Economics II Flashcards
(107 cards)
1
Q
Debt
A
Lending from banks or bond buyers
2
Q
Equity
A
Selling shares/stake
Publicly / Privately
3
Q
Retained Profit
A
Previous years profit not distributed to share holders as dividends
4
Q
Trade Credit
A
Pay suppliers later than they get paid
5
Q
Invoice Discounting
A
Selling trade debt for a fee
6
Q
Free Cash Flow
A
Operating Cash Flow - Capital Expenditure
Cash gener from revenues - acquir/maintain fixed assets
7
Q
Operating Expenditure
A
Ongoing cost to running a business
8
Q
Simulation
A
Estimation of probabilities of different possible outcomes
9
Q
Break-Even Analysis
A
Analysis of level of sales at which the project breaks even
10
Q
Exogenous
Endogenous
A
Internal Cause
External Cause
11
Q
Option Pricing
A
A contract giving purchaser right to buy asset in future at specified strike price.
Protect material price changes
Option seller must have asset to hand
12
Q
Intrinsic Value
A
Difference between strike price and underlying asset
13
Q
Iron Triangle of PM
A
Time, Cost, Scope and Quality
14
Q
Sensitivity Analysis
A
Analysis of effect of changes in one variable
15
Q
Scenario Analysis
A
Project Analysis given particular combination of assumptions
16
Q
CAPM Model
A
Cost of Equity Ke = Rf + B(Rm - Rf) Rf - Risk Free B - Risk Estimate Rm - Risk Market CAPM > 1 - Firms move more than marker more risk
17
Q
ROSF
A
(Net Profit after interest payment) / (Shareholder Funds)
Single Year rate of return on each unit of share capital
Narrow assessment of profitability
18
Q
Capital Employed
A
Total Assets - Current Liabilities (Debt + Equity)
19
Q
ROTA
A
2 Part Du Pont
PBIT / TA = (PBIT / T) x (T / TA)
Relationship of OP margin + its asset turnover ratio
20
Q
ROCE
A
3 Part Du Pont
PBIT / TA = (PBIT / T) x (T / TA) x (TA / K)
Efficiency of which its capital is employed
Higher % the better
21
Q
ROE
A
5 Part Du Pont
PAIT / E =
(PBIT / T) x (T / TA) x (TA / K) x (PAIT / PBIT) x (K / E)
22
Q
Capital Worth
A
Total Assets - Total Liabilties
23
Q
Developers into 2 types
A
Speculative - Develop and Sell/Rent
Owner-user - Develop and use as part of the business
24
Q
Net Present Value
A
Comparing cost of project with future value of revenue discount rate applied so it can be compared with alternative investments
25
Developer J-Curve
Initial High Risk -ve cost costs (trough high risk period)
Trade Credit / off plan sales reduce risk and cash inflow
Cash revenues increase as costs get smaller
26
End of a project
Divestment in Fixed Costs - Plant/equipment moved/sold
| Divestment in Working Capital - inventory sold accounts receivable collected
27
3 Components of Cash Flow
-ve cashflow from investment in fixed assets
-ve cashflow from investment in working capital
+ve cashflow from operations (revenue)
28
Payback Definition
Time taken to recover initial investment
| Packback period < specified cut off period
29
Delay Causes in PFI Projects
42% - PM issue / subcontractor under finance/resourcing
15% Jarvis PLc (railway) financial difficulties
6% - Planning permission issue / dispute between parties
30
Uncertainty vs Risk
Uncertainty cannot be quantified, unknown risk
Risk is measurable and can be quantified
Actuaries collect data
31
Exchange Rate Risk Mitigation
Forward Contracts - Lock agreed exchange rate Option
Price Variance Clauses - Client agrees to take some exposure, as full hedge is expensive
Hedging - Buy asset that will do opposite if euro crashes
32
Asymmetric Information
Where one party has more info than another
33
Securitisation / NINJA
Allowed mortgage obligations to be pooled together to create financial products that could be resold via capital markets
No Income No Jobs or Assets
34
Dutch Books
A set of odds and bets which guarantees a profit regardless of the outcome of the gamble
35
Moral Hazard
One party gets involved in a risky event knowing that it is protected against the risk and the other party will incur the costs
36
PFI
Type of Public Private Partnership
Private firms paid more to complete gov contracts FIXED
Integrated Public Procurement
700 projects signed 2013 Mar 9.6bn ann gov liabiliti 13/14
37
PF2
Increased equity 15% from 10%
No soft facilities management
Only really used for schools and road project investments
38
Profit Margin
PBIT / Turnover
39
Interest Tax Burden
PAIT / PBIT
40
ROCE
PBIT / Capital Employed
41
Gearing
Total Assets / Capital Employed
| Ratio of companies debt to value of ordinary shares
42
Asset Turnover
Turnover / Total Assets
43
Ponzi Scheme
Operator generates funds for old investors w/ new ones
High risk FCF < INterest + principle payment
Constant Short run refinancing, increasing pot insolvency
44
ADCSR
Ratio determining how many times your turnover is over your debt repayment
45
Hedge
A risk management technique to reduce losses/gain/risk
Least risky FCF > principle + interest payment
FCF < Annual Debt Cover Service Ratio
