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82 Cards in this Set

  • Front
  • Back
Function of Financial management
1. Capital budgeting
2. Corporate Governance
3. Risk management
4. Financing funcition
5. Financial Managment functions
Cash conversion cycle
The length of time its takes from purchasing product, converting and finally paying for it.

Inventory conversion cycle + Receivable conversion cycle -Payables deffaral peirod
Inventory conversion peirod
Average Inventory/ Cogs per day

Ave time require to convert materials into goods and sell those goods
Days sales outstanding or Receivable Conversion cycle
Average receivable / Credit sales per day

Average time to collect AR
Payable Deferral period
Average payable/ Cogs per day

Length of time between purchase of materials, labor and payment of cash
Why Cash management is necessary?
1. To take advantage of trade discount
2. Maintain credit rating
3. Meet unexpected needs
Why do we need to hold cash
Transaction need

Compensating financial institution
Purpose of cash budget
1. To take advantage of trade discount
2. Maintain credit rating
3. Meet unexpected needs (precautionary balances)
4. take advantage of business opportunites (Speculative balance)
What is Float
Tme that elapses relating to mailing, processing and clearing chck

the goal is to extend payable float and minimize receivable float
What is Zero Balance Accounts
Receives daily fund drawn on customers acount from reverse bank. Regional bank then notify custoemr how much needed to clear all checks for the day
Advantages of Zero Balance Accounts
checks take longer to clear, longer disbursement float

extra cash doesnt have to be deposited for contengencies
Advantages of lockbox
Internal control
more timely deposites for receipts
reduces business risk
Concentration banking
Another way to shorten receivalbe float
customers pay at local bank
additional $ is then transferred to regional bank
Which system take float out of the process
Compensating balance
required minium level of deposit required by a loan agreement
Marketable securities factors
minimum investment
Most important consideration for investing in marketable securities
Safety and liquidity
Who issues commercial paper
issued to the large credit worthy corportation

2 - 9 months

no active secondary market
Banker's acceptance
A draft dwarn on bank for payment when presented to the bank. Generally arises from payment for foods by corp in foreign countries
30 to 90 days wait period
secondary market is available
slightly higher risk
Goals of inventory managment
Ensure adequet inventory to sustain operation

To minimize invenotry costs including carrying cost, ordering cost, receiving cost, cost of running out of stock
Economic order quantity
Square root of (2X ave order cost X annual deman in unit / carrying cost per unit)
Order Point
(Daily Deman X Leadtime) + safety stock
Safety stock vs carrying cost
Safety stock reduces stock out cost but increases carrying cost
Carrying costs
property tax
Stock out costs
Profit lost on sales
customer ill will
idle equipment
work stoppage
What is MRP
Material Requirement planning
Manufectures finishes good based on demand forecast
production planning drices master schedule which drives material plans
Charateristics of JIT
Most important is relationship with suppliers
Suppliers must inspect their own product
To accomplish JIT, Mgmt must do what:
1. Emphesize reducing production cycle and set up time
2. Emphasize production flexibility
3. Emphasize solving production problems immidiately
4. Focus on simplyfying production activity
Advantages if JIT production
Lower interest and inventory and storage space
lower inventory carrying and handling cost
Reduces risk of defective and obsolete products
Able to deal with better quality supplier
Recude manufecturing cost
Able to user simplifed costing system such as Backflush costing
Disadvantages of JIT
Suppliers do not provide timely and quanlity material

Employees are not well trainined

Technology/Equipment are not reliable
Credit policy should consist
credit period
credit rating
collection policy
Days sales outstanding
total receivables/credit sales per day
Permanent current assets should be financed by
long term assets such as stocks and bonds
What are temporary current assets
cash, inventory, Receivables
Disadvantages of short term debt financing
Firm may not be able to pay off as it comes due

Recession may render the firm unable to meet obligation

Volatile interest rate
Disadvantages of long term debt financing
more expensive
covenant may restrick firms future action
prepayment penalties can be expensive
Maturity matching of debt
Also known as hedging apporach and self liquidating approach
Financing assets with same liablity maturing date
Cost of not taking discount
(discount rate/100% - discount rate) / (365/payment days - discount days)
Features of bank loans
short term, less than 90 days
promissory notes
Interest flactuates based on short term indexes
Prime rate
the rate bank chagnes to its most credit worthy customer
London interbank offered rate
Rate to borrow fun in the international market
Effective interest rate on compensating balance
Interest payment / Available principal
Source of Accounts receivalbe financing
1. AR Pledging
2. Factor
3. Asset backed public offering
4. Inventory Financing
5. Hedging to reduce interest rate
Types of inventory financing
Blanket inventory lien
trust receipt
Interest computation for factor
(Flat fee + Monthly interest rate) X 12 months = annual rate
Securitization of assets
Creation of assets backed securities
Trust receipts
Borrower holds inventory and proceeds from sales goes to a trust to cancel trusts receivable

aka floor planning

common in automobiel, industrial equipment
most secure souce of inventory financing

