Chapter 12: Investing in Stocks Flashcards Preview

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Flashcards in Chapter 12: Investing in Stocks Deck (57)
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31

Analysis of a firm:Inventory turnover:

a measure of how efficiently a firm manages its inventory; computed as the cost of goods sold divided by average daily inventory

32

Analysis of a firm:Average collection period

used to determine the average age of accounts receivable; computed as accounts receivable divided by average daily sales

33

Analysis of a firm:Asset turnover ratio:

used to assess how efficiently a firm uses its assets; computed as sales divided by average total assets

34

Analysis of a firm:Operating profit margin:

a firm’s operating profit divided by sales

35

Analysis of a firm:Net profit margin:

: a measure of profitability that measures net profit as a percentage of sales

36

Analysis of a firm: Return on Assets

a measure of profitability; computed as net profit divided by total assets

37

Analysis of a firm: return on equity

: a measure of profitability; computed as net profit divided by the owners’ investment in the firm (shareholder’s equity)

38

Analysis of a firm:Focus on Ethics: Accounting Fraud

Motivation for Fraud

Stock price helps determine manager compensation
Leads to a short-tem focus

39

Analysis of a firm:Focus on Ethics: Accounting Fraud

Revenue-Inflating Techniques

Recognizing revenue before it is earned
Recognizing revenue from orders that are likely to be cancelled

40

Preventing Future Accounting Fraud

=Auditor’s may not always be “independent”
=Sarbanes-Oxley Act was created in order to restore investor confidence in the markets and to prevent future occurrences of accounting fraud

41

Economic Analysis of Stocks

Involves assessing any economic conditions that can affect a firm’s stock price

42

Economic growth:

the growth in a country’s economy over a particular period; commonly measured by GDP

43

Gross domestic product (GDP):

the total market value of all products and services produced in a country

44


Fiscal policy:

how the government imposes taxes on individuals and corporations and how it spends tax revenues
-Tax increases, corporate and individual, can have a negative impact on economic growth
-Taxes may have to be increased to grow an economy, create jobs, and provide services

45

Interest Rates

Stocks perform better when interest rates are low
Firms tend to be more willing to expand
The demand for stocks increases

46

Monetary policy:

techniques used by the Bank of Canada to affect the economy of the country

47

Inflation:

the increase in the general level of prices of products and services over a specified period

48

Consumer price index (CPI):

a measure of inflation that represents the increase in the prices of consumer products such as groceries, household products, housing, and gasoline over time

49

Stock Valuation

Price of a stock is based on the demand for that stock versus the supply of stock available for purchase
Identify a firm that you think may perform well in the future
Buy a stock when you think that it is undervalued
Value a stock using technical or fundamental analysis

50

Technical analysis:

the valuation of stocks based on historical price patterns using various charting techniques

51

Fundamental analysis:

the valuation of stocks based on an examination of fundamental characteristics such as revenue, earnings, and/or the sensitivity of the firm’s performance to economic conditions

52

Dividend Discount Model (DDM) Method

a method of valuing stocks in which a firm’s future dividend payments are discounted at an appropriate rate of interest

Works best for mature firms that pay a large stable dividend

53

Limitations of the DDM Method

-Dividend payments may not be stable over time
-Growth rate in dividends is difficult to predict
-Dividends may not accurately reflect the cash flows available to shareholders
-Model cannot be applied to firms that do not pay dividends

54

Price-Earnings (P/E) Method

Based on the value of the firm’s earnings
a method of valuing stocks in which a specific firm’s earnings per share are multiplied by the mean industry price-earnings (P/E) ratio

55

Limitations of the P/E Method

-Forecasting earnings is is difficult
-What is the proper P/E multiple that should be used to value a stock?
-Results will vary depending on the firms selected to derive a mean industry P/E ratio
=Some firms are involved in multiple industries

56

Stock valuation: Stock market efficiency : Efficient stock market:

a market in which stock prices full reflect information that is available to investors

57

Stock valuation: Stock market efficiency:Inefficient stock market:

a market in which stock prices do not reflect all public information that is available to investors