Finance Exam 1

The _______ _________ _______ ratio is useful for comparing firms with different tax situations and different degrees of financial leverage.

basic earning power

Free Cash Flows

cash flows that matter, what is available for distribution to the companies investors

A corporation that owns 80 percent or more of another corporation's stock may choose to file ______________ tax returns.

consolidated tax returns

The traditional financial statements are designed more for use by ___________ and tax collectors than for __________ and equity analysts.

creditors managers

International Appliances Inc. has a current ratio of 0.5. Which of the following actions would improve (increase) this ratio? a. Use cash to pay off current liabilities. b. Collect some of the current accounts receivable. c. Use cash to pay off some long-term debt. d. Purchase additional inventory on credit (accounts payable). e. Sell some of the existing inventory at cost.

d. Purchase additional inventory on credit (accounts payable)

An individual with substantial personal wealth and income is considering the possibility of opening a new business. The business will have a relatively high degree of risk, and losses may be incurred for the first several years. Which legal form of business organization would probably be best? a. Proprietorship b. Corporation c. Partnership d. S-Corporation e. Limited Partnership

d. S-Corporation The S corporation limits the liability of the individual, but permits losses to be deducted against personal income.

The Tax Code permits a corporation (that meets certain restrictions) to be taxed at the owners' personal tax rates and to avoid the impact of ________ taxation of dividends. This type of corporation is called a(n) ___ corporation.

double S

If a company is financed only with common equity (i.e., it has no liabilities or preferred stock), the firm's return on assets and return on equity will be _______.

equal

The result of the ongoing regulatory changes has been a blurring of the distinctions between the different types of financial institutions. As a result, in the U. S. the trend has been toward huge ___________ _________ corporations, which own any number of financial intermediaries with national and even global operations.

financial service

A firm that refuses to pay dividends in order to help stockholders avoid personal income taxes may be subject to a penalty for __________ ______________ of earnings.

improper accumulation of earnings

A(n) ____________ _________ firm facilitates the transfer of capital between savers and borrowers by acting as a middleman.

investment banking

Statement of Cash Flows

keeps up with cash flows what is coming in and out in terms of cash

Firms with higher rates of return on stockholders' equity tend to sell at relatively high ratios of ________ price to ______ value.

market book

Modern financial theory operates on the assumption that the objective of management is the ______________ of shareholder ________. This objective is accomplished if the firm's _______ _______ is maximized

maximization wealth/Value Stock Price

A better measure for comparing managers' performance than net income is _____ ___________ ________ _______ _______.

net operating profit after taxes

___________ ________ consist of cash, accounts receivable, inventories, and fixed assets necessary to operate the business.

operating assets

Those current assets used in operations are called ___________ _________ _________.

operating working capital

Interest income received by a corporation is taxed as _____________ income. However, only ____ percent of dividends received from another corporation is subject to taxation.

ordinary 30%

Growth Company

pay almost no dividends money goes back into company to help grow

In a(n) ____________ ________ analysis, growth rates are calculated for all income statement items and balance sheet accounts.

percent change analysis

Partnership profits are taxed as __________ income in propor¬tion to each partner's proportionate ownership.

personal

The two basic types of stock markets are the ___________ __________ ___________, such as the NYSE, and ______/_____ _________, such as Nasdaq

physical location exchanges computer/telephone networks

Where do cash flows come from

sales financing activities investing activities

FCF =

sales rev - operating costs - operating taxes - required investments in new operating capital

Individual ratios are of little value in analyzing a company's financial condition. More important are the _______ of a ratio over time and the comparison of the company's ratios to __________ average ratios

trend industry

S-corporations

when you establish a corporation, but you are taxed as if the business us a proprietorship/partnership.

Order of Claim on Cash

1) Bonds- interest on loans 2) government- taxes 3) Preferred stock holders 4) Common Stock - gets what is left over

In order to qualify as a long-term capital gain or loss, an asset must be held for more than ____ months.

12 months

Ordinary corporate operating losses can first be carried back ___ years and then forward ____ years.

2 years 20 years

The marginal tax rate on the largest corporations, those with taxable incomes exceeding $18,333,333, is ____ percent, while that on the wealthiest individuals can go up as high as ______ percent.

35% 39.6%

Of all its communications with shareholders, a firm's ________ report is generally the most important.

Annual

Balance Sheet Layout

Assets TOTAL ASSETS Liabilities TOTAL LIABILITIES Owners Equity TOTAL Liabilities and SHE

Which of the following represents a significant disadvantage to the corporate form of organization? a. Difficulty in transferring ownership. b.Exposure to taxation of corporate earnings and stockholder dividend income. c.Degree of liability to which corporate owners and managers are exposed. d.Level of difficulty corporations face in obtaining large amounts of capital in financial markets. e.All of the above are disadvantages to the corporate form of organization.

