Financial Management Terminology PDF

Terminology in Financial Management Sales – is activity related to selling or the amount of goods or services sold in a given time period. The seller or the provider of the goods or services completes a sale in response to an a...

Terminology in Financial Management Sales – is activity related to selling or the amount of goods or services sold in a given time period. The seller or the provider of the goods or services completes a sale in response to an acquisition, appropriation, requisition or a direct interaction with the buyer at the point of sale. © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Revenue – is the amount of money that a company actually receives during a specific period, including discounts and deductions for returned merchandise. It is the top line or gross income figure from which costs are subtracted to determine net income. © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Cost of Good Sold – is the direct costs attributable to the production of the goods sold in a company. This amount includes the cost of the materials used in creating the good along with the direct labor costs used to produce the good.... Cost of goods sold is also referred to as "cost of sales." © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Cash on Hand – The amount of money in the form of cash that a company has after it has paid all its costs. Written at the top of the assets side of a balance sheet to show the amount of money held by a company in the form of notes and coins. © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Inventory – is the array of finished goods or goods used in production held by a company. Inventory is classified as a current asset on a company's balance sheet, and it serves as a buffer between manufacturing and order fulfillment. © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Assets – A business asset is a piece of property or equipment purchased exclusively or primarily for businessuse. There are many different categories of assets including current and non- current, short-term and long-term, operating and capitalized, and tangible and intangible. © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Current Assets – is a balance sheet account that represents the value of all assets that can reasonably expect to be converted into cash within one year. Current assets include cash and cash equivalents, accounts receivable, inventory, marketable securities, prepaid expenses. © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Non Current Assets – are company long-term investments where the full value will not be realized within the accounting year. Examples of noncurrent assets include investments in other companies, intellectual property (e.g. patents), and property, plant and equipment. © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Short Term Asset– is an asset that is to be sold, converted to cash, or liquidated to pay for liabilities within one year.... All of the following are typically considered to be short term assets: Cash. Marketable securities. Trade accounts receivable. © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Long Term Asset Noncurrent assets. Assets that are not intended to be turned into cash or be consumed within one year of the balance sheet date. Long-term assets include long- term investments, property, plant, equipment, intangible assets, etc. © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Operating Asset are those assets acquired for use in the conduct of the ongoingo perations of a business; this means assets that are needed to generate revenue. Examples of operating assets are: Cash. Prepaid expenses. Accounts receivable © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Capitalized assets is to record a cost/expense on the balance sheet for the purposes of delaying full recognition of the expense. In general, capitalizing expenses is beneficial as companies acquiring new assets with long-term life spans can amortize the costs. © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Tangible assets is an asset that has a physical form. Tangible assets include both fixed assets, such as machinery, buildings and land, and current assets, such as inventory.... Nonphysical assets, such as patents, trademarks, copyrights, goodwill and brand recognition, are all examples of intangible assets. © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Intangible assets It includes patents, copyrights, franchises, goodwill, trademarks, trade names, the general interpretation also includes software and other intangible computer based assets. © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Accounts Receivable are the balances of money due to a firm for goods or services that have been delivered or used but not yet paid for by customers. © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Accounts Payable is an accounting entry that represents a company's obligation to pay off a short-term debt to its creditors or suppliers.... Another common usage of AP refers to a business department or division that is responsible for making payments owed by the company to suppliers and other creditors. 3-16 © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Notes Payable is a written promissory note. Under this agreement, a borrower obtains a specific amount of money from a lender and promises to pay it back with interest over a predetermined time period.... An example of a notes payable is a loan issued to a company by a bank © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Accruals are earned revenues and incurred expenses that have an overall impact on an income statement. They also affect the balance sheet, which represents liabilities and non-cash-based assets used in accrual- based accounting. © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Long Term Debt consists of loans and financial obligations lasting over one year. Long-term debt for a company would include any financing or leasing obligations that are to come due after a 12-month period. © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Long Term Debt consists of loans and financial obligations lasting over one year. Long-term debt for a company would include any financing