Exam 1 Review Know the forms of business organization and the advantages and disadvantages of each 1 Sole Proprietorship Advantages Easy to start Least regulated Single owner keeps all the profits Taxed once as personal income Disadvantages Limited to life of owner Equity capital limited to owner s personal wealth Unlimited liability Difficult to sell ownership interest 2 Partnership Advantages Two or more owners More capital available Relatively easy to start Income taxed once as personal income Disadvantages Unlimited liability Partnership dissolves when one partner dies or wishes to sell Difficult to transfer ownership 3 Corporation Advantages Limited liability Unlimited life Separation of ownership and management Transfer of ownership is easy Easier to raise capital Disadvantages rate Separation of ownership and management Double taxation income taxed at the corporate rate and then dividends taxed at the person Know the difference between the primary and secondary market auction and dealer markets and examples of each Primary Market original sale of securities by corporations and governments Secondary Market securities bought and sold after the original sale Dealer Market buy and sell for themselves Over the counter OTC NASDAQ No physical location AMEX Listed Auction Market match buyers and sellers Physical location 85 of shares traded NYSE Know what agency problems are and what are the agency costs to the firm More generally the term agency costs refers to the costs of the conflict of interest between An agency problems is the possibility of conflict of interest between the stockholders and stockholders and management management of the firm Know the responsibilities of different financial managers The top financial manager within a firm is usually the Chief Financial Officer CFO Treasurer oversees cash management credit management capital expenditures and financial planning Controller oversees taxes cost accounting financial accounting and data processing Know how to calculate marginal and average tax rates when given a marginal tax table Average tax rate total taxes paid total taxable income Marginal tax rate amount of tax payable on the next dollar earned Know the financial statements o Balance sheet know the components current assets current liabilities etc and how to calculate net working capital Balance Sheet Identity Assets Liabilities Stockholder s Equity Net Working Capital Current Assets Current Liabilities o Income statement how do we arrive at net income and operating cash flows Income Statement measures performance over some period of time Revenues Expenses Net Income o Know how to calculate Cash Flows From Assets Cash Flows to Creditors Cash Flows to Shareholders Net Capital Spending Operating Cash Flow Cash Flow from Assets CFFA cash flow to creditors cash flow to stockholders Cash Flow to Creditors interest paid less net new borrowing Cash Flow to Shareholders dividends paid less net new equity raised Capital Spending Ending net fixed assets beginning net fixed assets depreciation Operating Cash Flow OCF EBIT depreciation taxes o Know the difference between market and book value The balance sheet provides the book value of the assets liabilities and equity Market value is the price at which assets liabilities or equity can actually be bought or sold Understand the differences between and calculations between simple and compounded interest Simple interest example Suppose you invest 100 in a savings account that pays 10 percent interest per year How much will you have in one year You will have 110 Compound interest is the process of leaving your money and any accumulated interest in an investment for more than one period thereby reinvesting the interest is called compounding the result compound interest Compounding the interest means earning interest on interest so we call Compound interest example Going back to our 100 investment what will you have after two years assuming the interest rate doesn t change If you leave the entire 110 in the bank you will earn 110 10 11 in interest during the second year so you will have a total of 110 11 121 Know what the variables are in the time value of money equation and how they are related and how to compute a missing variable when given the other variables Texas Instrument BA II keys FV future value PV present value I Y period interest rate N number of periods Equation Rearrange to solve for PV FV 1 r t What to know about annuities o How to calculate PV FV rate number of periods and payments FV PV x 1 r t PV FV 1 r t R FV PV 1 t 1 An annuity with sooner payments first of the month as opposed to end of the month will always be larger than an annuity with later payments This is due to the payments starting sooner o What s the difference between ordinary annuity and annuity due Ordinary annuity is a level stream of cash flows for a fixed period of time With an ordinary annuity the cash flows occur at the beginning of each period A lease is an example of an annuity due annuity due An annuity due is an annuity for which the cash flows occur at the beginning of each period Almost any type of arrangement in which we have to prepay the same amount each period is an annuity due Know the differences between annuities and perpetuities An important special case of an annuity arises when the level stream of cash flows continues forever Such an asset is called a perpetuity because the cash flows are perpetual When and how do you use APR vs EAR and how do you convert one to the other and how the number of compounding periods makes a difference Be able to calculate the EAR with continuous compounding EAR This is the actual rate paid or received after accounting for compounding that occurs during the year If you want to compare two alternative investments with different compounding periods you need to compute the EAR and use that for comparison APR This is the annual rate that is quoted by law APR period rate times the number of periods year Period Rate APR number of periods per year
View Full Document
Unlocking...