Financial Manangement Exam #1
Define Partnership, list the advantages and disadvantages:
- A legal arrangement between 2 or more people who decide to do business together. - Advantages = relatively easy to form, inexpensive, avoids corporate income tax - Disadvantages = unlimited liability, making it hard to raise large amounts of capital
Define Corporation, list the advantages and disadvantages:
- A legal entity created by a state, and it is separate and distinct from its owners and managers. - Advantages = owners only lose funds they have invested in the company if something goes wrong, easier to raise capital, easier to transfer shares, and unlimited lives - Disadvantages = double taxation
Define Limited liability company in limited liability partnership
- A limited liability company is one that can be owned by one or more people and it gives the advantages of a corporation with the pass through taxation of a proprietorship, a LLC has less regulation, and personal asset protection. - A limited liability partnership has the same tax advantages at the LLC but they just can't have a corporation as an owner they have to have one or more company managers who represent the partnerships actions.
What are the three main categories of current liabilities?
- Describe accounts payable Accounts payable is money that is owed by a company to its creditors and that's why it's a liability because the money is still owed. - Describe accruals Accruals are liabilities that are expenses that have yet to be paid, they are unique because they can be recorded as long or short term liabilities. Accruals arose during the normal business operations, examples can be things such as payroll. - Describe notes payable Notes payable is similar to accounts payable however a note is a written promise to pay a certain amount of money on a given future date. Notes do build up interest over time and are listed as short term liabilities.
Which stock are typically highly efficient? Which stock are typically highly inefficient?
- Highly efficient = large companies followed by many analysts - Highly inefficient = small companies not followed by many analysts; not much contact with investors
What are the five categories of financial ratios?
- Liquidity - Activity - Debt - Profitability - Market
What are the 5 categories of financial ratios?
- Liquidity Ratios - Asset Management Ratios - Debt Management Ratios - Profitability Ratios - Market Value Ratios
List several potential difficulties with ratio analysis.
- Many firms have divisions that operate in different industries. Industry average is better for narrowly focused firms. - Most firms want to be better than average. In this case, it is better to look at the industry leaders' ratios. Benchmarking. - Inflation has distorted many firms' balance sheets - book values are often different from market values. - Seasonal factors can also distort a ratio analysis. The problem can be fixed by using monthly averages for inventory when calculating turnover ratios. - Firms can employ "window dressing" techniques to improve their financial statements. - Different accounting practices can distort comparisons. - It is difficult to generalize about whether a particular ratio is "good" or "bad". - Some firms have some good numbers and some bad numbers.
List three types of users of ratio analysis. Would the different users emphasize the same or different types of ratios? Explain.
- managers: use ratios to help analyze, control, and thus improve their firms' operations. - credit analysts: including bank loan officers and bond rating analysis, who analyze ratios to help judge a company's ability to repay its debts. - Stock analysts: are interested in a company's efficiency, risk, and growth prospects.
Write the equations for four ratios that are used to measure how effectively a firm manages its assets.
1. Inventory turnover ration = sales/inventories 2. DSO = Receivables/(Annual Sales/365) 3. Fixed assets turnover ratio = sales/net fixed assets 4. total assets turnover ratio = sales/total assets
List three tools used to motivate managers to act in stockholders' best interests. Discuss each
1. Reasonable Compensation Package. They are used to attract and retain managers. They need to consistence and not be more than the company can handle. So the stock option should be phased in overtime. 2. The Firing of Managers who don't Perform well. In the era, stockholders hold major influences on their company. Companies need to listen to the stockhold to keep their market price high. So if stockholders feel a manger(s) is hurting the stock price or may become a problem in the future. It's in everone best intrest to let them go. 3. The Threat of Hostile Takeover. Manger are encorage to try to keep the stock price high to prevent a hostile takeover. If stockprice drops too low another companys may see it as a bargain and try to buy up 51% of its stock. If that ends up happening most upper exective mangment will lose there jobs.
What are socially responsible funds?
