Finance 330 midterm – Flashcards
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Finance
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the science and art of managing money
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Finance level on Personal Level
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concerned with... -how much earnings they spend -how much they save -how much they invest in their savings
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Finance in Business Context
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-how firms raise money from investors -how firms decide to reinvest profits in the business or distribute them to investors
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financial services
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concerned with the design and delivery of advice and financial products to individuals, business, government
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sole proprietorship
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business owned by 1 person and operated for his or her own profit
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partnership
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business owned by 2 or more people and operated for profit
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corporation
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entity created by law, has legal powers of an individual, -can sue and be sued -make and be party to contracts -acquire property in its own name
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decision rule for managers
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only take actions that are expected to increase share price
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stakeholders
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groups such as employees, customers, supplies, creditors, owners and others who have a direct economic link to the firm
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business ethics
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the standards of conduct or moral judgment that apply to persons engaged in commerce
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marginal cost-benefit analysis
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economic principle that states that financial decisions should be made and actions taken only when added benefits are greater than added costs
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corporate governance
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refers to rules, processes, and laws by which companies are operated, controlled, and regulated -defines rights and responsibilities of corporate participants
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principal-agent relationship
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an arrangement in which an agent acts on behalf of a principal -shareholders of a company (principals) elect management (agents) to act on their behalf
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agency problems
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arise when managers place personal goals ahead of the goals of shareholders
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agency costs
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arise from agency problems that are borne by shareholders and represent a loss of shareholder wealth
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incentive plans
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management compensation plans that tie management compensation to some price -granting stock options
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performance plans
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tie management compensation to measures such as EPS or growth in EPS
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financial institutions
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intermediaries that channel the savings of individuals businesses and governments into loans or investments
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commercial banks
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provide savers with secure place to invest their funds and that offer loans to individual and business borrowers
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investment banks
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assist companies in raising capital, advise firms on major transactions, engage in trading and market making activities.
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Glass-Steagall Act
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1933 congress act that created the federal deposit insurance corporation and separated the activities of commercial and investment banks -Established the FDIC
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shadow banking system
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group of institutions that engage in lending activities, but do not accept deposits -therefore, not subject to regulations as traditional banks
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financial markets
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forums in which suppliers of funds and demanders of funds can transact business directly
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primary market
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financial market in which securities are initially issued, only market in which the issuer is directly involved in the transaction
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securitization
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the process of pooling mortgages or other types of loans and than selling claims or securities against that pool in the secondary market
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security
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a tradable financial asset of any kind
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secondary market
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financial markets in which pre-owned securities (those that are not new issuers) are traded
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money market
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created by a financial relationship between suppliers and demanders of short term funds -transactions are made in marketable securities
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capital market
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market that enables suppliers and demanders of long-term funds to make transactions securities are; Bonds, Common Stock, Preferred Stock
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Bonds
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long-term debt used by businesses and government to raise large sums of money
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common stock
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units of ownership interest or equity in a corporation -typically comes with voting rights
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preferred stock
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a special form of ownership that has features of both a bond and common stock
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broker markets
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securities exchanges on which the 2 sides of a transaction, buyer and seller, are brought together to trade securities -NYSE, American Stock Exchange
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dealer markets
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market in which buyer and seller are not brought together directly but have orders executed by securities dealers that "make markets" in the given security *on the over-the-counter market -Nasdaq
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role of capital market (firms perspective)
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to be a liquid market where firms can interact with investors in order to obtain valuable external financing resources
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role of capital market (investor's perspective)
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to be an efficient market that allocates funds to their most productive uses
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mortgage-backed securities
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represent claims on the cash flows generated by a pool of mortgages
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risk associated with mortgaged-backed securities
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homeowners may not be able to, or may choose not to, repay their loans
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Federal Deposit Insurance Corporation (FDIC)
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provides insurance for deposits at banks and monitors banks to ensure their safety and soundness
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Generally Accepted Accounting Principles (GAAP)
