short-term financing needs, a capital budget can be used to estimate a firm's expenditures for major assets and its long-term financing needs. The four principal sources of financing are sales revenues, equity capital, debt capital, and proceeds from the sale of assets. Once the needed funds have been obtained, the financial manager is responsible for monitoring and evaluating the firm's financial activities.

Identify the services provided by banks and financial institutions for their business customers.

Banks and other financial institutions offer today's business customers a tempting array of services. Among the most important and attractive banking services are savings accounts and certificates of deposit, checking accounts, short- and long-term loans, and credit-card and debit-card processing. Increased use of electronic funds transfer systems (automated teller machines, automated clearinghouse systems, point-of-sale terminals, and electronic check conversion) also will change the way that business firms bank and conduct typical business transactions. For firms in the global marketplace, a bank can provide letters of credit and banker's acceptances that will reduce the risk of nonpayment for sellers. Banks and financial institutions also can provide currency exchange to reduce payment problems for import or export transactions

A budget is a historical record of the previous year's financial activities.

False

A capital budget estimates a firm's expenditures for labor costs and other monthly expenses.

False

The usual face value for most corporate bonds is .

False

When you use a debit card to make a purchase, a financial institution is extending credit to you and expects to be paid in the future.

False

With a banker's acceptance, certain conditions, such as delivery of the merchandise, may be specified before payment is made.

False

Understand why financial management is important in today's uncertain economy.

Financial management consists of all activities concerned with obtaining money and using it effectively. Financial management can be viewed as a two-sided problem. On one side, the uses of funds often dictate the type or types of financing needed by a business. On the other side, the activities a business can undertake are determined by the types of financing available. Financial managers must ensure that funds are available when needed, that they are obtained at the lowest possible cost, and that they are used as efficiently as possible. In the wake of the economic crisis, the Dodd-Frank Wall Street Reform and Consumer Protection Act was signed into law. And today, there is an ongoing debate if more regulations are needed. Still, there are a number of rewarding jobs in finance for qualified job applicants.

Evaluate the advantages and disadvantages of long-term debt financing.

For a small business, debt financing is generally limited to loans. Large corporations have the additional option of issuing corporate bonds. Regardless of whether the business is small or large, it can take advantage of financial leverage. Financial leverage is the use of borrowed funds to increase the return on owners' equity. The rate of interest for long-term loans usually depends on the financial status of the borrower, the reason for borrowing, and the kind of collateral pledged to back up the loan. Long-term business loans are normally repaid in 3 to 7 years but can be as long as 15 to 20 years. Money realized from the sale of corporate bonds must be repaid when the bonds mature. In addition, the corporation must pay interest on that money from the time the bonds are sold until maturity. The interest rate the corporation must pay often depends on the financial health of the firm issuing bonds. Maturity dates for bonds generally range from 10 to 30 years after the date of issue. Three types of bonds—debentures, mortgage bonds, and convertible bonds—are sold to raise debt capital. When comparing the cost of long-term financing, the ongoing costs of using stock (equity) to finance a business are low. The most expensive is a long-term loan (debt).

Describe the advantages and disadvantages of different methods of short-term debt financing.

Most short-term financing is unsecured; that is, no collateral is required. Sources of unsecured short-term financing include trade credit, promissory notes issued to suppliers, unsecured bank loans, and commercial paper. Sources of secured short-term financing include loans secured by inventory and accounts receivable. A firm may also sell its receivables to factors. Trade credit is the least-expensive source of short-term financing. The cost of financing through other sources generally depends on the source and on the credit rating of the firm that requires the financing. Factoring is generally the most expensive approach.

Identify a firm's short- and long-term financial needs.

Short-term financing is money that will be used for one year or less. There are many short-term needs, but cash flow, speculative production, and inventory are three for which financing is often required. Long-term financing is money that will be used for more than one year. Such financing may be required for a business start-up, for a merger or an acquisition, for new product development, for long-term marketing activities, for replacement of equipment, or for expansion of facilities. According to financial experts, business firms will find it more difficult to raise both short- and long-term financing in the future because of increased regulations and more cautious lenders. Financial managers must also consider the risk-return ratio when making financial decisions. The risk-return ratio is based on the principle that a high-risk decision should generate higher financial returns for a business. More conservative decisions generate lesser returns.