A "socially responsible" fund only invests in certain types of industries and ignores some that people find objectionable (those that involve tobacco, heavy pollution, or the use of child labor).
How long would it take $1,000 to double if it was invested in a bank that paid 6% per year? How long would it take if the rate was 10%?
A = P(1 + r)t A = 2000 P = 1000 r= 0.06 t = time in years 2000 = (1000)(1.06)t 2 = 1.055t Then, t= log(2)/log(1.06), t=11.9. Same goes for 10%
what is the bid-ask spread?
A bid-ask spread is the amount the ask price exceeds the bid price for an asset in the market. The bid-ask spread is the difference between the highest price that a buyer is willing to pay for an asset and the lowest price that a seller is willing to accept. On a broker one might see the bid and ask price placed into a spread of sorts which demonstrates the difference between the bid and ask prices; this also shows the dealer's markup.
Define proprietorship, list the advantages/disadvantages...
A business that has just one owner this type of business is one of the easiest types to set up, and there are no corporate business tax the profit is paid on the owners income tax, and there aren't as many restrictions. However it could be harder to raise/make money for the business and it is much riskier because there is nothing to fall back on if you fall into debt.
What is a capital market?
A capital market is a market where interest rates, along with stock and bond prices, are determined.
What is a derivative?
A derivative is any security whose value is derived from the price of some other "underlying" asset. How do "hedgers" use derivatives? - "Hedgers" use derivatives to reduce risk exposure. How do "speculators" use derivatives? - "Speculators" use derivatives to raise risk exposure in hopes of high returns.
If you wanted to evaluate a firm's DSO, with what would you compare it?
A firm's DSO should be compared to the average DSO for firms in the same industry.
What is a life insurance fund? Give an example.
A life insurance fund is pretty much all assets someone has such as stocks, cash, cash equivalents, etc.
What is long-term debt
A long term debt is one that matures in more than a years time, anything under this 12 month cut off is listed as a short term debt. This is mainly seen on things such as bonds and purchases that can take many years to pay off.
What is a mutual fund?
A mutual fund is made up of different investors collected money in order to be invested together to buy things such as stocks and other assets and investments. The mutual fund is different from others because it is ran by professional Money managers who will proportionally split wins and losses with all investors.
what is the "bid-price"? What is the "ask-price"
Bid price represents the maximum price that a buyer is willing to pay for a share of stock. Ask price is the minimum price that a seller is willing to take for that same security. The bid-price of a stock is the quoted price at which a dealer would pay for the stock. The reverse of the bid-price is the as-price which is the quoted price at which a dealer would sell the stock for.
what does the share of a stock represent?
A share of stock represents partial ownership in the company in which shares are issued The share of a stock represents the amount of the company owned by each individual. You can see how much you own when you compare your total shares to the total shares available, showing the % of the company owned by that person.
When is a stock undervalued? Overvalued?
A stock is undervalued when the actual stock price is less than the intrinsic value. A stock is overvalued when the actual stock price is greater than the intrinsic value.
A company has $20 billion of sales and $1 billion of net income. Its total assets are $10 billion. The company's total assets equal total invested capital, and its capital consists of half debt and half common equity. The firm's interest rate 5%, and its tax rate is 25%. A) What is the profit margin? B) What is ROA? C) What is its ROE? D) What is its ROIC? E) Would this firm's ROA increase if it used less leverage? (The size of the firm does not change.)
A) What is the profit margin? Profit Margin= Net Income/ Sales= (1 Billion/ 20 Billion)= 0.05= 5% B) What is ROA? ROA= Net Income/ Total Assets= (1 Billion/ 10 Billion)= 0.10= 10%
What is the difference between active and passive fund management
Active fund management requires frequent action and effort to be able to perform while passive fund management is able to replicate a specific benchmark to be able to match its performance. Generally passive investing outperforms active funds.
Why are comparative analyses ratios useful?
Allows owners to compare their company's financial ratio to that of a competing company.
If you calculated the value of an ordinary annuity, how could you find the value of the corresponding annuity due?
