323 ch.2

cash flow to creditors

A firm's interest payments to creditors less net new borrowing.

net earnings

income earned after taxes and interests

recognition principle

recognize revenue when the earnings process is virtually complete and the value of an exchange of goods or services is known or can be reliably determined. In practice, this principle usually means that revenue is recognized at the time of sale, which need not be the same as the time of collection.

average tax rate

tax bill divided by your taxable income, in other words, the percentage of your income that goes to pay taxes.

Free cash flow (another name for Cash flow from assets)

the name refers to cash that the firm is free to distribute to creditors and stockholders because it is not needed for working capital or fixed asset investments

book value

the values shown on the balance sheet for the firm's assets are ____ and generally are not what the assets are actually worth

assets: the left hand side

Assets are classified as either current or fixed: - A fixed asset is one that has a relatively long life. Fixed assets can either be tangible, such as a truck or a computer, or intangible, such as a trademark or patent. -A current asset has a life of less than one year. This means that the asset will normally convert to cash within 12 months.

cash flow summary

CASH FLOW FROM ASSETS= Operating cash flow-Net Capital spending - Change in net working capital (NWC) where: Operating cash flow= Earnings before interest and taxes + Depreciation - Taxes Net Capital spending= Ending net fixed assts - Beg. net fixed assets + Depreciation Change in NWC = Ending NWC − Beginning NWC

Cash flow from assets

Cash flow from assets= Cash flow to creditors+ Cash flow to stockholders involves three components: operating cash flow, capital spending, and change in net working capital.

cash flow to stockholders

Dividends paid out by a firm less net new equity raised.

Matching principle

Expenses shown on the income statement are based on the ___. The basic idea here is to first determine revenues as described earlier and then match those revenues with the costs associated with producing them. So, if we manufacture a product and then sell it on credit, the revenue is recognized at the time of sale. The production and other costs associated with the sale of that product would likewise be recognized at that time. Once again, the actual cash outflows may have occurred at some very different times.

variable and fixed costs

In the long run, all business costs are variable. Given sufficient time, assets can be sold, debts can be paid, and so on. If our time horizon is relatively short, however, some costs are effectively fixed—they must be paid no matter what (e.g., property taxes). Other costs, such as wages to laborers and payments to suppliers, are still variable.

taxes

Taxes can be one of the largest cash outflows that a firm experiences

Change in net working capital (cash flow from assets)

amount spent on net working capital. It is measured as the change in net working capital over the period being examined and represents the net increase or decrease in current assets over current liabilities.

Liabilities and Owners' Equity: The Right-Hand Side

- Current liabilities, like current assets, have a life of less than one year (meaning they must be paid within the year), and they are listed before long-term liabilities. Accounts payable (money the firm owes to its suppliers) is one example of a current liability -A debt that is not due in the coming year is classified as a long-term liability. A loan that the firm will pay off in five years is one such long-term debt. the difference between the total value of the assets (current and fixed) and the total value of the liabilities (current and long-term) is the shareholders' equity, also called common equity or owners' equity

noncash items

A primary reason that accounting income differs from cash flow is that an income statement contains _____ . It is expenses that do not directly affect cash flow. The most important of these is depreciation. The depreciation deduction is simply another application of the matching principle in accounting.

market value

The true value of any asset is its ___, which is simply the amount of cash we would get if we actually sold it.

Financial leverage

The use of debt in a firm's capital structure. The more debt a firm has (as a percentage of assets), the greater is its degree of ____.

balance sheet

a snapshot of the firm. It is a convenient means of organizing and summarizing what a firm owns (its assets), what a firm owes (its liabilities), and the difference between the two (the firm's equity) at a given point in time

historical costs under GAAP

audited financial statements in the United States generally show assets at ___. In other words, assets are "carried on the books" at what the firm paid for them (minus accumulated depreciation), no matter how long ago they were purchased or how much they are worth today

income statement

measures performance over some period of time, usually a quarter or a year: Revenues-Expenses An ____ prepared using GAAP will show revenue when it accrues. This is not necessarily when the cash comes in

Operating cash flow (cash flow from assets)

refers to the cash flow that results from the firm's day-to-day activities of producing and selling. Expenses associated with the firm's financing of its assets are not included because they are not operating expenses. We don't want to include depreciation because it's not a cash outflow, and we don't want to include interest because it's a financing expense. We do want to include taxes because taxes are, unfortunately, paid in cash. it tells us, on a very basic level, whether or not a firm's cash inflows from its business operations are sufficient to cover its everyday cash outflows.

Capital spending (cash flow from assets)

refers to the net spending on fixed assets (purchases of fixed assets less sales of fixed assets). Could net capital spending be negative? The answer is yes. This would happen if the firm sold off more assets than it purchased.

liquidity

refers to the speed and ease with which an asset can be converted to cash. Gold is a relatively ___ asset; a custom manufacturing facility is not. ___ is valuable. The more liquid a business is, the less likely it is to experience financial distress (i.e., difficulty in paying debts or buying needed assets)

net working capital

the difference between a firm's current assets and its current liabilities

cash flow

the difference between the number of dollars that came in and the number that went out.

marginal tax rate

the extra tax you would pay if you earned one more dollar. It will normally be the marginal tax rate that is relevant for financial decision making. The reason is that any new cash flows will be taxed at that marginal rate. Because financial decisions usually involve new cash flows or changes in existing ones, this rate will tell us the marginal effect on our tax bill.

corporate tax rates

there are only four corporate rates: 15 percent, 25 percent, 34 percent, and 35 percent. The 38 and 39 percent brackets arise because of "surcharges" applied on top of the 34 and 35 percent rates. A tax is a tax is a tax, however, so there are really six corporate tax rates, as we have shown. TAXABLE INCOME TAX RATE $ 0−50,000 15% 50,001−75,000 25% 75,001−100,000 34% 100,001−335,000 39% 335,001−10,000,000 34% 10,000,001−15,000,000 35% 15,000,001−18,333,333 38% 18,333,334+ 35%