All Flashcards

Question

What is the significance of a strong relationship with the bank in working capital finance?

Answer 1

Encourages the use of short-term finance as it increases the likelihood of overdraft availability ## Footnote A strong relationship can provide more security when seeking short-term funding.

Answer 2

Weak ability to raise long-term finance increases the need for short-term finance ## Footnote This is often seen in smaller organizations or those with a history of poor long-term finance management.

Answer 3

Listing of existing shares without any new finance being raised or any capital being issued

Answer 4

Share capital is increased by the nominal value of the shares issued. ## Footnote This reflects the accounting treatment where the nominal value increases the equity section of the balance sheet.

Answer 5

Retained profits (or another equity reserve) is decreased by the same amount as the nominal value of the shares issued. ## Footnote This adjustment ensures that the total equity remains balanced after the issuance.

Answer 6

False. ## Footnote No cash is raised as the shares are issued without payment.

Answer 7

[nominal value] ## Footnote This refers to the face value of the shares rather than their market value.

Answer 8

Voting rights. ## Footnote This means shareholders have a say in company decisions proportional to their shareholding.

Answer 9

Shareholders are indifferent between dividends and capital gains in a tax-free world and with no transaction costs. ## Footnote This theory suggests that the value of a company is determined by its investment decisions rather than its dividend and financing decisions.

Answer 10

The company's investment decisions. ## Footnote Dividends and financing decisions do not affect the company's value.

Answer 11

no cost. ## Footnote This implies that shareholders can create their own cash flow through capital gains.

Answer 12

False. ## Footnote The theory posits that the value is based on investment decisions, not dividends.

Answer 13

They could cut dividends to finance investments. ## Footnote This is because shareholders can generate their own cash flow without incurring costs.

Answer 14

NPV/PV of after tax revenues

Answer 15

Risk refers to the situation where probabilities can be assigned to a range of expected outcomes arising from an investment project.

Answer 16

Uncertainty refers to the situation where probabilities cannot be assigned to expected outcomes.

Answer 17

Investment project risk increases with increasing variability of returns.

Answer 18

Uncertainty increases with increasing project life.

Answer 19

Sensitivity analysis assesses how the net present value of an investment project is affected by changes in project variables.

Answer 20

It determines the change in the variable required to make the net present value (NPV) zero or the change in NPV arising from a fixed change in the project variable.

Answer 21

Sensitivity analysis does not assess the probability of changes in project variables.

Answer 22

Probability analysis is a technique used in investment appraisal to assess the likelihood of different outcomes (e.g., profits, losses, or returns) for a project. It helps decision-makers understand risk and uncertainty by assigning probabilities to different scenarios.

Answer 23

A range of expected market conditions could be formulated and the probability of each market condition arising in several future years could be assessed.

Answer 24

The expected net present value, the probability of the worst-case scenario, and the probability of a negative net present value.

Answer 25

The model generates thousands of possible outcomes by randomly selecting values from these distributions

Answer 26

Monte Carlo analysis is a simulation model that can estimate project outcomes based on various key factors.

Answer 27

The expected (average) NPV and the standard deviation (dispersion) of NPV.

Answer 28

A higher standard deviation figure indicates higher project risk.

Answer 29

Look at gearing, interest cover, eps, dps, operational gearing

Answer 30

Performance-related pay – however, relating pay or bonuses to profits include short-termism Executive share option scheme − the evidence is mixed regarding the success of such schemes in motivating directors to improve performance Long-term incentive plans (LTIPs) – paying a bonus to directors if the company's performance over several years is good when benchmarked against competitors. Transparency in corporate reporting. Increased shareholder activism (e.g. using voting rights). Improved corporate governance (e.g. appointing genuinely independent non-executive directors).

Answer 31

policies which focus on creating the right conditions in which private enterprise can grow and raise the capacity of the economy to provide the output demanded

Answer 32

Certificate of deposit municipal notes - short term debt issued by cities in anticipation of future tax receipts or other revenues Repo agreements - short term loans arranged by selling securities to an investor and repurchasing them at a fixed price on a specific date

Answer 33

commercial paper treasury bills bill of exchange banker's acceptance

Answer 34

one in which the market price of all securities traded on it reflects all the available information

Answer 35

one which responds immediately to the information made available to it.