An annuity due is calculated in reference to an ordinary annuity. To calculate either the future value or present value of an annuity due, you calculate the value of the comparable ordinary annuity and multiply the result by (1 + i). [ FVAdue = FVAordinary (1+i) ]
What are the characteristics of a liquid asset? Give examples of some liquid assets.
An asset that trades in an active market and can quickly be converted into cash at the market price. Examples include stocks, cash, bank accounts, and accounts receivable.
What is a credit union? Given an example
Are cooperative association whose member have a common bond. Example: a small bank for all members of a single firm.
What is a Pension Fund? Given an example
Are retirement plans funded by corporations or government agencies for their workers. Example: Federal Retirement Thrift investment Board
What are the four basic financial statements?
Balance sheet, income statement, statement of cash flows, and statement of stockholder's equity.
How much would $1,000,000 due in 100 years be worth today if the discount rate was 5%? If the discount rate was 20%?
Calculator method: - Inputs for the discount rate of 5%: N = 100, I/Y = 5, PMT = 0, FV = -1,000,000. Then press compute PV and get $7604.49. - Inputs for the discount rate of 20%: N = 100, I/Y = 20, PMT = 0, FV = -1,000,000. Then press compute PV and get $0.0121. or Formula method: - PV=FV/(1+i)^n - The formula for the discount rate of 5%: PV=1,000,000(1+0.5)^100, which equals $7604.49. - The formula for the discount rate of 20%: PV=1,000,000(1+0.20)^100, which equals $0.0121. - As the discount rates increased, the present value decreased significantly. The discount rate and present values have an indirect relationship.
Suppose you currently have $2,000 and plan to purchase a 3-year certificate of deposit (CD) that pays 4% interest compounded annually. How much will you have when the CD matures? How would your answer change if the interest rate were 5% or 6% or 20%?
Calculator method: Inputs for 4% interest: PV = -2000, N = 3, I/Y = 4, PMT = 0. Then press compute FV and the answer is $2,249.73. Inputs for 5% interest: PV = -2000, N = 3, I/Y = 5, PMT = 0. Then press compute FV and the answer is $2315.25. Inputs for 6% interest: PV = -2000, N = 3, I/Y = 6, PMT = 0. Then press compute FV and the answer is $2382.03. Inputs for 20% interest: PV = -2000, N = 3, I/Y = 20, PMT = 0. Then press compute FV and the answer is $3456.00. or Formula Method: FV=PV(1+i)^n The formula for 4% interest: FV=2000(1+.04)^3 which equals $2249.73. The formula for 5% interest: FV=2000(1+.05)^3 which equals $2315.25. The formula for 6% interest: FV=2000(1+.06)^3 which equals $2382.03. The formula for 20% interest: FV=2000(1+.20)^3 which equals $3456.00. As the interest rates are increasing, the future value increases. Interest rates and future values have a direct relationship.
What important information does a trend analysis prvide?
Can help improve your business by identifying places it is doing well and places it is struggling. Helps ensure better decision making for long-term strategy.
What is capital expenditure, where does it come from? How is cross fixed assets different than net fixed assets?
Capital expenditure if the spending of capital to acquire assets that increase the overall fixed asset amount of the company (land, building, etc) Net fixed assets are equal to gross fixed assets minus the amount of depreciation.
What are the 3 main categories of Current Assets? List them from most liquid to least liquid. 1) What is cash? 2) Describe the Accounts Receivable 3) Describe Inventory?
Cash and Equivalents, Accounts Receivable, and Inventory 1) What is cash? Bills, Coins, Bank Balances, Money Orders, and Checks. Used to acquire goods and services and eliminate debt. 2) Describe the Accounts Receivable. Money that is owed to a company from their customers. Delayed payment for goods and services. 3) Describe Inventory? Goods the company has ordered but not sold yet.
What is compounding. What is the difference between simple interest and compound interest? What would the future value of $100 be after 5 years at 10% compound interest? At 10% simple interest?