Liquid asset kicker - margin of safety superfluous to ops
46
Speculative
Medium Risk
FCF > Interest payments
Trading in an asset, risk losing everything or substantial gain
Risk insolvency if variable interest rates incre above limit
Pay interest on loan/refinance in future to pay principal
47
Flows of Funds into a company
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Sales Revenue
Gross Trading Profit - Current CoProdu/Interest Payment
Taxable Profit - Taxation
Net Profit - Dividends
Retained Earnings
```
48
Internal Cash Flow
New Equity, New Creditors, New LT debt Finance
| New Investment expenditure, Repayment of loans, increase financial assets
49
Capital Intensity
Requiring of large amounts of resources in order operate
50
Residual Claimant
After all costs of production have been paid the money left is to the residual claimants
51
Securitisation Advantages
```
Can be low risk ideal for pension funds
Regular and consistent cash flow
AAA credit ratings
Assets removed from the business onto SPV
Pass on the risk
```
52
Special Purpose Vehicle
A subsidiary company with asset/liability structure and legal status to fulfil narrow.specific/temporary objectives. Isolate from firm to reduce risk..
53
CDO
Collaterised Debt Obligation
| Debt, range of returns some more/less risky
54
Banking Crisis
More people invest in CDO's and demand increases
Banks try to increase supply by offering more mortgages
People who can afford them already have them
Banks offer to people that cannot afford them NINJA
Defaulting turns CDO's into houses and they put them on the market
High supply reduces price and housing price collapses
55
Securitisation Disadvantages
More complicated way of funding than bank loans
People default and have asset rather than income
Can cause global financial crisis
56
Market Risk
Risk affecting whole market
Cannot be diversified
Systematic Risk
57
Idiosyncratic Risk
Risk specific to a firm or industry
| Can be diversified
58
Advantages of Equity
Less risk, no monthly loan repayments
Dont take funds out of business
Credit problems only option
59
Disadvantages of Equity
Investors return could be higher than interest payments
Loss of control
Potential conflict
60
Advantages of Debt
Control, once debt is repaid tie is severed
Loan interest is tax deductible, dividends not
Predictability of cash flow, agreed in advance
61
Disadvantages of Debt
Qualification, need to have high credit rating
Fixed payments bad for unpredictable cash flow
Collateral risk
62
Land Banking
Large areas of land waiting to be developed on
63
Government Bonds
Debt security issued by government to fund spending
Backed by the credit of government so risk free
Predictable income, greater guarantee and risk free
64
NPV
Overall value of inward cash flows in excess of outward cash flows in present value terms
Accept investment if NPV is positive
65
Adv/Disadv of NPV
Recognises time Value of money
Takes into account entire inflows and returns
Projects may have unequal lives, returns or costs
66
Finance
Pays at the beginning
67
Funding
Pays at the end
Gov funding: tax payer funds eventually (education/health)
User funding/private revenues: individual user via charging (toll, road, utilities)
68
Private Finance
Banks and equity investors wanting a return
| Financed by the gov borrowing money from private investors to pay for specific projects.
69
Public Government Finance
Lend against future tax revenues.
Public infrastructure, can be financed by the government earning future revenue from tax, which then is used to pay for specific projects.
70
Why is debt desirable
- Interest on debt is cheap thus reduces liability so shareholders get more for their return.
- Replaces the need to issue new shares & dilute ownership (debt still enables ownership of company)
71
Prioritisation on liquidation of assets
1. Administrator's fees
2. Fixed charge holders (senior debt)
3. Preferential creditors (e.g. employees)
4. Floating charge holders.
5. Unsecured creditors (e.g. trade creditors and unsecured debt)
6. Subordinated debt holders
7. Preference shareholders
8. Ordinary shareholders
72
Time Value for Money
100 now, Greater purchasing power, future cash is less certain borrower may default
Borrowers need more profit cos of delay receipt
73
Myers 1984
Pecking order - used retained earnings first
74
Shareholder Returns
Share price appreciation - increase in market value
| Dividends - share in net profit
75
Forward / Backward Looking
Based on previous historical transactions
| Expected future profitability
76
What do Projects Face
Inflation: impact real future values
Demand: impact on revenues
Design: can specification be achieved.
Construction risk: on time & budget.
Availability: contractual levels of output.
Legislative: legal changes affect operations.
Policy: will general policy change(refinancing gain share)
Maintenance risk: can we predict OPEX.
Planning risk: can projects meet planning.
