CPA PEP Finance Elective flashcards

32 cards. Read the term and the definition here. The deck at the top of this page is optional.

Revenue recognition five-step model

Identify the contract, identify performance obligations, determine transaction price, allocate price to obligations, and recognize revenue when each obligation is satisfied, either at a point in time or over time.

Right-of-use asset

Lessee-recognized asset under IFRS 16 measured at the initial lease liability plus initial direct costs, prepaid lease payments, and restoration costs, less incentives received and accumulated depreciation.

Deferred tax liability

Amount of income tax payable in future periods arising from taxable temporary differences, measured at enacted or substantively enacted rates expected when the difference reverses.

Fair value hierarchy levels

Level 1 uses quoted prices in active markets; Level 2 uses observable inputs other than Level 1; Level 3 uses unobservable inputs. Disclosure increases as inputs become less observable.

DuPont ROE decomposition

Return on equity equals net profit margin multiplied by total asset turnover multiplied by the equity multiplier, separating operating performance from financing leverage effects.

Free cash flow to firm

EBIT times one minus the tax rate, plus depreciation, minus capital expenditures, minus the increase in net working capital. Discounted at WACC to estimate enterprise value.

Sustainable growth rate

ROE multiplied by one minus the dividend payout ratio. Growth above this rate requires new external equity or higher leverage to fund the asset expansion.

Common-size analysis

Expressing income statement lines as a percentage of revenue and balance sheet lines as a percentage of total assets, enabling comparison across companies and periods.

Quality of earnings

Assessment of whether reported profit is backed by operating cash flow and recurring business activity, rather than accruals, one-time gains, or aggressive accounting choices.

Net present value rule

Accept a project when the present value of expected cash inflows discounted at the hurdle rate exceeds the initial outlay; NPV measures value added in absolute dollars.

Incremental cash flow

The change in firm cash flows attributable to a project, including opportunity costs and cannibalization, excluding sunk costs and allocated overhead not affected by the decision.

Profitability index

Present value of a project's cash inflows divided by its initial investment. Used to rank projects when capital is rationed, since it measures value per dollar invested.

Equivalent annual cost

NPV of a project's costs divided by the annuity factor for its life. Used to compare replacement alternatives with unequal useful lives on a per-year basis.

Weighted average cost of capital

Equity weight times cost of equity plus debt weight times after-tax cost of debt, using market values and the target capital structure, discounted against free cash flow to firm.

Hamada equation

Levered beta equals unlevered beta times one plus one minus the tax rate times the debt-to-equity ratio. Used to relever peer betas to a target capital structure.

Modigliani-Miller with taxes

In perfect markets with corporate taxes, firm value increases with debt by the tax rate times debt, because interest is deductible, offset in practice by distress costs.

Pecking order theory

Firms prefer internal funds first, then debt, then external equity, because asymmetric information and issuance costs make equity issuance the most costly and most negatively interpreted option.

Interest rate parity

The forward rate divided by the spot rate equals one plus the foreign interest rate divided by one plus the domestic rate; deviations permit covered interest arbitrage.

Call option payoff

At expiry, the call holder receives the greater of the underlying price minus the strike price and zero; the premium paid reflects intrinsic value plus time value.

Interest rate swap

An agreement to exchange fixed-rate and floating-rate interest payments on a notional principal; the fixed-rate payer benefits when market interest rates rise.

Transaction exposure

The risk that known foreign-currency receivables and payables change in domestic value before settlement due to exchange rate movements; hedged with forwards or options.

Hedge accounting criteria

Requires formal designation and documentation of the hedging relationship, a hedged item and instrument, and an economic relationship demonstrating effectiveness under IFRS 9 or ASC 815.

Enterprise value

Equity market value plus net debt, preferred shares, and minority interest, minus associates and non-operating investments. Capital-structure-neutral basis for comparing companies using EV/EBITDA.

Terminal value

The present value at the forecast horizon of all subsequent cash flows, commonly estimated as next-year free cash flow divided by WACC minus the long-run growth rate.

Accretion dilution test

A deal is accretive to acquirer EPS when the target's earnings yield exceeds the after-tax cost of acquisition financing; stock deals also depend on relative price-earnings ratios.

Goodwill on acquisition

Consideration transferred plus non-controlling interest minus the fair value of identifiable net assets acquired. Not amortized; tested annually for impairment under IFRS and US GAAP.

Control premium

The amount paid above the pre-announcement trading price to acquire a controlling stake, reflecting expected synergies and the value of control; observed in precedent transaction multiples.

LBO value creation drivers

Returns decompose into EBITDA growth, multiple expansion at exit, and debt paydown from free cash flow. Leverage amplifies both gains and losses to the private equity sponsor.

COSO internal control framework

Five components: control environment, risk assessment, control activities, information and communication, and monitoring activities, supported by seventeen principles applied across the entity.

Audit committee role

Board committee responsible for overseeing financial reporting integrity, external auditor appointment and independence, internal controls, and whistleblower and complaint handling procedures.

Professional skepticism

An attitude of questioning and corroborating management assertions with independent evidence rather than accepting them at face value, documenting judgments and alternatives considered.

Conflict of interest

A situation where a finance professional's personal or competing interests could impair objectivity; requires disclosure, management, or withdrawal when consent cannot be obtained.