Untitled Quiz

Capital Markets and Informational Efficiency

• Capital: financial resources available to a company, either equity or debt.
• Equity financing: a company's own resources.
• Debt financing: outside capital raised through loans.
• Capital market: a market for medium-to-long term financing of equity or debt.
• Money market: a market for short-term loans (up to a year).
• Perfect capital market: a theoretical market with frictionless transactions, perfect competition, rational market participants, and perfect information.

Perfect Capital Market Characteristics

• Frictionless: no costs or taxes, perfect sharing and trading of securities, free of regulatory restrictions.
• Perfect competition: participants are price takers; no single entity affects market price.
• Rationality: entities act logically and in their best interest.
• Informational efficiency: all participants have access to the same information.

Informational Efficiency

• Prospectuses: documents provided to investors, containing company information.
• Market sector analyses: by finance professionals and research firms.
• Company financial statements: reports for quarterly and annual periods.
• Information in the financial press: reports published by news sources.
• Information procurement and distribution: vital for market price changes.
• Target excess returns: aims for higher investment return.
• Liquid market: consistently has investors and sellers.
• Informationally efficient market: all market participants have instant access to the same information.

Portfolio Theory

• Risk-return ratio: higher risk, higher potential return.
• Investment portfolio: combining different securities.
• Markowitz diversification: goal is to balance risk and return for optimal portfolio construction.
• Diversification: reducing risk by spreading investments.
• Unsystematic risk: company-specific risk, reduced by diversification.
• Systematic risk (market risk): risk inherent in the market, cannot be reduced by diversification.
• Correlation: measure of mutual dependency between assets returns; value ranges from -1 to 1.

Capital Asset Pricing Model (CAPM)

• A model for determining the expected rate of return from the share of a company.
• Risk-free rate of return: return on risk-free investments.
• Expected market return: market return projected for equities..
• Beta coefficient: a measure of a security’s volatility of returns as compared to changes in the market rate.
• Importance of Beta: Indicates risk Exposure for a stock.

Measures of Risk and Performance

• Risk: unexpected potential loss.
• Market price risk: changes in stock, bond, and currency prices due to market movements.
• Volatility: range of price fluctuations.
• Foreign-exchange risk: risk of currency devaluation.
• Inflation risk: decline in purchasing power of assets.
• Interest rate risk: changes in interest rates affecting returns of bonds.
• Equity price risk: reflecting negative movements in individual company stocks.
• Country risk: risk of political intervention.
• Liquidity risk: risk company cannot meet short-term financial obligations.
• Capital maintenance risk: possibility of complete capital loss.
• Information risk: risk from insufficient investment information.
• Settlement and management risk: misuse of investor assets.
• Advocacy risk: representation acting against the best interests of the investor.
• Sharpe ratio: reward-to-risk-ratio- a measure of portfolio performance.
• Treynor ratio: reward-to-risk-ratio, considering systematic risk.

Stock Analysis

• Determining company value and future performance.
• Fundamental Analysis: intrinsic value via internal/external company data.
• Technical Analysis: analyzes stock prices and trends via charts.
• Innovative methods: including chaos theory and neural networks.
• P/E ratio: price per share divided by earnings per share.
• P/CF ratio: price per share divided by cash flow per share (future oriented valuation).

Capital Structure and Optimal Structure

• Capital structure: mix of debt, equity, and hybrid securities used to finance a business.
• Equity interest: grants shareholders voting rights, profits, assets in liquidation.
• Debt securities: grants creditors a right to payment at determined times; no influence over company decisions.
• Leverage effect states to increase the return on a company’s equity return. Borrowing cost(loans) must be lower than the return on the investment.
• Net Operating Income Approach: considers capital structure irrelevant to valuation.
• Debt-to-equity ratio is significant but no single optimal ratio exists. Market forces impact this.

Types of Financing

• Internal financing: funds from company profit, asset sales.
• External financing: funds from equity investors (stockholders), lenders, and other external sources.
• Debt financing: loans (secured/unsecured), financing with borrowing expenses.
• Debt/equity financing: combination of debt and equity financing.
• Equity financing: selling company stock.
• Liquidation financing: liquidation of assets for generating cash.
• Mezzanine financing: a bridge between debt and equity financing.

Financial Instruments: Collateral and Covenants

• Collateral: assets pledged.
• Loan covenants: strict conditions, ensuring borrower compliance and reducing risk to the lender.

Trade Credit

• Advantage for borrowers: quick capital availability, less formal standards.
• Disadvantage: dependencies on suppliers and potentially more costly.

Customer Loans

• Advantage for borrowers: quick availability of financing and may save costs compared to other methods.
• Disadvantage: potentially more costly, could compromise products and services.

Types of Personal Companies and Corporations (By Country)

• Different legal forms affect financing options and responsibilities.

Financial Ratios and Metrics Analysis

• Company valuation can be analyzed with financial ratios.
• Liquidity ratios (current, quick assets/liabilities).
• Leverage ratios (debt-to-equity).
• Profitability ratios (return on assets, return on equity).
• Activity ratios (inventory turnover, days sales outstanding).

Methods of Comparison in Capital Budgeting

• Static methods (cost comparison, profitability comparison, payback period)
• • Static methods assume a constant rate of return, not considering the time value of money.
• Dynamic methods (Net Present Value, Internal Rate of Return, Annuity method)
• • Dynamic methods consider the time value of money and the future cash flows from an investment.

Capital Budgeting: Project Evaluation Methods

• Capital budgeting: evaluating potential investments.
• Net Present Value (NPV): estimates the difference between future value of cash inflows and the present value of cash outflows.
• Internal Rate of Return (IRR): calculates the discount rate that makes the NPV equal to zero.
• Payback Method: measures the time required to recover the initial cost of an investment.

Financial Planning Concepts and Processes

• Financial planning: forecasting revenues and expenses.
• Setting/Forecasting budget forecasts.
• Cash budgeting: projecting cash flows
• Pro Forma financial planning: using financial assumptions and sales projections to project scenarios.

Business Valuation

• Business Valuation: determines the economic value of a company.
• • Value-based management.
• Individual valuation: sum of assets - liabilities.
• Total valuation: using projected future performance (relative to competitive companies)
• • Discounted cash flow (DCF): calculates present value of future cash flows.
• • Comparative value: estimates the value of a company based on the market price of similar companies.
• Economic Value Added (EVA): used to compute a company's performance relative to its cost of capital.