Evaluate the advantages and disadvantages of equity financing.

The first time a corporation sells stock to the general public is referred to as an initial public offering (IPO). With an IPO, the stock is sold in the primary market. Once sold in the primary market, investors buy and sell stock in the secondary market. Usually, secondary market transactions are completed through a securities exchange or the over-the-counter market. Common stock is voting stock; holders of common stock elect the corporation's directors and often must approve changes to the corporate charter. Holders of preferred stock must be paid dividends before holders of common stock are paid any dividends. Another source of equity funding is retained earnings, which is the portion of a business's profits not distributed to stockholders. Venture capital—money invested in small (and sometimes struggling) firms that have the potential to become very successful—is yet another source of equity funding. Finally, a private placement can be used to sell stocks and other corporate securities

A revolving credit agreement is a guaranteed line of credit.

True

Factoring of accounts receivable typically is the highest cost method of short-term financing.

True

Most lenders do not require collateral for short-term financing.

True

Normally, the usual repayment period for a long-term loan is three to seven years.

True

debenture bond

a bond backed only by the reputation of the issuing corporation

registered bond

a bond registered in the owner's name by the issuing company

convertible bond

a bond that can be exchanged, at the owner's option, for a specified number of shares of the corporation's common stock

zero-base budgeting

a budgeting approach in which every expense in every budget must be justified

debit card

a card that electronically subtracts the amount of a customer's purchase from her or his bank account at the moment the purchase is made

mortgage bond

a corporate bond secured by various assets of the issuing firm

corporate bond

a corporation's written pledge that it will repay a specified amount of money with interest

capital budget

a financial statement that estimates a firm's expenditures for major assets and its long-term financing needs

cash budget

a financial statement that estimates cash receipts and cash expenditures over a specified period

budget

a financial statement that projects income, expenditures, or both over a specified future period

factor

a firm that specializes in buying other firms' accounts receivable

revolving credit agreement

a guaranteed line of credit

chief financial officer (CFO)

a high-level corporate executive who manages a firm's finances and reports directly to the company's chief executive officer or president

letter of credit

a legal document issued by a bank or other financial institution guaranteeing to pay a seller a stated amount for a specified period of time.

bond indenture

a legal document that details all the conditions relating to a bond issue

line of credit

a loan that is approved before the money is actually needed

secondary market

a market for existing financial securities that are traded between investors

primary market

a market in which an investor purchases financial securities (via an investment bank) directly from the issuer of those securities

securities exchange

a marketplace where member brokers meet to buy and sell securities

electronic funds transfer (EFT) system

a means of performing financial transactions through a computer terminal or telephone hookup

over-the-counter (OTC) market

a network of dealers who buy and sell the stocks of corporations that are not listed on a securities exchange

financial plan

a plan for obtaining and using the money needed to implement an organization's goals and objectives

term-loan agreement

a promissory note that requires a borrower to repay a loan in monthly, quarterly, semiannual, or annual installments

risk-return ratio

a ratio based on the principle that a high-risk decision should generate higher financial returns for a business and more conservative decisions often generate lower returns

commercial paper

a short-term promissory note issued by a large corporation.

sinking fund

a sum of money to which deposits are made each year for the purpose of redeeming a bond issue

trade credit

a type of short-term financing extended by a seller who does not require immediate payment after delivery of merchandise

check

a written order for a bank or other financial institution to pay a stated dollar amount to the business or person indicated on the face of the check

banker's acceptance

a written order for a bank to pay a third party a stated amount of money on a specific state

promissory note

a written pledge by a borrower to pay a certain sum of money to a creditor at a specified future date

The interest rates and repayment terms for term loans are based on which factor? a. All of these factors are considered. b. Available working capital c. Reasons for borrowing d. Value of the collateral e. Borrowing firm's credit rating

a. All of these factors are considered.

