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EZC1 Finance - Study Guide
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Terms in this set (87)
Balance Sheet Equation
Remember:
"ALE makes you lose your balance"
assets = liabilities + owner's equity
How will we generate income with these assets?
Investment Decision
What is the best option to finance assets to generate income?
Financing Decision
Income Statement
Revenue - COGS = Gross Profit - Operating Expenses = Earnings Before Interest/Taxes (EBIT) - Interest = Earnings Before Taxes - Taxes = NET INCOME
Gross Profit (eq)
Revenue - Cost of Goods Sold
Earnings Before Interest/Taxes
Gross Profit - Operating Expenses
Earnings Before Taxes
EBIT - Taxes
What options does a company have when it comes to income?
-choose to pay dividends
-retain withinin the company to finance operations
New Retained Earnings (eq)
Old Retained Earnings + Change in Retained Earnings
Alternative for New Retained Earnings (eq)
Old Retained Earnings + Net Income - Dividends
Cash Flow from Operations: Indirect Method (eq)
Net Income
+ Non-Cash Expense
+ Decrease in Operating Assets
- Increase in Operating Assets
+ Increase in Operating Liabilities
- Decrease in Operating Liabilities
Cash Items
Variable Cost
Salaries
Cost of Goods Sold
Non-Cash Items
Good Will
Depreciation
Amortization
Cash Flow from Financing Activities
...
Cash Flow from Investing Activities
...
Current Ratio (eq)
Current Assets / Current Liabilities
Quick Ratio (Acid Test Ratio) (eq)
Remember:
"The witch cackled as she burned inventory with acid"
(Current Assets - Inventory) / Current Liabilities
Average Collection Period (eq)
Accounts Receivable / Daily Credit Sales
AR Turnover
Sales / Accounts Receivable
Inventory Turnover
Remember:
"If it's inventory use COGS; otherwise use Sales"
COGS / Inventory
Total Asset Turnover
Sales / Total Assets
Total Asset Turnover
(return on equity / leverage multiplier) / net profit margin
Leverage Multiplier
return on equity / net profit margin / total asset turnover
Fixed Asset Turnover
Sales / Fixed Assets
Operating Income Return on Investment (OIROI)
Remember:
OI ROI, EBITTA
EBIT / Total Assets
Debt Ratio
Total Debt / Total Assets
Times Interest Earned (TIE)
EBIT / Interest Expense
Return on Assets (ROA)
Net Income / Total Assets
- or -
Net Income / Sales * Sales / Assets
Return on Equity (ROE)
Net Income / Equity
DuPont Equation
ROE =
Net Income / Sales (Net Margin)
Sales / Assets (Total Asset Turnover)
Assets / Equity (Leverage Multiplier)
Gross Margin
Gross Profit / Sales
Operating Margin
EBIT / Sales
Net Margin
Net Income / Sales
Net Operating Profit After Taxes (NOPAT)
EBIT ( 1 - t )
- or -
EBIT - cash taxes
Return on Invested Capital (ROIC)
NOPAT / (Costly Capital)
Free Cash Flow to the Firm (FCFF)
EBIT
- Cash Tax Payments
+ Depreciation
- CAPEX
- Increases in Net Working Capital (NWC)
Free Cash Flow to Equity Holders (FCFE)
Net Income
+ Depreciation
- CAPEX
- Increase in Net Long-Term Debt
Economic Value Added (EVA)
NOPAT - (WACC * [Costly Capital])
Percent of Sales Method
1. Project Sales Revenues
2. Forecast change in spontaneous balance sheet accounts
3. Deal with discretionary accounts
4. Calculate Retained Earnings - (Projected RE = Old RE + NI - Dividends)
5. Determine Total Financing Needs (same as total assets)
6. Calculate DFN (projected total assets - projected total liabilities - projected owner's equity)
Dividend Payout Ratio
Dividends / Net Income
Retention/Plowback Ratio
1 - ( Dividends / Net Income )
Sustainable Growth Rate (SGR)
ROE (1 - b)
(b is the dividend payout ratio (Dividends / Net Income)
Sustainable Growth Rate (SGR)
(Sales/Assets)
Net Profit Margin
Leverage Multiplier
Discount Rate
(aka Cost of Capital, Interest Rate, Required Rate of Return)
Risk Free Rate (Rf) + Risk Premium
Future Value (of money)
PV ( 1 + i )^n
i = discount rate
n = # of compounding periods
Future Value of an Annuity
PMT * [(1+i)^n - 1/i]
PMT = annuity payment
n = number of payments
i = discount rate
Effective Yield
(1 + i / m)^m - 1
Perpetuities
PV Perpetuity = PMT / i
PMT = perpetuity payment
i = discount rate
Uneven Cash Flows
solve separately then add totals together
Security Valuation
AV = PV (Expected cash flows [rate of return])
Current Yield
Annual Coupon / Market Price