Technology: can we rely on innovation (reducing costs)
77
Developer
| Contractor
May not receive payment until project is finished & sold.
Receive staged/interim progress payments from client.
78
IRR
Discount rate that makes NPV = 0
| At what discount rate will you break even
79
Liquid Asset Kicker
Uncommitted capital used to cover deficits between debt service & net FCF
80
Cash flow margin
| Capital value margin
Assumed certainty of net cash flows.
| Assumed appreciation of asset
81
What is more risky
Bigger is more risky, greater variance in the mean
| Smaller but higher less risky as less variance
82
CAPEX
Money spent acquiring/maintaining fixed assets
More expensive than future OPEX
Not subject to discountin expensive present value terms
83
Whole Life Cost
Total cost of ownership over a lifetime
Cost of build + operations
CAPEX + OPEX
Higher CAPEX today for lower OPEX tomorrow
84
Performance Bond
Provide surity/insurance against construction risk
| Assess contractor risk failure and price on: Job complexity, schedule, contractor expertise, past performance etc
85
Relevance of Du Pont
Separate influences of profitability
Companies overall financial health/stability
Clues on business strategy
86
Gilts
Lending against future tax revenues
87
RRR
Required Reserve Ratio
| Amount of money they need to to prevent insolvency
88
Expansionary Monetary Policy
Increase aggregate demand / increase growth
Cutting interest rates or increasing money supply
More borrowing - more spending - AD1 incr AD2 LRAS
Lower unemployment
89
Why EMP Doesn't Works
Consumer confidence low, dont want to spend
Credit crunch banks may not have funds to loan
Global - fall in expo negates effects of incr comsumption
90
Low Interest Rates
Reduce cost of spending so more likely to
Reduce incentive to save so spend money instead
Lower repayments more disposable income
Reduce value of pound - SPICED
91
Interest Rate and Pound
Lower incentive for foreign investments
Less hot money flows
Lower demand so pound falls
92
Contractors Gearing
Lower Gearing 0-20%
Higher equity vs debt
Pay more tax, less interest, equity is not tax deductible
Return attributed to shareholders is high
ROSF is low and Earnings per share is low
93
Developers Gearing
```
Higher Gearing 60-80%
Higher debt vs equity
Pay more interest, less tax
Return to shareholders is lower
Less equity so return per share/ROSF is higher
```
94
Why are Government Bonds risk free
Can easily increase taxes and generate revenue to pay off their debt, more easily than a firm
95
How to determine the correct discount rate
Need to use WACC, weighted debt and equity
| Compares proportion is funded by debt / equity
96
ROCE vs ROSF
ROCE measures profitabili/effici of capital employed
(Higher ROCE means greater returns)
ROSF is a profitability measurement of the firm
(Higher greater return in dividends for shareholders)
97
Debt investor more risk adverse?
They're guaranteed to get something in return
Interest payment or asset
Equity, ordinary shareholder lowest repayment
Debt Seniority
Equity won't make you bankrupt
98
Accounting Cost vs Opportunity Cost
Rev - Explicit costs (raw mat/utilities/cost of production)
| Value of next best alternative forgone when decision is made includes implicit costs
99
High vs Low Capital Intensity
Costs come from investment in machines, equipment
Contractors with lots of plant
Software developers with few machines
100
Similar ROCE to ROSF
When gearing is 0
| There is no tax
101
Assumptions about future project cash flows can be relied upon?
No certainty for cash flow, needs to be adjusted for risk
Discount rate an estimation
Actually uses a discount rate to get present value
Easy to compare/contrast projects
102
Two types of firms
- Risk profiles in terms of attracting equity investors,
- Key indicators equity investors use to assess investment potential
Talk about systematic risk
If all plots on capm line then all unique risk
Spotify has high systematic risk
Thames water low systematic risk
103
Firms more debt than ROCE
-K=TA-CL=D+E
-Incr debt incr liabilities not have enough assets to pay debt, insolvency
-Increase risk of administration and finally bankruptcy
-Debt can finance growths likely to increase total assets
-Incr TA incre K which also has the effect of incre ROCE
104
Benefits of Investing in each firm
Stock Y riskier, great area around 0% high risk 0/- return
Stock Y great area over X higher chance of high return
Stock Y greater variance more risky
Stock X return less but mean is higher
105
CAPM Diagram
Y - Expected return X - Standard deviation (risk)
CAPM > 1 - Firms move more than marker more risk
Rf intersects diversification curve B
Increasing expected returns without increasing stnd dev
106
Scatter Graphs Firm A / B
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Positive Beta above 1 like 1.6
Lower Beta between 0-1 like 0.5
Beta 1 - S&P 500
Beta > 1 - NASDAQ
Beta < 1 - Utilities
```
107
Benefits Today Costs Tomorrow
Discount rate used to give accurate measurement
| If discount rate is wrong makes it useless