A corporation can acquire equity financing through the sale of stock or the use of profits not distributed to owners. a. True b. False

a. True

Debt capital is borrowed money. a. True b. False

a. True

Financial experts believe that it will be easier for business firms to raise capital in the future. a. True b. False

a. True

For businesses, recent new regulations could increase the time and cost of obtaining both short- and long-term financing. a. True b. False

a. True

One important aspect of a goal is that is must be reasonable and realistic. a. True v b. False

a. True

Short-term debt financing is usually easier to obtain than long-term financing. a. True b. False

a. True

The maturity of a bond is the date when the corporation is to repay the borrowed money. a. True b. False

a. True

MexAmerica Tile sells a wide array of Mexican- and Southwest-style tiles for home and office projects. MexAmerica has long been committed to the regional university and the business internship program. The company has just brought its sixth intern on staff for a six-month period—often hiring the intern after the internship is completed. TJ Corea is the new intern. He's devoted to understanding more about the financing of MexAmerica. The plan is to gradually ease TJ into the finances of the organization. If all goes as planned, near the end of the six months, TJ will be considering a long-term career with MexAmerica and MexAmerica will be considering extending him an offer. TJ knows that if he were to accept a career position with MexAmerica, his employers would have expectations that he would be able to recommend short-term loan solutions as needed. TJ can anticipate that they might needshort-term financing for a. cash flow problems. b. new product development. c. mergers and acquisitions. d. replacement of equipment. e. expansion of facilities.

a. cash flow problems.

The steps in effective financial planning are, in order, a. establishing objectives, budgeting, and identifying sources of funds. b. establishing goals, setting objectives, and working the plan. c. developing plans, monitoring plans, and evaluating the results. d. establishing objectives, identifying sources, and budgeting. e. identifying financial resources, budgeting, and establishing goals.

a. establishing objectives, budgeting, and identifying sources of funds.

The risk-return ratio is based on the principle that: a. high-risk decisions should generate higher financial returns. b. low risk decisions should generate higher financial returns. c. risky decisions result in risky financial planning. d. high risk decisions should generate lower financial returns. e. a risk is only as good as the economic forecasting available.

a. high-risk decisions should generate higher financial returns.

financial management

all the activities concerned with obtaining money and using it effectively

trustee

an individual or an independent firm that acts as a bond owner's representative

investment banking firm

an organization that assists corporations in raising funds, usually by helping to sell new issues of stocks, bonds, or other financial securities

A CFO position in a company is usually a mid-management status. a. True b. False

b. False

A budget projects future expenditures, it does not project income. a. True b. False

b. False

A cash budget always estimates cash receipts and cash expenditures over a one-year period. a. True b. False

b. False

A goal is an end result that an organization expects to achieve over a long-term, possibly up to 20-yearperiod. a. True b. False

b. False

A trustee is an individual or independent firm that acts as the stock owners' representative. a. True b. False

b. False

An IPO can only happen two times for the same company. a. True b. False

b. False

Cash flow can be defined as the amount of accounts payable and accounts receivable of a firm. a. True b. False

b. False

Common stock and preferred stock are types of debt financing. a. True b. False

b. False

During the recent economic crisis, many corporations were able to borrow more money than usual. a. True b. False

b. False

For a sole proprietorship, equity capital comes from the sale of shares of ownership in the company. a. True b. False

b. False

Profits not distributed to stockholder is called financial leverage. a. True b. False

b. False

Zero-base budgeting requires that only new expenses be justified. a. True b. False

b. False

To ensure that sufficient funds are available when needed in order to redeem bonds, the firm can issue bonds that mature on different dates. Which type of bonds would be the best to issue? a. Debenture b. Serial c. Corporate d. Registered e. Convertible

b. Serial

Equity capital is obtained from a. banks. b. stockholders. c. insurance companies. d. bondholders. e. credit unions.

b. stockholders.

serial bonds

bonds of a single issue that mature on different dates

debt capital

borrowed money obtained through loans of various types

Judy Martinez, owner of Judy's Fashions, received a tax refund. She deposited the money in Chase Bank. The terms of the agreement are that she must leave the money on deposit for three years and the bank will pay her interest. Her account is a line of credit. certificate of deposit. checking account. commercial paper agreement. savings account.

certificate of deposit.