Inventory is stored in public warehouse under control of public warehouse personnel

goods can only be removed with the lenders permission
types of private debt
1. From financial institution for which rate is tied to LIBOR or prime rate

2. Private palcement of unregistered bonds to acredited investors
types of private debt
1. From financial institution for which rate is tied to LIBOR or prime rate

2. Private palcement of unregistered bonds to acredited investors
Negative debt covenant
Restriction on
1. sale of certain asset
2. top employee compensaton
3. issuance of additioanl debt
4. payment of dividend
Positive debt covenant
borrower must do:
1. provide audited financial statements
2. maintain a certain financial ration
3. carry life insruance on key employees
A bond that is not secured by the pleget of a specific property

higher yeild than other secured bond
Suordinated debenture
bondholder are paid after genral creditor and other senior debt holder have been paid

very high yields
Current yield
Interest expense/Selling price of bond
Yield to maturity
(Annual interest rate +(principal payment - bond price / # of years to maturity)) / ( .6 X price of the bond + .4 X principal payment)
types of bond
zero coupon rate
floating rate
Advantages of debt financing
Interest is tax deductible
obligatoin is generally fixed in terms of interest and pricipal payment
peirods of inflation debt is paid off with dollars that are worth less
owners dont give up control
debtor dont participate in excess earning
Disadvantages of debt financing
Interest and principal msut be paid regardless of economic position
Interest rates are fixed
covenants can make firm less flexible
can increse risk of equity holder
Capital lease criterial
bargain purchase price
transfer of ownership
75% of life should be leased
PV of lease payment should be 90% of the fair value of the property
Advantages of lease
1. Can lease when unable to uy
2. provisions are less stringent than a bond indenture
3. may not have downpayment requirement
4. creditor claim on lease is restricted
5. operating lease is not considered a liability, so has tax advantage
Advantages of issuing common stock
1. Firm has no obligation to pay
2. Reduces cost of capital
3. More attractive because of profit potential
Disadvantages of issuing common stock
1. ownership right given up
2. Issurance cost is greater than debot
3. Dividends are not tax deductible
4. Shareholder require higher rate of return than lender
5. Issurance of too much common stock may increase the cost of capital
Advantages of issuing Preferred stock
1. No obligation to pay dividend
2. Reduces cost of capital
3. Common Shareholder do not give up control
4. Do not participate in superior earnings
Disadvantages of issuing Preferred stock
1. Cost of issurance
2. Dividend not tax deductible
3. Too much dividend in arrears can cause financial pproblems
Operating leverage formula
% change in operating income / % Change in unit volumn

Measure the degree of which fixed cotst are part of operation.

Lower sales period, high fixed cost can cause financial problems
Financial Leverage Formula
% change in EPS/ % change in EBIT

to which extent firm uses debt financing
2 ways common equity can be raised
1. Retained earnings
2. Issuing common stock
Methods of estimating cost of existing common equity (4)
2. Arbitrage
3. Bond yield plus
4. Divident yield growth
CAPM - Capital Asset Pricing Model
Ks = Krf + Km X beta coefficient

Krf = Risk free rate
Km = expected rate of return
bi- Beta, votalitity of the firm stock
Arbitrade Pricing Model
Uses a series of systematic risk factors to develop a valoue that reflects the multiple dimentsions of systematic risk
Arbitrade Pricing Model Formula
Rp = bi (K1 = Krf) + b2 (K2 + Krf)......

Rp= Risk permium
Krf = Risk free rate
B123... Betas for individual risk factors
K123... Market risk assoicated with each risk factors
Divident yield + groth approach
Ks = (D1/P0) + Expected growth %

P0= today's stock price
D1 = annual divident estimate
Cost of New stock formula
Ks = (D1 / P0 + F) + Expected growth
F= Floting cost

Usually higher than existing stock because of floting cost
Cost of new debt formula
(Annual Interest payment + (Principal payment - bond price after floting cost)/ # of years to maturity)) / .6 (bond price after floting cost) + .4(principal payment
Factors affecting capital structure
1. Business Risk
2. Tax position
3. Financial Flexibility
4. Mgmt conservatism vs aggressiveness
Factors affecting dividend policy
1. Legal requirements
2. Cash Position
3. Desire for control
4. tax position of shareholder
5. Access to capital market
6. Clientele effect
7. Investment opportunities
Types of mergers
1. Horizontal
2. Vertical
3. Congeneric
4. Conglomerate
Horizontal marger
acquiring similiar line of business
Vertical Merger
Combines with another firm in the same supply chain
somewhat related but not enough to be considered horizontal or vertical
Firms are completely unrelated. Provides greatest degree of diversification