Compounding is the process of going to future values from present values. Interest earned on the interest earned in prior periods is compound interest. If interest is not earned on interest, then that is called simple interest. FV= PV (1+i)^n= 100 (1+0.10)^5= $161.05 FV=PV +PV(i)(n)= $150.00
In what sense do these market value ratios reflect investors' opinions about a stock's risk and expected future growth?
If a company has a high M/B ratios its considered well regarded with low risk and high reward
How can the conflict between stockholders and debtholders be mitigated?
Debt holders, which include the company's bankers and its bondholders, generally receive fixed payments regardless of how well the company does, while stockholders do better when the company does better. This situation leads to conflicts between these two groups, to the extent that stockholders are typically more willing to take on risky projects. Notice, however, that astute bondholders understand that managers and stockholders may have an incentive to shift to riskier projects. Recognizing this incentive, they will view the bonds as being riskier and will demand a higher rate of return, and in some cases the perceived risk may be so great that they will not invest in the company, unless the managers can credibly convince bondholders that the company will not pursue excessively risky projects. Another type of stockholder-debtholder conflict arises over the use of additional debt. As we see later in this book, the more debt a firm uses to finance a given amount of assets, the riskier the firm becomes. Bondholders attempt to protect themselves by including covenants in the bond agreements that limit firms' use of additional debt and constrain managers' actions in other ways.
What is discounting, and how is it related to compounding? How is the future value equation (Equation 5.1) related to the present value equation (Equation 5.2)?
Discounting is finding the present values and it is the revers of compounding. The future value equation is related to the present value equation because they are the same equation just arranged differently. If you take the present value equation and multiply by (1+i)^n then you get the future value equation.
How is EBIT different than Net Income?
EBIT is earnings before interest and taxes, while net income is something that takes the two into account.
What is EBIT? Where does it come from?
EBIT is equivalent to the net operating profit after taxes. EBIT comes from expenses subtracted from income to reach the EBIT value. EBIT represents the amount of cash that the firm generates from its current operations. It is often referred to as NOPAT which is the net operating profit after taxes.
Why would you prefer to receive an annuity due for $10,000 per year for 10 years than an otherwise similar ordinary annuity?
Each payment happens 1 whole period earlier, therefore 1 more year of earned interest will occur. The value of am annuity due is greater than that of a similar ordinary annuity.
Using more debt lowers profits and thus the ROA. Why doesn't debt have the same negative effect on the ROE?
Equity is the difference between assets and liabilities since debt can decrease the overall assets and profit margin, as well as ROA, increased debt also decreases equity therefore the effect of ROE, since equity is partially based on NET income as well.
Explain why this statement is true: A dollar in hand today is worth more than a dollar to be received next year.
If you have a dollar today, there is many things you could do with it like invest and earn interest. This will build on the amount and be worth more than a dollar received next year.
How is Net Working Capital calculated?
If you subtract current liabilities from current assets the difference is called net working capital. Net working capital = current assets - current liabilities
What is an exchange traded fund? - Can you find the SPDR on yahoo!Finance? What price is it trading? - Can you find the S&P Index? What price is it trading? Why is this different?
Exchange Traded Funds (ETFs) are similar to regular mutual funds and are often operated by mutual fund companies. ETFs buy a portfolio of stocks of a certain type—for example, the S&P 500 or media companies or Chinese companies—and then sell their own shares to the public. ETF shares are generally traded in the public markets, so an investor who wants to invest in the Chinese market, for example, can buy shares in an ETF that holds stocks in that particular market. Table 2.2 provides a list of the top ETFs in early March 2018 ranked according to the ETF's assets under management (AUM).
What's the future value of $100 after 3 years if the appropriate interest rate is 8% compounded annually? Compounded monthly? ($125.97, $127.02)
FV = ? P = 100 i = 0.08 n = 1 (annually) 12 (monthly) monthly Fv=PV(1+interest rate)^NM. Fv=100(1+(.08/12))^3*12. Fv=100(1+.0067)^36 FV=127.175 Annually Fv=100(1+.08)^3 Fv=100(1.08)^3 Fv=127.02
If you know the present value of an ordinary annuity, how can you find the PV of the corresponding annuity due?
