Financial MNGT( Ch 3) Flashcards Preview

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Flashcards in Financial MNGT( Ch 3) Deck (69):
1

What is the primary focus of working capital management?

Managing inventory & receivables (current assets & liabilities)

2

How is Net Working Capital calculated?

NWC : Current Assets - Current Liabilities

3

What are the characteristics of effective Working Capital Management?

Shorten the cash conversion cycle

Don't negatively impact operations

4

What is the Inventory Conversion Period?

Average time needed to convert materials into finished goods and sell them
Average Inventory : (BI + E) / 2
Inventory Conversion Period : Average Inventory / Sales Per Day

5

What is the Receivables Collection Period?

Average time needed to collect A/R

RCP : Average Receivables / Credit Sales Per Day

6

What is the Payables Deferral Period?

Average time between materials and labor purchase and their A/P payment

Average Payables : (BP + EP) / 2

Payables Deferral Period : Average Payables / (COGS/365)

7

What is the Cash Conversion Cycle?

Amount of time it takes to receive a cash inflow (Customers) after making a cash outflow (Vendors)

Inventory Conversion Period
+ Receivables Collection Period
- Payables Deferral Period
: Cash Conversion Cycle

(Inventory Really (-Pays) Cash)

8

What traits should Cash and Short-Term Investments have?

Liquid
Safe

9

For what are Letters of Credit used?

Used for importing goods.

Issued by importer's bank.

10

What is the advantage of using Trade Credit?

No interest cost if paid timely.

11

What is a Lockbox System? What are the advantages?

Customer Payments are sent to a bank-managed PO box.

Employees don't have access to cash.
Deposits are more timely.
Interest income from deposits should pay for the Lockbox fees (if they don't- lockbox is not beneficial)

12

What is float?

Time it takes to mail a payment and have it clear your bank account

Maximize float on cash payments

Minimize float on cash receipts

13

What are Zero Balance Accounts?

Regional bank sends enough cash to cover daily checks

Advantages:
Checks take longer to clear -more float
Low amounts of cash tied up for compensating (minimum) balances

14

What is the difference between Treasury Bills- Notes and Bonds?

Treasury Bills: Short term (less than one year) Think: $1 Bill

Treasury Notes: Medium term (less than 10 years- more than 1)

Treasury Bonds: Long term (greater than 10 years) Think: government is in long-term bondage to you; they owe you money

15

What is commercial paper?

Similar to T-Bill- but issued by corporations instead of Government

Greater than 9 Months Maturity

Unsecured

Issued by large firms

16

What are the advantages and disadvantages of Commercial Paper?

Advantages: Financing at less than Prime. No compensating balances required.

Disadvantages: Unpredictability of markets. Credit crisis emerges and large insurance/investment companies aren't lending.

17

What is Economic Order Quantity?

The order quantity that minimizes inventory costs.

EOQ : Square Root of (2DO/C)

D : Unit Demand (Annual)
O : Order Cost
C : Cost of Inventory

18

What is Carrying Cost?

The cost of keeping inventory.

19

What is Order Cost?

Cost of executing an order and starting product production.

20

What is inventory reorder point?

How low inventory should get before it should be re-ordered.

IOP : Average Daily Demand x Average Lead Time

21

What is a Just In Time (JIT) system?

Orders inventory so that you get it just in time for when it's needed

JIT is valuable when Order Cost is low and Cost of Carrying Inventory is high

22

What is Factoring of receivables?

Receivables are sold to a financing company where they pay less than the value of the receivables due to a discount related to risk of non-collection

23

What is a Trade Discount?

Buyer saves if paid early

Example: 1/10 Net 30

1% Discount if paid within 10 days

If not- bill is still due in 30 days

24

What is the cost of forgoing a discount?

(Discount % x 365) / ((100% - Discount) x (Pay Period - Discount Period))

25

What is the Prime Rate?

A benchmark used for lending only to the best customers

Most customers will be charged Prime + 3%- for example

If the lending institution and the customer are not in the same country- the LIBOR rate is often used

26

What is the Nominal (Face- Coupon- Stated) Rate?

Interest rate stated on the face of a bond.

27

How is Current Yield calculated?

CY : Interest Payment / Bond Price

28

What is the Effective (YTM- Market) Rate?

PV of Principle + Interest : Bond Price

29

What is a Zero Coupon Bond?