Answer 36

does the market attract funds to the best companies?

Answer 37

is all relevant information available to all investors at low cost?

Answer 38

do share prices quickly and accurately reflect all known information about the company? This is also referred to as information processing efficiency.

Answer 39

does the market have low transaction costs and a convenient trading platform? These features promote a “deep” market with high liquidity (i.e. a high volume of transactions with low transaction costs)

Answer 40

Share prices reflect all the information contained in the record of past prices. Share prices will follow a random walk. If this efficiency level has been achieved, it should not be possible to forecast price movements by reference to past trends.

Answer 41

Share prices reflect all information currently publicly available. Therefore, the price will change only when new information is published.

Answer 42

Share prices reflect all information, published and unpublished, that is relevant to the company. If this efficiency level has been reached, share prices cannot be predicted, and gains through insider dealing are impossible as the market already knows everything.

Answer 43

Market efficiency relies on investors actively buying/selling shares to create a liquid market where fair prices emerge. Investors will actively trade shares if they believe that bargains are available (a signal to buy) and other shares are overvalued (a signal to sell). However, if the market is efficient, such mispriced shares will not exist. This is the paradox of efficient markets – investors must believe that the market is inefficient so that it becomes efficient

Answer 44

Sharia board is responsible for ensuring that all products and services offered by an institution comply with the principles of Sharia law; it is usually made up of a committee of Islamic scholars

Answer 45

charging and receiving interest investment in companies with too much debt investment in businesses dealing with alcohol, drugs, gambling uncertainty about subject matter of contracts including a prohibition on selling something one does not own

Answer 46

trade credit where a bank buys the asset and then sells it to the customer on a deferred basis at a price that includes an agreed mark-up. The markup cannot be increased, even if the client does not take the asset within the time agreed in the contract.

Answer 47

lease finance whereby the bank buys an item for a customer and then leases it back over a specific period at an agreed amount. he customer's payments include a contribution to the purchase price, rent for use of the property and insurance charges. At the end of the finance term, the customer can exercise an option to have the property transferred into their name.

Answer 48

a joint venture or partnership between two parties provides capital for financing new or established projects. Profits are shared on a pre-agreed ratio, with losses shared based on the relative amounts of equity invested.

Answer 49

this involves Islamic bonds where the sukuk holders' return for providing finance is a share of the income generated by the project's assets.

Answer 50

Islamic banks voluntarily pay their customers a "gift" on savings account balances. This gift represents a portion of the profit made using those balances in other activities.

Answer 51

this involves a loan extended on a goodwill basis, and the debtor is only required to repay the amount borrowed. However, the debtor may, at their discretion, pay an extra amount to the creditor.

Answer 52

a bank provides all the capital, and its customer provides expertise and knowledge and invests the capital. Profits generated are distributed in a predetermined ratio. Any losses are borne by the capital provider, thereby exposing the bank to considerable investment risk.

Answer 53

simple to calculate easy to understand concentrates on earlier cash flows which are more certain focuses on recovering original capital asap to exploit new investment options

Answer 54

ignores cash flows after payback target period is subjective ignores time value of money gives no information about change in shareholder wealth

Answer 55

Liquidity preference: money received today can be spent or reinvested to earn more. Therefore, investors have a preference for having cash/liquidity today. Risk: cash received today is safe; future cash receipts may be uncertain. Inflation: cash today can be spent at today's prices, but the value of future cash flows may be eroded by inflation.

Answer 56

A direct sale to the general public. This is generally the most expensive method of issuing new shares.

Answer 57

An indirect sale to the public is achieved by selling shares directly to an issuing house (merchant/investment bank), which then sells them to the public. (The issuing house guarantees to buy the shares.)

Answer 58

In a placing, the sponsor (typically an investment bank) places the shares with its clients (usually pension funds and insurance companies) rather than offer shares to the general public. This is generally the least expensive method of issuing new shares.