If you were already given present value of the ordinary annuity, then you can multiply it by (1 + i) to get the PV of the annuity due. [ PVdue = PVordinary (1+i) ]
Describe what Free Cash Flow represents
Free cash flow is the amount of cash that can be taken from a firm to pay for something, without hurting the ability of the firm to operate at current levels. Free Cash Flow is the amount of cash that could be withdrawn without harming a firm's ability to operate and to produce future cash flows.
Why is free cash flow useful in considering firm value?
Free cash flow is useful in considering firm value by helping to estimate the value of stock, assess value of proposed projects, and showing how much cash the firm can distribute to its investors.
What is a hedge fund? Give an example
Hedge funds are also similar to mutual funds because they accept money from savers and use the funds to buy various securities, but there are some important differences. Hedge funds are also similar to mutual funds because they accept money from savers and use the funds to buy various securities, but there are some important differences. While mutual funds (and ETFs) are registered and regulated by the Securities and Exchange Commission (SEC), hedge funds are largely unregulated. This difference in regulation stems from the fact that mutual funds typically target small investors, whereas hedge funds typically have large minimum investments (often exceeding $1 million) and are marketed primarily to institutions and individuals with high net worths. Hedge funds received their name because they traditionally were used when an individual was trying to hedge risks. For example, a hedge fund manager who believes that interest rate differentials between corporate and Treasury bonds are too large might simultaneously buy a portfolio of corporate bonds and sell a portfolio of Treasury bonds. In this case, the portfolio would be "hedged" against overall movements in interest rates, but it would perform especially well if the spread between these securities became smaller. However, some hedge funds take on risks that are considerably higher than that of an average individual stock or mutual fund. For example, Paulson & Company, a firm that profited during the 2008 subprime mortgage crisis, has lost more than half of its hedge fund's assets during the last 9 years. In fact, Paulson Partners Fund, a merger arbitrage strategy fund, has lost 42% of its value over the past 4 years, while Paulson Partners Enhanced Fund declined by 35% in 2017 and by 49% in 2016. The fund made a big bet on Valeant, a Canadian pharmaceutical company that has recently been accused of improper accounting and predatory price hikes, and it invested in other struggling pharmaceutical companies. The fund's estimated losses could total $4 billion. In fact, during 2016, John Paulson, the hedge fund manager, actually pledged personal holdings as additional collateral for a line of credit to help bolster the fund.
A bank pays 5% with daily compounding on its savings account. Should I advertise the nominal or effective rate if it is seeking to attract new deposits?
If a bank pays 5 percent with daily compounding on its savings account they should advertise the effective rate to the public because it will be much higher, and seem better to the customers.
Which is the least liquid of the firm's current assets?
Inventories are the least liquid of a firm's current assets.
Define Market Price:
Is the current price of a stock
What is a Financial Services Corporation? Give an example.
Large conglomerates that combine many different financial institutions within a single corporation. Typically they start in one area of finance and move in to other areas to cover the financial spectrum. For example, Citigroup owns Citibank (commercial), an investment bank, insurance, and leasing companies.
How does the use of financial leverage affect stockholders control position?
Leverage in finance Is defined as "any technique involving debt rather than fresh equity" when purchasing an asset, this affects stockholders Control positions by giving them a high risk and possible high reward scenario because they are betting on a company to succeed, will also see higher ROE with this.
What is NOWC? How is this calculated?
NOWC is net operating working capital which is calculated by subtracting operating current assets minus operating current liabilities.
How can a board structure a manager's compensation to better align their incentives with stockholder
Many companies have used stock and stock options as a key part of executive pay. The intent of structuring compensation in this way is for managers to think more like the stockholders and to continually work to increase shareholder value.
Name three ways money is transferred between demanders and suppliers of capital.
Money is transferred between demanders and suppliers of capital through direct transfers of money and securities, through an investment bank, or through a financial intermediary like a bank or mutual fund.