B The double taxation of corporate earnings is a significant disadvantage of the corporate form of organization. The corporations' earnings are taxed, and then any earnings paid out as dividends are taxed again as income to stockholders.

The _________ _______ lists the firm's assets as well as claims against those assets.

Balance Sheet

Two procedures analysts use to examine the firm's debt: (1) They check the _________ _______ to determine the extent to which borrowed funds have been used to finance assets, and, (2) they review the ________ ___________ to see the extent to which fixed charges are covered by operating profits.

Balance sheet Income statement

Statement of Retained Earnings

Belongs to the shareholders - corporation is run by people who don't really own -R/E money kept in house

The process of comparing a particular company with a smaller set of companies in the same industry is called ______________.

Benchmarking

A progressive tax structure, which when combined with inflation increases the government's share of GDP without any change in tax rates, is called _________ _______.

Bracket Creep

Sole proprietorships are easily formed, but often have difficulty raising _________, they subject proprietors to unlimited ___________, and they have a limited ______.

Capital Liability Life

Markets for long-term debt and equity are called

Capital Markets

The two accounts that normally make up the common equity section of the balance sheet are ________ _______ and __________ __________.

Common Stock Retained Earnings

________ ______ __________ facilitates comparisons of balance sheets and income statements over time and across companies.

Common size analysis

The ________ _______ account arises from the issuance of stock to raise capital.

Common stock

A(n) _____________ is a legal entity created by a state, and it is separate from its owners and managers.

Corporation

_________ risk arises from investing or doing business in a particular country.

Country Risk

A partnership is dissolved upon the withdrawal or _______ of any one of the partners. In addition, the difficulty in ______________ ownership is a major disadvantage of the partnership form of business organization.

Death Transferring

A(n) ____________ is any security whose value is derived from the price of some other "underlying" asset.

Derivative

________ ___________ of money and securities occur when a business sells its stock or bonds directly to savers, without going through any type of financial institution.

Direct transfers

The process of finding present values is often referred to as _____________ and is the reverse of the _____________ process.

Discounting Compounding

A(n) ____ ______ chart shows how return on equity is affected by total assets turnover, profit margin, and leverage.

Du Pont

The income statement reports the results of operations during the past year, the most important item being

Earnings per Share

__________ _______ _______ focuses on managerial effectiveness in a given year and is an estimate of a business's true economic profit for the year.

Economic Value Added

T/F The types of actions that help a firm maximize stock price are generally not directly beneficial to society at large.

False Actions that maximize stock price generally also benefit society by promoting efficient, low-cost operations; encouraging the development of new technology, products, and jobs; and requiring efficient and courteous service.

T/F The fact that 70 percent of intercorporate dividends received by a corporation is excluded from taxable income has encouraged debt financing over equity financing.

False Debt financing is encouraged by the fact that interest payments are tax deductible while dividend payments are not.

T/F The equity multiplier can be expressed as 1 - (Total liabilities/Total assets).

False Equity multiplier = assets/equity what is shown is equity/assets

T/F A high quick ratio is always a good indication of a well-managed liquidity position.

False Excess cash resulting from poor management could produce a high quick ratio. Similarly, if accounts receivables are not collected promptly, this could also lead to a high quick ratio.

T/F The primary objective of the firm is to maximize earnings per share

False the primary objective of the firm is to maximize the stock price

________ ___________ bring together people and organizations wanting to borrow money with those having surplus funds.

Financial Markets

The three major categories of the statement of cash flows are cash flows associated with ___________ activities, ______-______ ___________ activities, and ___________ activities.

Financing Activities Long-term Investing Activities Operating Activities

The _______ ________ __________ ratio measures how effectively the firm uses its plant and equipment.

Fixed assets turnover ratio

The _______ ________ __________ ratio is similar to the TIE ratio, but it is more inclusive because it recognizes that many firms lease assets and incur long-term obligations under lease contracts and sinking funds.

Fixed charge coverage

______ ______ ______ is the cash flow actually available for distribution to investors after the company has made all the investments in fixed assets and working capital necessary to sustain ongoing operations.

Free Cash Flow

The equation FVN = PV(1 + I)N determines the future value of a sum at the end of n periods. The factor (1 + I)N is known as the ________ _______ __________ ________.

Future value interest factor

Although the three basic types of organization dominate the business scene, several ________ forms are gaining popularity.