Yield to Maturity
practice on calculator
Value of Preferred Stock
V = Fixed Dividend / Discount Rate (rate of return)
Value of Common Stock: Single Period Holding Model
practice on calculator
Gordon Growth Model
V = D / (k-g)
V = value of stock at 0
D = dividend paid at 1
k = required rate of return
g = constant growth rate
After-Tax Cost of Debt
K (1-b)
K = pre-tax cost of debt
t = tax rate
CAPM
Requited return = RF + B (RM - RF)
RF = risk free rate
B = Beta
RM = Return on Market
Build-Up Method
Required Return =
Bond Yield
+ Equity Risk Premium
+ Micro-Cap Risk Premium
+ Start-Up Risk Premium
Gordon Model (Again)
Solve Gordon Model for required rate of return (k) to get from
V = D / (k-g)
to
K = (D/V) + g
K = (D/P) + g
K = Required Return
D = Dividend at 1
V/P = Value/Price at 0
g = Growth Rate
Cost of Preferred Stock
V = D / k
Weighted Average Cost of Capital (WACC)
WACC = (C/V)kc + (P/V)kp + (D/V)kd (1-t)
MV = Market Value C = MV of common
MV = Market Value P = MV of preferred
MV = Market Value D = MV of debt
V = C + P + D
kc = cost of common
kp = cost of preferred
kd = cost of debt
t = tax rate
Notes:
Multiply debt by the tax rate BEFORE combining it with other values
Net Present Value
...
Profitability Index
...
Internal Rate of Return (IRR)
...
Incremental Cash Flows
cash in - cash out
Incidental Cash Flows
in/out costs that are not obvious
Example:
Releasing a new product may make an older version of a similar product obsolete, and sales may fall for the old product, causing a loss for the company
Sunk Costs
cost that have already taken effect and cannot be recouped
Opportunity Costs
equal to what you are giving up in order to do something
Example:
If you decide to sleep for an entire weekend instead of getting together with friends, your sleep has cost you a social opportunity
If a company already owns land and they decide to build a warehouse on it, they can no longer use the land for some other thing because they have lost the opportunity
Modified Accelerated Cost Recovery System (MACRS)
uses the tax code to multiply the base cost of an asset by whatever percentage it is assigned in depreciation throughout its asset life
(tax code is given to you)
Straight-Line Depreciation
(cost - salvage value) / life
- has an asset depreciate by the same amount every year until it has reached "zero" value
Net Working Capital (NWC)
Current Assets - Current Liabilities
Book Value (of an asset)
cost - accumulated depreciation
Tax Effect
(Market Value - Book Value) * Tax Rate
Initial Outlay (IO)
Price of Asset
+ shipping and installing cost
+ investment in Working Capital
+/- After-Tax Proceeds from Sales of asset it is replacing
Valuing a Company: Replacement Cost Method
look at the balance sheet to determine what it would cost to obtain all company assets from scratch (include inventory, property, equipment
look at the right side of the balance sheet to determine the cost of issuing equity
Valuing a Company: Discounted Cash Flow
1. Forecast as far as you reasonably can
2. Compute free cash flow for each year
3. Estimate terminal value in last year and add it to last year's free cash flow from Step 2
4. Compute appropriate discount rate
5. Use time value of money to discount back to present value
Price to Earnings (PE) Ratio
Price X / Earnings X * Earnings Y = Price Y
Price X = Price of Comany X
Earnings X = Earnings of Company X
Earnings Y = Earnings of Comparable Company Y
Price Y = Price of Comparable Company Y
Discretionary Financing Need
projected assets - (projected liabilities + projected equity)
Non-Spontaneous Accounts
equity
notes payable
Bond's Coupon
The stated interest payment, in dollars, made on a bond each period
Bond's Face Value
The principal amount of a bond that is repaid at the end of the loan term
Bond's Yield to Maturity
The rate of return required by investors in the market for owning a bond
Bond's Coupon Rate
The annual coupon of a bond divided by its face value
Discount Bond
A bond with a face value of $, that sells for less than $, in the market is called a
Premium Bond
A bond with a face value of $, that sells for more than $1,000 is called a
Treasury Bonds
The long-term bonds issued by the United States government
Zero Coupon Bond
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