Give an example of a mutual fund
Money market funds are a good example of short term mutual funds, these invest in fixed income securities.
How is this different than net operating working capital?
Net operating working capital differs from networking capital in two ways. Net operating working capital makes a distinction between cash that is used for operating purposes and excess cash being held for other purposes. When calculating net operating working capital Analysis make an estimate of excess cash and subtract this from the companies current asset to get the companies operating for assets. And second when looking at the companies current liabilities analysis distinguish between its free liabilities and its interest-bearing notes payable. Interest-bearing liabilities are typically treated as far as a financial cost rather than operating costs which explains why they're not included as part of the companies operating current liabilities.
Is maximizing shareholder value inconsistent with being socially responsible? Explain.
No. Managers understand that maximizing shareholder value does to mean that they are free to ignore the larger interests of society. The managers have an obligation to behave ethically, follow the laws and others society-imposed constraints.
Would you rather invest in an account that pays 7% with annual compounding or 7% with monthly compounding? Would you rather borrow at 7% and make annual or monthly payments? Why?
One would rather invest in an account that pays 7% monthly compounding interest, but why? In a monthly compounding interest account the 7% interest rate is divided by 12 and that value is compounded each month in this case each time the interst compounds it adds slightly to the overall account balance. In this case by the end of the year an investment of 1000 would have accrued alightly more interest over compounding annually, these small advantages lead to bigger differences over time and thus more money from a monthly compounded account vs an annually compounded account.
How is operating income calculated?
Operating Income = Sales revenues - Operating costs
What's the present value of a perpetuity that pays $1,000 per year beginning 1 year from now, if the appropriate interest rate is 5%? What would the value be if payments on the annuity began immediately?
PV= D/r so in this case PV=1000/0.05 ($20,000) if the payments began immediately all you do is add the initial $1000 and the outcome is $21,000.
Describe: Physical vs Financial Markets Spot vs Futures Markets Money vs Capital Markets Primary vs Secondary Markets Private vs Public Market
Physical vs Financial Markets - Physical markets are for tangible products such as wheat, autos, real estate, computers, and machinery. - Financial markets deal with stocks, bonds, notes, and mortgages. Spot vs Futures Markets - Spot markets are markets in which assets are bough or sold for "on-the-spot" delivery. - Future markets are markets in which participants agree today to buy or sell an asset at some future date. Money vs Capital Markets - Money markets are the markets for short-term, highly liquid debt securities. - Capital markets are the markets for intermediate or long-term debt and corporate stocks. Primary vs Secondary Markets - Primary markets are the markets in which corporations raise new capital. - Secondary markets are markets in which existing, already outstanding securities are traded among investors. Private vs Public Market - Private markets is where transactions are negotiated directly between two or more parties - Public markets is where standardized contracts are traded on organized exchanges.
Describe the three ratios discussed in this section and write their equations.
Price Earning (P/E) ratio show how much investors are willing to pay per dollar of reported profits Equation: (P/E) ratio= (Price per share/ Earning per share) Market Book (M/B) ratio of stock market price to its book value gives another indication of how investors regard the company. Equation: (M/B) ratio= (Market Price/ Book value price) Enterprise value/Ebitda (EV/EBITDA) Ratio That ratio of a firms enterprise value relative to its EBITDA. Equation: (EV/EBITA)= (enterprise value/ EBITDA)
What is Private Equity? - What is Venture Capital - What is a leveraged buyout?
Private equity companies are organizations that operate much like hedge funds, but rather than purchasing some of the stock of a firm, private equity players buy and then manage entire firms. Most of the money used to buy the target companies is borrowed. While private equity activity slowed around the financial crisis, over the past decade a number of high-profile companies (including H.J. Heinz, Dell Computer, Harrah's Entertainment, Albertson's, Neiman Marcus, Clear Channel, and Keurig Green Mountain) have been acquired by private equity firms. Venture Capital: capital invested in a project in which there is a substantial element of risk, typically a new or expanding business. Leveraged buyout: the purchase of a controlling share in a company by its management using outside capital.