A written order for a bank or other financial institution to pay a stated dollar amount to a specified business or person is called a check. deposit slip. notes receivable. receipt. debit memorandum.

check.

A short-term promissory note issued by large corporations is known as debenture agreement. equity agreement. commercial paper. draft agreement. loan commitment.

commercial paper.

The most basic form of corporate ownership that has voting rights is preferred stock. common stock. retained stock. deferred value stock. treasury stock.

common stock.

Each of the following causes a cash flow problem except embezzlement of company funds. an unexpected slow selling season. a large number of credit sales. slow-paying customers. customers who pay on time.

customers who pay on time.

The three ways a corporation can gain by issuing convertible bonds include all but which one of the following: a. If the bondholder convers to common stock, the corporation no longer has to redeem the bond at maturity. b. Convertibles usually carry a lower interest rate than conconvertible bonds. c. The conversion feature attracts investors who are interested in the speculative gain that conversion to common stock may provide. d. Convertible bonds stimulate the economy.

d. Convertible bonds stimulate the economy.

Which of the following is not usually a short-term financing need? a. Cash-flow problems b. Speculative production c. Inventory needs d. New product development e. Unexpected emergencies

d. New product development

MexAmerica Tile sells a wide array of Mexican- and Southwest-style tiles for home and office projects. MexAmerica has long been committed to the regional university and the business internship program. The company has just brought its sixth intern on staff for a six-month period—often hiring the intern after the internship is completed. TJ Corea is the new intern. He's devoted to understanding more about the financing of MexAmerica. The plan is to gradually ease TJ into the finances of the organization. If all goes as planned, near the end of the six months, TJ will be considering a long-term career with MexAmerica and MexAmerica will be considering extending him an offer. MexAmerica uses ___ for the purpose of redeeming bond issues. a. financial leverage b. retained earnings c. a par value d. a sinking fund e. a private placement

d. a sinking fund

Which of the following is NOT a type of bond: a. debenture bond b. mortgage bond c. convertible bond d. bond indenture

d. bond indenture

When a firm sells its accounts receivable to raise short-term cash, it is engaging in a strategy called factoring. financial planning. equity financing debt financing. drafting.

factoring

unsecured financing

financing that is not backed by collateral; unsecured short-term financing offers several options

The primary sources of funds available to a business include all of the following except debt capital. equity capital. sales revenue. government grants. sale of assets.

government grants.

Since prices are extremely low, the Pipeline Supply Company wants to purchase a special line of pipes from a company going out of business. Pipeline, however, will need to borrow money to make this deal. Which assets will Pipeline most commonly pledge as collateral for this short-term loan? delivery equipment notes payable manufacturing equipment owners' equity inventory

inventory

equity capital

money received from the owners or from the sale of shares of ownership in a business

long-term financing

money that will be used for longer than one year

short-term financing

money that will be used for one year or less

initial public offering (IPO)

occurs when a corporation sells common stock to the general public for the first time

private placement

occurs when stock and other corporate securities are sold directly to insurance companies, pension funds, or large institutional investors

collateral

real estate or property pledged as security for a loan

common stock

stock whose owners may vote on corporate matters but whose claims on profits and assets are subordinate to the claims of others

preferred stock

stock whose owners usually do not have voting rights but whose claims on dividends and assets are paid before those of common-stock owners

maturity date

the date on which a corporation is to repay borrowed money

prime interest rate

the lowest rate charged by a bank for a short-term loan

cash flow

the movement of money into and out of an organization

retained earnings

the portion of a corporation's profits not distributed to stockholders

speculative production

the time lag between the actual production of goods and when the goods are sold

financial leverage

the use of borrowed funds to increase the return on owners' equity

Retained earnings, as a form of equity financing, are gross earnings. profits before taxes. profits after taxes. undistributed profits. total owners' equity.

undistributed profits.