or leasing obligations that are to come due after a 12-month period. © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Common Stock is a security that represents ownership in a corporation. Holders of common stockexercise control by electing a board of directors and voting on corporate policy. © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Common Stock is a security that represents ownership in a corporation. Holders of common stock exercise control by electing a board of directors and voting on corporate policy. © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Retained earnings are the net earnings after dividends that are available reinvestment in the company's core business or to pay down its debt. It is recorded under shareholders' equity on the balance sheet. © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Liabilities is defined as a company's legal financial debts or obligations that arise during the course of business operations.... Recorded on the right side of the balance sheet, liabilities include loans, accounts payable, mortgages, deferred revenues and accrued expenses. © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Equity is the value of an asset less the amount of all liabilities on that asset. As an accounting equation, one can represent it as Assets - Liabilities = Equity. © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Depreciation is an accounting method of allocating the cost of a tangible asset over its useful life and is used to account for declines in value over time. Businesses depreciate long-term assets for both tax and accounting purposes. © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Amortization is an accounting technique used to lower the cost value of a finite life or intangible asset incrementally through scheduled charges to income. Amortization is the paying off of debt with a fixed repayment schedule in regular installments over time like with a mortgage or a car loan. It also refers to the spreading out of capital expenses for intangible assets over a specific duration — usually over the asset's useful life — for accounting and tax purposes. Amortization can refer to the paying off of debt, over time, in regular installments of interest and principal adequate enough to repay the loan in full by maturity. Amortization can also mean the deduction of capital expenses over the asset's useful life where it measures the consumption of an intangible asset's value, such as goodwill, a patent or copyright. © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Interest Expense is a non- operating expense shown on the income statement. It represents interest payable on any borrowings – bonds, loans, convertible debt or lines of credit. It is essentially calculated as the interest rate times the outstanding principal amount of the debt. © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management Net Income is equal to net earnings (profit) calculated as sales less COGS, SG&A, operating expenses, depreciation, interest, taxes and other expenses.... Net income also refers to an individual's income after taking taxes and deductions into account. © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Terminology in Financial Management SGA (alternately SGA, SAG or SGNA) is an initialism used in accounting to refer to Selling, General and Administrative Expenses, which is a major non-production cost presented in an income statement (statement of profit or loss). © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Balance Sheet: Liabilities and Equity 2012 2011 Accts payable 524,160 145,600 Notes payable 636,808 200,000 Accruals 489,600 136,000 Total CL 1,650,568 481,600 Long-term debt 723,432 323,432 Common stock 460,000 460,000 Retained earnings 32,592 203,768 Total Equity 492,592 663,768 Total L & E 2,866,592 1,468,800 3-31 © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Income Statement 2012 2011 Sales $6,034,000 $3,432,000 COGS 5,528,000 2,864,000 Other expenses 519,988 358,672 Total oper. costs excl. deprec. & amort. $6,047,988 $3,222,672 Depreciation and amortization 116,960 18,900 EBIT ($ 130,948) $ 190,428 Interest expense 136,012 43,828 EBT ($ 266,960) $ 146,600 Taxes (106,784) 58,640 Net income ($ 160,176) $ 87,960 3-32 © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Other Data 2012 2011 No. of shares 100,000 100,000 EPS -$1.602 $0.88 DPS $0.11 $0.22 Stock price $2.25 $8.50 Lease pmts $40,000 $40,000 3-33 © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Statement of Stockholders’ Equity (2012) Total Common Stock Retained Stockholders’ Shares Amount Earnings Equity Balances, 12/31/11 100,000 $460,000 $203,768 $663,768 2012 Net income (160,176) Cash dividends (11,000) Addition (subtraction) to retained earnings (171,176) Balances, 12/31/12 100,000 $460,000 $ 32,592 $492,592 3-34 © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Statement of Cash Flows (2012) Operating Activities Net income ($160,176) Depreciation and amortization 116,960 Increase in accounts payable 378,560 Increase in accruals 353,600 Increase in accounts receivable (280,960) Increase in inventories (572,160) Net cash provided by operating activities ($164,176) 3-35 © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Statement of Cash Flows (2012) Long-Term Investing Activities Additions to property, plant, & equipment ($711,950) Net cash used in investing activities ($711,950) Financing Activities Increase in notes payable $ 436,808 Increase in long-term debt 400,000 Payment of cash dividends (11,000 ) Net cash provided by financing activities $ 825,808 Summary Net decrease in cash ($ 50,318) Cash at beginning of year 57,600 Cash at end of year $ 7,282 3-36 © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Conclusions about D’Leon’s Financial Condition from Its Statement of CFs Net cash from operations = -$164,176, mainly because of negative NI. The firm borrowed $836,808 to meet its cash requirements. Even after borrowing, the cash account fell by $50,318. 