What's the present value of $100 due in 3 years if the appropriate interest rate is 8% compounded annually? Compounded monthly? ($79.38, $78.73)
Pv=100/(1+interests rate)^n Pv=100/(1.08)^3 PV=79.38 Pv=100/(1+interest rate/n)^Nm PV=100/(1.0067)^36 Pv=78.73
By law, credit card issuer's must print their annual percentage rate on their monthly statements. A common APR is 18% with interest paid monthly. What is the EFF percent on such a loan?
Regarding this example the EFF% will be 19.5% The EFF formula is ( 1 + nominal rate / # of compounding periods) -1
How are a firm's revenues generated? How about its costs?
Revenues are generated over a period of time and is based on sales. Total operating costs are generated by adding operating costs and depreciation/amortization.
Who elects the Board of Directors? What is the responsibility of the COO? How about the CFO? How do these two branches work together?
Shareholders elect the Board of Directors. The the chief operating officer(COO) is often designated as a firms president, the COO directs the firms operations which include marketing, manufacturing, sales, and other operating departments. Chief financial officer (CFO) is generally a senior vice president in the third ranking officer. They are in charge of accounting, finance, credit policy, decisions regarding asset acquisition's, and investor relations, which involves communications with stockholders and the press Taking the time during due diligence to see if your CFO and COO have the individual capabilities as well as the ability to see eye to eye and understand each other's perspectives can ensure your team is ready to hit the ground running. And it can keep the business on pace to achieve its growth goals throughout the holding period.
Why does an annuity due always have a higher future value than an ordinary annuity?
Since payments are made sooner with an annuity due than with an ordinary annuity, an annuity due typically has a higher present value than an ordinary annuity. When interest rates go up, the value of an ordinary annuity goes down. On the other hand, when interest rates fall, the value of an ordinary annuity goes up.
Why does an annuity due have a higher present value than a similar ordinary annuity?
Since payments are made sooner with an annuity due than with an ordinary annuity, an annuity due typically has a higher present value than an ordinary annuity. When interest rates go up, the value of an ordinary annuity goes down. On the other hand, when interest rates fall, the value of an ordinary annuity goes up.
How has technology changed financial markets?
Technology has created a whole class of firms that use computer algorithms to buy and sell securities, often at speeds less than a second. The trades conducted by these high-frequency trading (HFT) firms now represent a very significant fraction of the total trading volume in a given day.
How does the United States tax structure influence the firms willingness to finance with debt?
The United States tax structure is set up to where a firm can finance with debt, interest counts as a deductible, so when a firm uses debt it lowers their tax bill. This is kind of a win win situation for a firm because although it has the debt still the interest is ina way taken off when they use it as a deductable.
Define the terms annual percentage rate (APR), Effective Annual Rate (EFF%), and nominal interest rate.
The annual percentage rate is a calculation of the interest rate for the entire year, it's what the borrower pays each year to borrow a given sum of money. The effective annual rate on the other hand is the "Real" return on a savings account ot other interest payments the formula gives you the actual percentage, lastly, nominal interest rate is the increase you pay in correlation for the money that you had borrowed, nominal interest does NOT take inflation into account.
What is retained earnings?
The cumulative total of earnings kept by the company during its life.
How might the different ages of firms distort comparisons of their fixed assets turnover ratios?
The different ages of firms distort comparisons of their fixed assets turnover ratios due to depreciation. Depreciation is a factor, because fixed assets are shown on the balance sheet at their historical costs less depreciation. So inflation causes assets to be undervalued. Therefore older firms will have a highere fixed asset turnover ratio because old firms have depreciated assets and new firms have assets that are depreciated.
What is market efficiency?:
When investors can buy and sell stocks and be confident that they are getting good prices. A market in which prices are close to intrinsic values and stocks seem to be in equilibrium.
What is the focus of Financial Management?
The focus is decisions relating to how much and what types of assets to acquire, how to raise the capital needed to purchase assets, and how to run the firm so as to maximize its value.