Answer 59

An offer to existing shareholders to buy new shares in proportion to their existing holdings.

Answer 60

Like an auction, with the public being invited to bid for shares. It is useful where setting a price for the shares is difficult.

Answer 61

No shares (neither existing nor newly created) are made available to the market, so no new finance is raised. Stock market grants a quotation, given that shares must already be widely held, so that a market can be seen to exist.

Answer 62

become quoted stay unquoted engage in an introduction

Answer 63

reserves (e.g. revaluation surplus or share premium accounts) are converted into share capital, which is distributed as new shares to existing shareholders in proportion to their existing holdings). Purpose is to increase the marketability os shares

Answer 64

Sales/capital employed

Answer 65

Cash from operations/interest

Answer 66

Easy to use Available for many currencies Low or zero up front costs

Answer 67

Fixed date - must be exercised on that specific date Unattractive rate Counterparty risk

Answer 68

Both lock in an exchange rate to be used in the future now. Forwards at OTC and customizable futures are standardized and can be traded. Futures are also separate from the actual transaction and futures can be used on any date up to the expjry date but forwards have to be used on the agreed date

Answer 69

assumes zero lead times and no bulk purchase discounts Ignores the need to increase order sizes Ignores fluctuations in demand Ignores benefit of holding inventory Ignores hidden costs of holding inventory

Answer 70

Does not incorporate impact of seasonality Estimates used may be based on historic information

Answer 71

Expertise Reduced borrowing Economies of scale Improved risk management Lower cash balances

Answer 72

A manager who believes his actions will have direct effect on the stock market

Answer 73

Situation where investors over emphases their abilities to evaluate securities or the belief that that are generally correct

Answer 74

Present value of redemption option of loan note

Answer 75

Invoice in domestic currency passes the exchange risk to the consumer Lagging - delay payments or receipts in a foreign currency until a favorable rate is expected Leading - accelerating payments or receipts in a foreign currency when unfavorable rate is expected Netting - offsetting receivables ad payables (inter company transactions) in different currencies between subsidiaries or counter parties and only settling the net difference Matching - aligning income and expenses in the same currency to avoid unnecessary currency conversions

Answer 76

A contract with a bank to fix an exchange rate on a specific amount payable or receivable at a future date at an exchange rate agreed now. It is customizable and available for various currencies. Cannot be used to hedge in the long term

Answer 77

Low set up costs Available for many currencies Flexible and easy

Answer 78

Counterparty risk Has it be exercised on that date Unattractive rate

Answer 79

Fix a standard quantity on agreed future date at a rate agreed now. They are standard and not customizable, can be traded and they expire at the end of each quarter and can be used any date up until expiry date. Unlike futures they are not done on a specific amount payable

Answer 80

Valid for a period of time Counterparty risk is lower since futures exchange guarantees the transaction

Answer 81

Only available in large, standard contract sizes and for narrow range of currencies Risk that futures exchange rates do not move exactly in line with spot rates so hedge is not effective (example of basis risk) To cover potential losses, a company using futures may have to place a deposit (margin) with the futures exchange which may need to be topped up on a daily basis if the contract is incurring losses

Answer 82

Right of an option holder to buy (call) or sell(put) a quantity of currency in exchange for another at an exchange rate on or before expiry date

Answer 83

Valid for a period of time Can be sold if not needed Allows a company to benefit from favorable exchange rate movements

Answer 84

Premium has to be made upfront and can be expensive Available for narrow range of currencies Risk

Answer 85

Parties agree to swap equivalent amounts of currency or payments for a period and pay interest to each other over time. It is a long term method of reducing exchange risk exposure

Answer 86

Is the idea that the same basket if goods in one country should cost the same in different countries when prices are converted into a common currency. High inflation erodes purchasing power Andover time leads to a fall In currency

Answer 87

The difference in interest rates between two countries will cause the currency of the country with the higher interest rate to depreciate relative to the currency of the country with the lower interest rate

