Financial Leverage Effects

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Bargaining Power

Ability to negotiate favorable terms in business transactions

Effective Rate

Actual interest rate paid on accessible money

Size of Investments in Current Assets

Amount allocated to current assets

Temporary Current Assets

Assets needed seasonally or during peak times

Value of Stock

Based on expected future dividends; zero value if never paid.

Levered

Company with debt, fluctuating EBIT, ROE, and EPS

Unlevered

Company without debt, stable EBIT, ROE, and EPS

Interest Rate

Cost of borrowing, lower for short-term rates

Shortage Costs

Costs decreasing with higher current assets levels

Carrying Costs

Costs increasing with higher current assets levels

Net Working Capital (NWC)

Current assets minus current liabilities, represents liquidity

Ex-Dividend Date

Date determining if a stockholder receives a dividend payment.

Leverage

Debt usage affecting financial risk and returns

Date of Record

Determines dividend recipients; holders on record receive payment.

Interest Tax Shield

Difference in cash flow between levered and unlevered due to tax shield on interest.

DCF

Discounted Cash Flow, present value of future cash flows

Stock Dividend

Distribution of additional shares to existing shareholders

Break-Even EBIT

EBIT where EPS remains constant

EPS

Earnings per share distributed to shareholders

Wealth Stay

Equity changes with stock repurchase or cash dividend, wealth remains constant.

Cash Budget

Forecast of cash inflows and outflows

Riskier

Higher standard deviation, more volatile

Capital Structure Theory

In a perfect market, capital structure is irrelevant.

Stock Split

Increase in number of shares outstanding with a decrease in price

Clientele Effect

Investor preference for dividend policies based on tax implications.

Small Stock Dividend

Issuing additional shares as dividends, typically less than 20-25%.

Variation Amplification

Leverage increasing EPS and ROE fluctuations

Variability Increase

Leverage raising ROE and EPS variability

Secured Loans

Loans backed by collateral

Unsecured Loans

Loans without collateral

Flexible Policy

Maintains high current assets to sales ratio

Restrictive Policy

Maintains low current assets to sales ratio

Maturity Hedging

Matching asset and debt maturities

Compensating Balance

Minimum balance required by a bank to offset a loan

Permanent Current Assets

Minimum level of assets needed at all times

Inventory Turnover

Number of times inventory is sold or used in a period

Accounts Payable Turnover

Number of times payables are paid in a period

Accounts Receivable Turnover

Number of times receivables are collected in a period

Cash Cycle Formula

Operating Cycle - Accounts Payable Period

Net Income

Profit after all expenses deducted

Debt-Equity Ratio

Proportion of debt to equity in capital structure

Cash Dividends

Regular, extra, special case, or liquidating payments to stockholders.

ROE

Return on equity, earnings based on equity

Stock Repurchase

Similar to cash dividend, alters equity shares without tax implications.

DOW Jones

Stock market index used to gauge the performance of the market

Cash Cycle

Time between paying suppliers and receiving cash from customers

Operating Cycle

Time from purchasing inventory to receiving cash from sales

Shareholder Value

Value directly related to EPS and ROE

Contingent Claim Valuation

Valuing options based on underlying assets

Date of Payment

When dividend checks are mailed to stockholders.

Declaration Date

When the board declares a dividend, becoming a firm liability.


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