FIN 301 Exam 1 - FULL EXAM 1 Study Guide and terms PDF

Preview

Summary

FULL EXAM 1 Study Guide and terms ...

Description

EXAM 1 KEY TERMS AND IDEAS Heterogeneous Intertemporal cash flow ( and why each word is needed) Different payments over different time periods - Cash flow : going from one party to another - intertemporal : because it may happen at different moments of times - heterogenous : because the amounts of cash flow may be different What does present value measure Reality - if two heterogenous cash flows have the same present value they are equivalent What is MSS? - More, Sooner, Safer - the sooner cash is received the more valuable it is Are risky or less risky assets more valuable? Less risky assets are more valuable than riskier assets, other things being equal What are the 3 alternative forms of business organization? - Proprietorship - Partnership - Corporation What is Proprietorship? - unincorporated business owned by one person - Pros: they are easier to create with fewer regulations - Cons: illiquid: or hard to sell hard to raise capital Partnership -unincorporated business owned by two or more persons -Pros: easy to create Corporation - a group of persons authorized by law to act as one body - Pros : easy to sell, unlimited life, limited liability - Cons: relatively costly to create, double taxation

Types of Cash Flow - Lump Sum amount - Annuity - Uneven cash flows What is a Lump Sum Amount A single payment (received or made) that occurs either today or at some date in the future What is Annuity a series of payments of equal amounts at fixed intervals for specified number of periods What are uneven cash flows Multiple payments of different amounts over a period of time What is compounding - periodically taking accumulated interested and adding it onto the new number that interest is created from - to compute the future of an amount we push forward the current amount by adding interest for each period in which the money can earn interest in the future What are the compounding periods? Annual and Semiannual What is the difference between semiannual and annual compounding? Annual compounding is the process of determining the future value of a cash flow or series of cash flows when interest is added once a year Semiannual compounding is the process of determining the future value of a cash flow or series of cash flows when interest is added twice a year Ordinary (deferred) Annuity An annuity whose payments occurs at the end of each period Annuity Due An annuity whose payments occur at the beginning of each period

Effective annual rates Periodic Rates the interest rate charged on a loan or realized on an investment over a specific period of time. Most interest rates are quoted on an annual basis Simple interest

-?

How to compute effective annual rates of interest ((1+i/n)^n-1 What are the three characteristics people generally desire of their positive cash flows? 1. MORE 2. SOONER 3. SAFER What is a firms "job"? - to maximize wealth for the owners - to make the owners (stockholders) as rich as possible - to sell a product to get money - to make the cash flow going from the firm to the owners as big as possible What is the definition of money (as told in class) - money is a generally accepted medium of exchange - money emerges from trade with strangers What does positive time preference explain - INTEREST - $1 dollar today is worth more than tomorrow - we only have so much time to achieve enders, most prefer sooner rather than later - no one will invest unless they expect to get more back than they put in (interest) MSS (MORE) value is preferred to less MSS (SOONER) cash is received, more valuable it is

MSS (SAFER) - person is afraid of risk, but risk is not exactly danger - risk is the chance that cash flow will be different than expected Perpetuity - refers to an infinite amount of time - in finance, it is a constant stream of identical cash flows with no ends Growing perpetuity series of periodic payments that grow at a proportionate rate and are received for an infinite amount of time Uneven cash flow - Any series of cash flows that doesn't conform to the definition of an annuity is considered to be an uneven cash flow stream. APR simple interest, expressed as an annual rate; typically written into contracts/credit card agreements EAR compare rates w/ different compounding periods; tells you the year over year increase in value given periodic rate and frequency of compounding PIR rate that corresponds to compounding period Real Interest rates compensate for inflation or deflation; inflation is rise - attempt to correct for inflation and deflation Nominal Interest Rates like gross pay; doesn't compensate for inflation or deflation Who do bondholders have priority over Shareholders - you have to pay the bondholders first

What are bond ratings? Why do they matter? Bond ratings : risk of default Gold does not back the dollar What do we consider "reality" to be in class? Cash flow Creditors have priority over?... owners Know how bond prices vary with YTM (yield to maturity) - Bond prices vary with YTM - Higher bond prices equal - the lower the YTM the less we discount future payments...