No interest payments made

Bond sold at a discount

Interest reflected when Bond matures

30

What are the characteristics of a Junk Bond?

High interest rate

High default risk

31

What are debenture bonds?

Bonds unsecured by collateral

32

What are subordinated debentures?

Debenture Bonds that will be repaid if any assets are left after liquidation of a company

33

What are Redeemable Bonds?

Provision in Bond contract allows demand of Bond payment under certain circumstances

34

What is a Callable Bond?

Borrower can pay off debt early

35

What is a Convertible Bond?

Lender can demand payment via company stock instead of money

36

What is a Sinking Fund?

Borrower deposits regular sums into an account that will eventually pay off the debt

37

What is the disadvantage of Common Stock in comparison to bonds?

Common Stock is more expensive to issue than debt.

Why? Investors demand a greater ROI than debtors (bondholders)

38

What is the advantage of Preferred Stock?

Hold dividend priority over common stock

39

What is Weighted Average Cost of Capital?

A company uses this to determine the true cost of their capital

Example:
Debt costs 5%; 40% of Cap.
Equity costs 12%; 60% of Cap.
(5% x 40%) + (12% x 60%)
WACC : 9.2%

40

What is CAPM?

A stock's expected performance is based on its beta (risk) compared to that of the stock market.

More risk : more expected return.

41

How is Cost of Debt calculated?

(Interest Expense - Tax Benefit) / Carrying Value of Debt

42

Depreciation Tax Shield

Protects Income from taxation, After Tax Cash Inflow

43

IRR (Internal Rate of Return)

Computes the Rate of Return, where net present value equals to 0, the method equates initial investment with present value of the future cash inflows
-Time Adjusted Rate of Return from an Investment

44

DOL (Degree of Leverage)

= % change in EBIT/ % change in sales

45

DFL

= % change in EPS/ % change in EBIT

46

Quick Ratio

= (CA-Inventory-Prepaids)/CL

47

APR of quick payment discount

= 360/(Pay Period - Discount Period) X Discount (100-Discount %)

48

MRP (MNGT requirement Planning)

Projects and Plans Inventory Levels in order to control the inventory levels

49

Draft

Delays the outflow of cash

50

EOQ

Carrying Costs equate nearest to restocking costs

51

MRP(Materials Requirement Planning)

Projects and Plans inventory level to control material usage level. Applies in Work in Process and Raw Materials.

52

Interest Earned Ration

EBIT/Interest Expense

53

ROE

Net Income/Sales X Sales/Assets X Assets/Debt
Profit Margin X Investment Turnover X Debt Ratio

54

Increase NPV

Extending Project Life,
Increase Estimated Salvage Value
Decrease the Estimated effective Income tax rate

55

Decrease NPV

Increase Discount Rate

56

IRR (Internal Rate of Return

#Discount rates that produces NPV of ZERO.
#It can be determined even if the profitability index is less than 1.0
#Technique that determines the present value factor such that PV of the after-tax cash flows equals the initial investment of the project.

57

Payback Period

Emphasis Liquidity/Cash Flow

58

Beta Coefficient

% change in stock price/%change in market price

59

Strategies for creating optimal capital structure to maximize net worth

Maximizing EPS and Cash Flow
Minimizing Cost of Debt and Equity

60

Cost of Preferred Stock

=Dividend Paid/Net Proceed from P. Stock

61

Aggressive Working Capital

Increase Current Liabilities to Non-current liabilities
lower Working Capital and Current Ratio

62

Conservative Working Capital

Increase Current Asset to Non-Current Asset
Higher Working Capital and Current Ratio.

63

Commercial Paper

#Interest Rate below the Prime rate
#Sold to money markets by highly creditworthy companies
and can be sold from one company to another
#Maturity date less than 270 days

64

Negotiable CDs

#Interest lower than banker's acceptance and commercial paper
#Have secondary market
#sold in denominations of a minimum of $100,000
#Regulated by Fed Reserve

65

Average Gross Receivables

Average Daily Sales X Average Collection Period

66

Operating Leverage

FC/VC

67

ROA

Profit Margin X Inventory Turnover

68

Rates Used in NPV Analysis

Hurdle rate, Discount rate, Cost of Capital, Required Rate of Return

69

Inventory In safety stock increase

Cost of carrying inventory decreases