Answer 88

Fisher effect - high inflation leads to high interest rates and low inflation leads to low interest rates Purchasing power parity theory - high inflation leads to low currency over time and low inflation leads to gain in currency value International fisher effect - countries with high interest rates their currency weakens and countries with low interest rates their currency appreciates IRP - if one country has higher interest rates their currency future or forward rate adjusts to cancel out arbitrage opportunities and prevents easy profits from borrowing in one currency and investing in another

Answer 89

Smoothing : using a mix of fixed and floating rate finance to mitigate interest rate changes Matching: creating assets based on the same interest rates as their liabilities

Answer 90

Agreement with a bank to converting a specific amount to be borrowed at a future date on an interest rate agreed now

Answer 91

1. A currency forward locks in an exchange rate for an actual future currency transaction. It ensures that when you exchange money in the future, you get a predetermined rate. You will physically exchange currencies at that rate when the contract matures. 2. A Forward Rate Agreement (FRA) locks in an interest rate for a future period on a notional amount of money. However, no actual loan or deposit takes place. Instead, when the contract matures, one party pays the other the difference between the agreed interest rate and the actual market rate. It’s purely a cash settlement, not a real money exchange.

Answer 92

Problems in meeting obligations as they fall due as insufficient current assets to cover current liabilities

Answer 93

Smoothing - using a mix of fixed and floating rate finance to mitigate the impact of interest rate changes and matching - creating assets that are based on the same interest rates as their liabilities

Answer 94

Share option attached to a debt issue in order to make the debt more attractive to investors

Answer 95

Allows a small company to take advantage of a large customers high credit rating

Answer 96

A type of preference share that gives the holder the right to receive an additional dividend in addition to a fixed percentage of the share’s nominal value

Answer 97

Commercial paper because the riskier investment gives higher returns

Answer 98

Pat-pref div/ordinary dividend Measures the risk of not receiving dividends

Answer 99

Pat- pref div + pds adjustments/weighted avg of ordinary shares + PDS

Answer 100

Cash generated from operations/interest expense

Answer 101

Pat-pref div/ordinary shares

Answer 102

An options which protects the holder from falling interest rates but allows participation in rising interest rates

Answer 103

Single period model - does not adjust for different planning horizons Estimating beta factor Assumes diversified portfolios Ignores the impact of smaller companies

Answer 104

Div is constant in perpetuity which does not support how dividends change in practice Estimating future growth rate is difficult Assumes business risk and business operations are constant in the future but companies and their economic environment are subject to change CAPM assumes investors hold diversified portfolios and as a result only seek compensation for the systematic risk of an investment. So CAPM tells us that cost of equity should be given an individuals company level of systematic risk

Answer 105

People prefer liquid assets like cash rather than invest in less liquid assets

Answer 106

Long term rates higher than short term rates and indicates a healthy economy with expected growth

Answer 107

Long term rates lower than short term rates Often a warning sign for recession

Answer 108

Difference between amounts interest sensitive assets and liabilties

Answer 109

Int x ex int mkt value (div/before tax cost of debt)

Answer 110

Annual cash flows/initial investment

Answer 111

Investment/cash flows Use solution to find from the annuity table the rate closest to answer which will be the IRR

Answer 112

To determine value of a private company To aid in decisions on buying/selling shares in private companies Value companies entering the stock market Value subsidiaries/divisions for disposal Determine the maximum price to acquire a listed company

Answer 113

P/E ratio x PAT and pref Div

Answer 114

P/E ratio x EPS

Answer 115

Finance for the project does not alter company’s financial risk Project exposes investors to the same level of business risk If these change investors will expect different return to compensate for change in risk

Answer 116

Variability in company’s operating earnings determined by general business and economic conditions

Answer 117

Additional variability in returns due to introducing fixed interest debt in the capital structure

Answer 118

Increased credit risk, distress costs, agency costs and high level of financial risk

Answer 119

How a company is financed whether by debt or equity does not matter because a firms value is based on profits and not on whether it uses debt or equity. There is no optimal Structure and a company’s value is only affected by its investment decisions and not how it is financed

Answer 120

There is an optimal gearing level because taking on more debt decrease tax payments and since company risk has not changed, WACC must fall