Hybrid

Using a savings account as an example, the difference between the account's present value and its future value at the end of the period is due to __________ earned during the period.

Interest

The __________ ______ is the price paid to borrow debt capital

Interest Rate

An institution which issues its own securities in exchange for funds and then uses these funds to purchase other securities is called a financial

Intermediary

The concept of _________ ___________ means that a firm's stockholders are not personally liable for the debts of the business.

Limited liability

Typically, assets are listed in order of their ___________, while liabilities are listed in the order in which they must be paid.

Liquidity

Financial ratios are used by three main groups: (1) __________, who employ ratios to help analyze, control, and thus improve their firm's operating performance; (2) ________ __________, who analyze ratios to help ascertain a company's ability to pay its debts; and (3) _______ __________ and ______________, who are interested in a company's efficiency, risk, and growth prospects to forecast earnings, dividends, and stock prices.

Managers Credit Analysts Stock Analysts, shareholders

Return on assets is a function of two variables, the profit ________ and _______ ________ turnover.

Margin total asset turnover

Shareholder wealth is maximized by maximizing the difference between the market value of the firm's equity and the amount of equity that was supplied by shareholders. This difference is called ________ _______ _______.

Market Value Added

Markets for short-term debt securities are called

Money Markets

Interest received on ___________ bonds is generally not subject to federal income taxes. This feature makes them particularly attractive to investors in ______ tax brackets.

Municipal High

_____ ______ ______ is the sum of net income plus noncash adjustments.

Net Cash Flows

Operating working capital less accounts payable and accruals is called _____ ___________ _________ _________.

Net operating working capital

Assets - Liabilities - Preferred stock = _____ worth, or ________ _______________ equity.

Net worth Common Stockholders Equity

T/F There are factors that influence stock price over which managers have virtually no control.

True Managers have no control over factors such as (1) external constraints (for example, antitrust laws and environmental regulations), (2) the general level of economic activ-ity, (3) taxes, (4) interest rates, and (5) conditions in the stock market, all of which affect the firm's stock price.

WACC

Weighted Average Cost of Capital -rate of return expected by investors

Refer to Self-Test Question 27. Assume that International Appliances has a current ratio of 1.2. Now, which of the following actions would improve (increase) this ratio? a. Use cash to pay off current liabilities. b. Collect some of the current accounts receivable. c. Use cash to pay off some long-term debt. d. Purchase additional inventory on credit (accounts payable). e. Use cash to pay for some fixed assets.

a. Use cash to pay off current liabilities.

Examining the ratios of a particular firm against the same measures for a small group of firms from the same industry, at a point in time, is an example of a. Trend Analysis b. Benchmarking c. Du Pont Analysis d. Simple Ratio Analysis e. Industry Analysis

b. Benchmarking trend analysis compares the firm's ratios over time, while a Du Pont analysis shows how return on equity is affected by assets turnover, profit margin, and leverage.

Another important distinction exists between interest and dividends paid by a corporation. Interest payments are _____ ____________, while dividend payments are not.

Tax Deductible

The _______ ________ __________ ratio measures the utilization of all the firm's assets.

Total asset turnover ratio

_______ ___________ _________ is the sum of net operating working capital and net fixed assets.

Total operating capital

Analyzing a particular ratio over time for an individual firm is known as _______ analysis.

Trend Analysis

The ___________ ____ ______ _______ is designed to summarize the changes in a company's cash position.

Statement of Cash Flows

The value of an investment made overseas will depend on what happens to exchange rates, and this is known as __________ ______ risk.

Exchange Rate Risk

The ___________ ____ __________ __________ reports changes in the equity accounts between balance sheet dates.

Statement of Stockholders Equity

______________ ________ include marketable securities, investments in subsidiaries, and land held for future use.

Non operating assets

The beginning value of an account or investment in a project is known as its _________ _______.

Present Value

Firms raise capital by selling newly issued securities in the

Primary Market

A(n) _____________ tax system is one in which tax rates are higher at higher levels of income.

Progressive

What type of income tax system does the USA have?

Progressive marginal tax rate

_______ __________ raises a red flag as to the questions managers and analysts should ask.

Ratio Analysis

__________ __________ as reported on the balance sheet represent income earned by the firm in past years that has not been paid out as dividends.

Retained Earnings

Income Statement Layout

Revenues - Expenses - Depreciation = EBIT - interest =EBT -Tax = Net Income

Existing, already outstanding securities are traded in the

Secondary Market

Gains or losses on assets held less than one year are referred to as _______-______ transactions.

short -term trasaction

The _______ market is one of the most important markets to financial managers because it is here that the value of all publicly-owned firms is established.

stock