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the practice and procedure guidelines used to prepare and maintain financial records and reports
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income statement
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provides a financial summary of a company's operating results during a specific period
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balance sheet
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presents a summary of a firms financial position at any given point in time
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statement of retained earnings
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reconciles the net income earned during a given year, and any cash dividends paid
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statement of cash flows
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provides summary of the firm's operating, investment, and financing cash flows and reconciles them with changes in its cash and marketable securities during the period
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agency theory
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the study of issues arising from the separation of ownership and management
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ratio analysis
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involves methods of calculating and interpreting financial ratios to analyze and monitor the firms performance
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cross-sectional analysis
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the comparison of different firms financial ratios at the same point in time
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time-series analysis
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evaluation of the firms financial performance over time using financial ratio analysis -assesses a firms progress
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most informative analysis approach
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combine cross sectional and time series analysis
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benchmarking
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type of cross-sectional analysis in which the firm's ratio values are compared to those of a key competitor that it wishes to emulate
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problems with using ratio analysis
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-large deviations from norms mean POSSIBILITY of problem -single ratios don't provide enough info for overall performance -results can be distorted by inflation
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current ratio
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measures the firms ability to meet short term obligations
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total asset turnover
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indicates the efficiency with which the firm uses its assets to generate sales
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debt ratio
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measures proportion of total assets financed by firm's creditors
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gross profit margin
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measures % of each sales dollar remaining after the firm has paid for its goods
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net profit margin
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% of each sales dollar remaining after all costs and expenses have been deducted
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market ratios
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relate to a firm's market value, as measured by its current share price, to certain accounting values
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cash flow
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the primary ingredient in any financial evaluation model
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cash flow (accounting perspective)
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cash flow is summarized in a firm's statement of cash flows
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cash flow (financial perspective)
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firms focus on both operating and freeing cash flow
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depreciation
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the portion of the costs of fixed assets charged against annual revenues over time
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Modified Accelerated Cost Recovery System (MARCRS)
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used to determine deprecation of assets for tax purposes -the depreciable value of an asset is its full amount -depreciable life of an asset is determined by its MARCRS recovery pre determined period
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operating cash flow
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cash flow a firm generates from normal operations
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free cash flow
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amount of cash flow available to investors after the firm has met all operating needs and paid investments in fixed current assets
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future value
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value at a given future date of an amount placed on deposit today and earning interest at a specified date
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compound interest
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interest that is earned on a given deposit and has become part of the principal at the end of a specified period
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compounding interest more than annually
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multiply n by number of compounds divide interest by number of compounds
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principal
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amount of money on which interest is paid
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present value
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current dollar value of a future amount- the amount of money that would have to be invested today at a given interest rate over a specified period to equal the future amount
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discounting cash flows
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process of finding present values; the inverse of compounding interest
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annuity
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stream of equal periodic cash flows, over a specified time period. These cash flows can be inflows of return of outflows of return
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ordinary (deferred) annuity
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an annuity for which the cash flow occurs at the end of each period
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annuity due
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annuity for which the cash flow occurs at the beginning of each period
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perpetuity
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an annuity with an infinite life -providing continual annual cash flow
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loan amortization
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the determination of the equal periodic loan payments necessary to provide a lender with a specified interest return and to repay the loan principal over a specified period
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sole proprietorship and partnership (liabilities)
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unlimited liability - creditors can claim against personal assets
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corporation (liabilities)
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limited liability -guarantees owner can lose more than what they invested
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chief executive officer (CEO)
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-appointed by board of directors -official responsible for managing the firm's day-to-day operations -carries out policies established by board of directors
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board of directors
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-elected by firm's stockholders -responsible for approving strategic goals and plans
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nominal (stated) annual rate
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contracted annual rate of interest charged by a lender or promised by a borrower
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effective (true) annual rate
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the annual rate of interest actually paid or earned
