Test 3 | FINA 3001 - Financial Management, Quizzes of Financial Management

Download Test 3 | FINA 3001 - Financial Management and more Quizzes Financial Management in PDF only on Docsity! TERM 1 Forecasting risk DEFINITION 1 how sensitive is our NPV to changes in the cash flow estimatesthe more sensitive, the greater the forecasting risk TERM 2 Sources of value DEFINITION 2 why does this project create value TERM 3 Best case (scenario) DEFINITION 3 high revenues, low costpossible, but not always probable TERM 4 Worst case (scenario) DEFINITION 4 low revenues, high costspossible, but not always probable TERM 5 Scenario Analysis DEFINITION 5 measures the range of possible outcomeswhat happens to NPV estimates when we start asking what-if questions TERM 6 Sales DEFINITION 6 = # of unit sales X price per unit TERM 7 Variable Costs (VC) DEFINITION 7 = # of unit sales X VC per unit TERM 8 EBIT DEFINITION 8 = Sales - VC - FC - Depreciation TERM 9 Taxes DEFINITION 9 = EBIT X (tax) TERM 10 Net Income (NI) DEFINITION 10 = EBIT X (1-tax) TERM 21 Soft Rationing DEFINITION 21 the limited resources are temporaryoften self- imposedProfitability index useful-index calculating profitability-pv of all cash outflows / pv of all cash inflow TERM 22 Hard Rationing DEFINITION 22 Capital will never be available for this project TERM 23 Uncertainty of Risk DEFINITION 23 How do we define and measure risk? What is the link between risk of an investment & its expected rate of return Compare variation of returns wen comparing investment & rate of return More risk= higher return (higher risk premium) TERM 24 Random Variable DEFINITION 24 The rate of return on a stock at nay time is a random variable R=(D1+P1/P0)-1 TERM 25 Expected Returns DEFINITION 25 the return on a risky asset expected in the future Based on probabilities of possible outcomes Expected means average if (process) repeated many times ER does not have to be possible return ER= p1R1 + p2R2 +.. TERM 26 Required Rate of Return for Financial Investment DEFINITION 26 = Expected Rate of Return TERM 27 Required Rate of Return for Non-Financial Investment DEFINITION 27 =expected returns on financial investments of similar risk TERM 28 Components of Expected Return DEFINITION 28 Expected return= Risk-free return + Risk Premium Higher risk = higher expected returnRisk-free return- reward for waiting/time value of moneyRisk premium- reward for bearing risk TERM 29 Realized Returns DEFINITION 29 = Expected return + unexpected return Future returns are random (this why not same as expected returns)- this makes assets risky Unexpected= positive or negative Average of unexpected component (over time)= 0 TERM 30 Standard Deviation DEFINITION 30 Std. dev. Of returns = good measure of risks How much the actual returns differ from the expected returns Same unit & scale- advantage of variances =square root of variance declines as # of securities increase TERM 31 Variance DEFINITION 31 Average value of squared deviations from mean Var(R)= p1* [R1-E(R)]squared + etc TERM 32 Portfolio DEFINITION 32 =group of assets portfolio securities & time periods examined not identical TERM 33 Portfolio Weight DEFINITION 33 =percentage of the portfolios total value invested in that particular asset Positive (long position) or Negative (short position) Portfolio weights must sum to 1 TERM 34 Risk-Return Trade-Off (for portfolio) DEFINITION 34 =measured by portfolio expected return & standard deviation (just as w/individual assets) TERM 35 Return of a Portfolio DEFINITION 35 =weighted-average of the returns of assets in the portfolio Rp= w1R1 + w2R2 + etc.. TERM 46 Risk Premium DEFINITION 46 = expected return- risk free rate TERM 47 Reward to Risk Ratio DEFINITION 47 =[ (E(R)-Rf)] = slope- higher slope, higher compensation (BA- 0)below line= underpricingabove line= overpricing TERM 48 Market Equilibrium DEFINITION 48 E(RA)- Rf = E(RM -Rf) BA BM TERM 49 Security Market Line DEFINITION 49 representation of market equilibriumslope of SML is reward to risk ratiomarket risk premium=slope= E(RM)-Rf TERM 50 Capital Asset Pricing Model DEFINITION 50 relationship between risk and returnERi =Rf + Bi (ERM-Rf)if we know asset's systematic risk, we can use CAPM to figure out expected returnprovides good intuition about type of risk to be rewarded: non-diversifiable riskgold standard for cost- of-capital estimations in real world TERM 51 Beta DEFINITION 51 measures the sensitivity of a stock price to market movementsBeta higher, more movements in market TERM 52 Portfolio beta DEFINITION 52 Bp= w1B1 + etc.... TERM 53 Required Returns for Financial Assets DEFINITION 53 Estimate implied discount rates from asset prices and expected cash flowsEstimate required rate of return based on the riskiness of the asset TERM 54 Required Returns on Debt DEFINITION 54 =CPN/(1+y) + etc. + (CPN +Face)/(1+y)to the something TERM 55 Required Return on Equity DEFINITION 55 P0= D1/ (Re-g)