Answer 121

Using some debt is good because it is cheaper than equity but using too much is risky and can reduce a company’s value. There is an optimal gearing level and capital structure at which WACCis minimized

Answer 122

A situation where there is not enough funds to finance all positive NPV projects. Capital is limited

Answer 123

Capital markets limit amount of funds available Market is unable or unwilling to invest Market views entity as high risk Economic downturn affecting availability of funds in market Lack of info about the company

Answer 124

Avoiding equity finance as this will dilute control of existing shareholders

Answer 125

NPV/inital investment

Answer 126

They believed that there is a relationship between financial risk and cost of equity and ignoring corporate tax the rising cost of equity would balance the impact of using cheap debt leaving the WACC unaffected by capital structure. But taking tax into account, debt becomes cheaper and the WACC falls as gearing rises

Answer 127

Constant dividend is paid but shareholders may be dissatisfied if earnings are rising and dividends being received are still low

Answer 128

Dividend grows relative to earnings

Answer 129

Dividend paid as a fixed proportion of each years earnings

Answer 130

Dividend is paid after funding all NPV projects

Answer 131

No dividend is paid this is usually for start ups and if the company lacks access to external finance

Answer 132

Different types of investors prefer different dividend policies based on their financial needs and tax situations.

Answer 133

Investors prefer to receive higher dividends and lower capital gains because cash today is without risk whereas future share price growth is uncertain

Answer 134

Selling selected sales invoices to a third party for a discounted cash sum while retaining full control over the receivables ledger

Answer 135

The forward rate is an unbiased estimate of the future spot rate

Answer 136

An agreement where two parties exchange the principal amount of a loan and the interest in one currency for the principal and interest in another currency

Answer 137

The risk that variable interest rates are determined on different bases

Answer 138

Arises when the amount of liabilities maturing at a specific time exceeds the assets maturing simultaneously

Answer 139

When the amount of assets maturing at a specific time exceeds the amount of liabilities maturing simultaneously

Answer 140

Issued at a substantial discount to nominal value and are redeemable at their nominal value or above on maturity

Answer 141

Issued at a discount to nominal value and pay no coupon

Answer 142

Acknowledgement of a debt to be paid on a stated date

Answer 143

Wealthy individuals prepared to invest money and time in small companies if they see high growth potential

Answer 144

Enables individuals to lend money to small businesses without using an official financial institution as an intermediary

Answer 145

The lower interest rate required due to the attraction of the option of conversion to equity

Answer 146

Earnings manipulation Historical figures A suitable proxy may not exist Loss making companies give a negative value

Answer 147

E/Y Ordinary share price = EPS/earnings yield

Answer 148

p/E x pat - pref div

Answer 149

Investors who do not base buy/sell decisions on rational analysis, they follow trends, overreact to good or bad news and have poor timing

Answer 150

Avoid investments that may carry a risk of incurring losses even though analysts suggests they may experience growth in the long term Prefer to invest in companies that look likely to make stable profits and avoid those who make high profits in some years and low profits in other years

Answer 151

They only seek information supporting their beliefs

Answer 152

Dividend x nominal value/yield or return on equity

Answer 153

Ex int market price/required return or yield or the pre tax cost if irredeemable loan notes

Answer 154

Market value - current conversion value

Answer 155

Investors all require the same rate of return Dividends are paid once a year and one year apart The grow constantly in perpetuity Perfect capital markets

Answer 156

Kpref = div x nom value /ex int mkt value

Answer 157

kd = interest/ex int mkt value Remember costs to investor is done at pre tax rate so don’t calculate tax

Answer 158

Kd = int/ex int mkt value post tax

Answer 159

Investors who lack the confidence to make their own judgments and so follow the investment strategies of others are called

Answer 160

Investors who lack the confidence to make their own judgments and so follow the investment strategies of others

Answer 161

Explains links in the yield curve - if investors prefer to hold short term treasury bills this will push up their market price and reduce their yield causing a kink in the yield curve between short and medium term yields

Answer 162

Can explain a downward sloping yield curve - if investors expect interest rates to fall they will buy long term fixed interest loan notes pushing up their price and reducing the yield

All Flashcards

(227 cards)