3-37 © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Did the expansion create additional after-tax operating income? AT operating income = EBIT(1 – Tax rate) AT operating income12 = -$130,948(1 – 0.4) = -$130,948(0.6) = -$78,569 AT operating income11 = $114,257 3-38 © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  What effect did the expansion have on net operating working capital? NOWC  assets   liabilitie s  payable  Current Current Notes   NOWC12  ($7,282  $632,160  $1,287,360)  ($1,650,568  $636,808)  $913,042 NOWC11  $842,400 3-39 © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Assessment of the Expansion’s Effect on Operations 2012 2011 Sales $6,034,000 $3,432,000 AT oper. inc. -78,569 114,257 NOWC 913,042 842,400 Net income -160,176 87,960 3-40 © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  What was the free cash flow (FCF) for 2012?  Depr. and   Capital  FCF  EBIT(1  T)     NOWC  amortization expenditures  FCF12 = [-$130,948(1 – 0.4) + $116,960] – [($1,202,950 – $491,000) + $70,642] = -$744,201 Is negative free cash flow always a bad sign? 3-41 © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Performance Measures for Evaluating Managers Accounting statements insufficient for evaluating managers’ performance because they do not reflect market values. Performance Measures MVA = Difference between market value and book value of a firm’s common equity. P0 x Number of shares – Book value. EVA = Estimate of a business’ true economic profit for a given year. Investor-supplied Cost of EBIT(1 – T) – x capital capital 3-42 © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  What was D’Leon’s MVA in 2012 and 2011? MVA12 = ($2.25 x 100,000) – $492,592 = -$267,592 MVA11 = ($8.50 x 100,000) – $663,768 = $186,232 Shareholder wealth has been destroyed! 3-43 © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  What is the relationship between EVA and MVA? If EVA is positive, then AT operating income > cost of capital needed to produce that income. Positive EVA on annual basis helps to ensure MVA is positive. MVA is applicable to entire firm, while EVA can be calculated on a divisional basis as well. 3-44 © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Does D’Leon pay its suppliers on time? Probably not. A/P increased 260%, over the past year, while sales increased by only 76%. If this continues, suppliers may cut off D’Leon’s trade credit. 3-45 © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Does it appear that D’Leon’s sales price exceeds its cost per unit sold? NO, the negative after-tax operating income and decline in cash position shows that D’Leon is spending more on its operations than it is taking in. 3-46 © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  What if D’Leon’s sales manager decided to offer 60-day credit terms to customers, rather than 30-day credit terms? If competitors match terms, and sales remain constant... – A/R would . – Cash would . If competitors don’t match, and sales double... – Short-run: Inventory and fixed assets  to meet increased sales. A/R , Cash . Company may have to seek additional financing. – Long-run: Collections increase and the company’s cash position would improve. 3-47 © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  How did D’Leon finance its expansion? D’Leon financed its expansion with external capital. D’Leon issued long-term debt which reduced its financial strength and flexibility. 3-48 © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Would D’Leon have required external capital if they had broken even in 2012 (Net income = 0)? YES, the company would still have to finance its increase in assets. Looking to the Statement of Cash Flows, we see that the firm made an investment of $711,950 in net fixed assets. Therefore, they would have needed to raise additional funds. 3-49 © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  What happens if D’Leon depreciates fixed assets over 7 years (as opposed to the current 10 years)? No effect on physical assets. Fixed assets on the balance sheet would decline. Net income would decline. Tax payments would decline. Cash position would improve. 3-50 © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Federal Income Tax System Individual Taxes Corporate Taxes 3-51 © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Corporate and Personal Taxes Both have a progressive structure (the higher the income, the higher the marginal tax rate). Corporations – Rates begin at 15% and rise to 35% for corporations with income over $10 million, although corporations with income between $15 million and $18.33 million pay a marginal tax rate of 38%. – Also subject to state tax (around 5%). 3-52 © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Corporate and Personal Taxes Individuals – Rates begin at 10% and rise to 35% for individuals with income over $373,650. – May be subject to state tax. 3-53 © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Tax Treatment of Various Uses and Sources of Funds Interest paid: tax deductible for corporations (paid out of pre-tax income), but usually not for individuals (interest on home loans being the exception). Interest earned: usually fully taxable (an exception being interest from a “muni”). Dividends paid: paid out of after-tax income. 3-54 © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  Tax Treatment of Various Uses and Sources of Funds Dividends received: most investors pay 15% taxes through 2012. The rate is scheduled to rise after 2012. – Investors in the 10% or 15% tax bracket pay 0% on qualified dividends through 2012. – Dividends are paid out of net income which has already been taxed at the corporate level, this is a form of “double taxation”. – A portion of dividends received by corporations is tax excludable, in order to avoid “triple taxation.” 3-55 © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.  More Tax Issues Tax Loss Carry-Back and Carry-Forward – since corporate incomes can fluctuate widely, the Tax Code allows firms to carry losses back to offset profits in previous years or forward to offset profits in the future. Capital gains – defined as the profits from the sale of assets not normally transacted in the normal course of business, capital gains for individuals are generally taxed as ordinary income if held for a year or less, and at the capital gains rate if held for more than a year. Corporations face somewhat different rules. 3-56 © 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part.