Financial Management: Theory & Practice: Financial Managment Ch. 2 Flashcards

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The ________________is a report issued annually by a corporation to its stockholders. It contains basic financial statements, as well as management’s opinion of the past year’s operations and the firm’s future prospects.

Annual Report


A firm’s ____________is a statement of the firm’s financial position at a specific point in time. It specifically lists the firm’s assets on the left-hand side , while the right-hand side shows its liabilities and equity, or the claims against these assets.

Balance Sheet


An ____________is a statement summarizing the firm’s revenues and expenses over an accounting period. Net sales are shown at the top of each statement, after which various costs, including income taxes, are subtracted to obtain the net income available to common stockholders. The bottom of the statement reports earnings and dividends per share.

Income Statement


____________ or (_________) is the capital supplied by common stockholders--capital stock, paid-in capital, retained earnings, and, occasionally, certain reserves.

Common Stockholders’ Equity (Net Worth)


_____________ is the difference between the stock’s par value and what stockholders paid when they bought newly issued shares.

Paid-in Capital


_____________is the portion of the firm’s earnings that have been saved rather than paid out as dividends.

Retained Earnings


The __________________ shows how much of the firm’s earnings were retained in the business rather than paid out in dividends. It also shows the resulting balance of the retained earnings account and the stockholders’ equity account. Note that retained earnings represents a claim against assets, not assets per se.

statement of stockholders’ equity


Firms retain earnings primarily to ________ the business, not to accumulate cash in a bank account.



The _____________reports the impact of a firm’s operating, investing, and financing activities on cash flows over an accounting period.

Statement of Cash Flow


____________is a non-cash charge against tangible assets, such as buildings or machines. It is taken for the purpose of showing an asset’s estimated dollar cost of the capital equipment used up in the production process.



_____________ is a non-cash charge against intangible assets, such as goodwill.



What does EBITDA stand for?

earnings before interest, taxes, depreciation, and amortization.


___________ are the current assets used to support operations, such as cash, accounts receivable, and inventory. It does not include short-term investments.

Operating Current Assets


_____________are the current liabilities that are a natural consequence of the firm’s operations, such as accounts payable and accruals. It does not include notes payable or any other short-term debt that charges interest.

Operating current liabilities


What is the equation for net operating working capital?

NOWC = operating current assets - operating current liabilities.


What is the equation for total net operating capital?

TNOC = net operating working capital + operating long-term assets, such as net plant and equipment.


TNOC = Net amount of capital raised from investors. This is the amount of interest-bearing debt plus preferred stock plus common equity minus short-term investments.


___________is a firm’s net income as reported on its income statement.

Accounting Profit


__________, as opposed to accounting net income, is the sum of net income plus non-cash adjustments.

Net Cash Flow


What does NOPAT stand for? and what does it mean?

net operating profit after taxes, is the amount of profit a company would generate if it had no debt and no financial assets.


______________ is the cash flow actually available for distribution to investors after the company has made all investments in fixed assets and working capital necessary to sustain ongoing operations.

Free Cash Flow


Define Market Value Added

MVA = market value of the firm (i.e., the sum of the market value of common equity, the market value of debt, and the market value of preferred stock) - the book value of the firm’s common equity, debt, and preferred stock.
If the book values of debt and preferred stock are equal to their market values, then MVA is also equal to the difference between the market value of equity and the amount of equity capital that investors supplied.


Define Economic Value Added

Economic value added represents the residual income that remains after the cost of all capital, including equity capital, has been deducted.

It is a measure of managerial effectiveness in a given year.

EVA = NOPAT-After-tax dollar cost of capital used to support operations


EVA=EBIT(1-Tax rate) - (Total net operating capital)(WACC)




A __________ tax means the higher one’s income, the larger the percentage paid in taxes.



____________ is defined as gross income less a set of exemptions and deductions which are spelled out in the instructions to the tax forms individuals must file.

Taxable Income


______________is defined as the tax rate on the last unit of income.

Marginal Tax Rate


_______________ is calculated by taking the total amount of tax paid divided by taxable income.

Average Tax Rate


__________________is the profit (loss) from the sale of a capital asset for more (less) than its purchase price.

Capital Gain (loss)


Ordinary corporate operating losses can be carried backward for ____ years to offset taxable income in a given year.



Ordinary corporate operating losses can be carried forward for ________ years to offset taxable income in a given year.



________________is the retention of earnings by a business for the purpose of enabling stockholders to avoid personal income taxes on dividends.

Improper Accumulation


An ____________is a small corporation which, under ____________of the Internal Revenue Code, elects to be taxed as a proprietorship or a partnership yet retains limited liability and other benefits of the corporate form of organization.

S Corporation; Subchapter S.


What are the 4 financial statments contained in most annual reports?

1) Balance sheet
2) Income statement
3) Statement of stockholders’ equity
4) Statement of cash flows.


If a "typical firm reports $20 million of retained earnings on its balance sheet, can the firm definitly pay a $20 million cash dividend?

No, because the $20 million of retained earnings doesn’t mean the company has $20 million in cash. The retained earnings figure represents cumulative amount of net income that the firm has not paid out as dividends during its entire history. Thus, most of the reinvested earnings were probably spent on the firm’s operating assets, such as buildings and equipment.


What is operating capital and why is it important?

Operating capital is the amount of interest bearing debt, preferred stock, and common equity used to acquire the company’s net operating assets. Without this capital a firm cannot exist, as there is no source of funds with which to finance operations.


_________ is the amount of net income a company would generate if it had no debt and held no financial assets.



________is a better measure of the performance of a company’s operations because debt lowers income?

NOPAT... In order to get a true reflection of a company’s operating performance, one would want to take out debt to get a clearer picture of the situation.


What is free cash flow? Why is it the most important measure of cash flow?

Free cash flow is the cash flow actually available for distribution to investors after the company has made all the investments in fixed assets and working capital necessary to sustain ongoing operations. It is the most important measure of cash flows because it shows the exact amount available to all investors.


If you were starting a business, what tax considerations might cause you to preferto set it up as a proprietorship or a a partnership rather than as a corporation?

If the business were organized as a partnership or a proprietorship, its income could be taken out by the owners without being subject to double taxation. Also, if you expected to have losses for a few years while the company was getting started, if you were not incorporated, and if you had outside income, the business losses could be used to offset your other income and reduce your total tax bill. These factors would lead you to not incorporate the business. An alternative would be to organize as an S Corporation, if requirements are met.