What inputs determine the stock's market price?
The market price of a stock is calculated by the "perceived" values of the same two metrics listed below. Rather the difference between the two is that investors don't have all the information as they would in question 6 and therefore these values can stray from the "true" numbers based on the emotions and trends within the investors of a certain stock.
What is the market price of a stock?
The market price of a stock is the price that the stock sells for on the market at a given point in time. This price can rapidly fluctuate throughout the day as traders buy and sell the stock. Market price features the principle of supply and demand, where a more demanded and not abundantly supplied stock might sell for more than a stock that is abundant while not very sought-after.
How does the present value of a future payment change as the time to receipt is lengthened? As the interest rate increases?
The present value of a future payment decreases as the time to receipt is lengthened and the present value falls faster as the interest rate increases.
Define Intrinsic Value:
The price at which the stock would sell if all investors had all knowable information about the stock.
Why does the use of debt lower the profit margin and the ROA?
The profit margin is based on Net income divided by sales. When a company takes on more debt their NET income (after interest expenses) decreases when NET income decreases and sales stay the same, profit margin will decrease. If a company takes on more debt then the ROA will also decrease, ROA = NET income / total assets, in this case, the formulas are the same, sub sales for total assets, and thus if assets remain the same then ROA will decrease.
Are stocks always in equilibrium?
The short answer is no, stocks are not always in equilibrium. Ultimately it is up to the firms management to make decisions that keep stockholders informed to make better estimates of the firms intrinsic value, in turn keeping the stock closer to equilibrium price.
What is the intrinsic value of a stock?
The two inputs which determine the intrinsic value of the stock, rather the more accurate valuation of the company, is the true risk and true investor cash flow associated with the stock. In other words, the "true" values of each input are the value estimated by investors if they had all the information about the business available to them. The intrinsic value of a stock is an estimate of its "true" value based on data describing the accurate risk and return of the stock. The intrinsic value of a stock is not a precise measurement.
What question are the two liquidity ratios designed to answer?
The two liquidity ratios, the current ratio, and the quick, or acid test, ratios, are designed to answer the question "will the firm be able to pay off its debts as they come due and thus remain a viable organization?".
What is a commercial bank? Give an example.
They are the "department stores of finance" because they serve a variety of savers and borrowers. These are the banks you see on the street such as: Chase, Wells Fargo, Bank of America, etc.
What is an investment bank? Give an example.
They traditionally help companies raise capital. Additionally, they help corporations design securities with features that are currently attractive to investors, they then buy these securities from the corporation, and resell them to savers.
If one firm is growing rapidly and another is not, how much this distort a comparison of their inventory turnover ratios?
This would make it appear that the slower-growing firm is holding on to its inventory.
Who demands capital? Who supplies capital?
Typically those demanding capital, or those needing funds for a purchase, are a corporation, home purchaser, small business, or government unit. Those who supply capital are financial intermediaries such as a commercial bank or a mortgage banker.
A company's sales in 2019 were $100 million. If sales grow at 8%, what will they be 10 years later, in 2029?
With a calculator, input N = 10, I/YR = 8, PV = −100000000, and PMT = 0; then press FV to get 215,892499.7. OR Given: N=10, I/YR = .08, PV = 100,000,00, and PMT = 0 Equation: FV = PV(1+i)^n FV = 100,000,000(1+.08)^10 = 215,892,499.7 or $215.89 million This means that in 2029, the sales for that year will be $215.89 million given that the sales grow at 8% each year from the 2019 sales of $100 million.
What equations are used to figure out retained earnings?
You can use the stockholder equity equation. Stockholder Equity= Paid in Capital + Retained Earnings Or Retained Earnings= Paid in Capital- Stockholder equity
Define Equilibrium:
he price that balances buy and sell orders at any given time. When a stock is in equilibrium, the price remains relatively stable until new information becomes available and causes price to change.
What's the difference between an ordinary annuity and an annuity due?
payments occur at the end of the year, while an annuity due is at the beginning.