CMA Final Paper 15 cheat sheet

Shareholder value analysis: value = present value of expected free cash flows discounted at WACC; growth only adds value when ROIC exceeds WACC.

Sustainable growth rate = (ROE × retention ratio) / (1 − ROE × retention ratio); retention ratio b = 1 − dividend payout.

Economic Value Added = NOPAT − (WACC × invested capital); equivalently (ROIC − WACC) × invested capital.

Market Value Added = market value of capital (debt + equity) − book value of invested capital; cumulative measure of value creation.

Dividend policy irrelevance (Modigliani–Miller) holds only in perfect markets without taxes, flotation costs, or signalling effects.

Financial strategy matrix: a business with ROIC > WACC and positive growth is a value creator; growth with ROIC < WACC destroys value.

Cash flow return on investment (CFROI) compares gross cash flows to gross investment, adjusting for asset life and inflation.

Treasury/working capital rule: reduce cash conversion cycle (DIO + DSO − DPO) to release funds; each day released equals one day of sales in cash.

Target costing: allowable cost = target selling price − target profit margin; cost reduction is driven by value engineering to close the cost gap.

Activity-based costing assigns overhead via cost drivers; activity-based management uses the resulting cost data to eliminate non-value-added activities.

Balanced Scorecard has four perspectives: financial, customer, internal business process, and learning and growth; each needs objectives, measures, targets, initiatives.

Return on investment (ROI) = operating profit / invested capital; residual income = operating profit − (required return × invested capital).

RI is preferred to ROI for goal congruence because a manager will accept projects earning above the required return even if they lower divisional ROI.

Transfer pricing: minimum price = variable cost + opportunity cost of the transferred unit; this is the general transfer pricing rule.

Life-cycle costing accumulates costs over design, development, manufacturing, and end-of-life phases; most costs are locked in at the design stage.

Kaizen costing targets continuous incremental cost reduction during production, in contrast to target costing's design-stage focus.

Throughput accounting: throughput = sales − direct material cost; bottleneck (constraint) resources set the pace of output.

COSO Internal Control framework has five components: control environment, risk assessment, control activities, information and communication, and monitoring activities.

COSO ERM (2017) has five components across 20 principles: governance and culture, strategy and objective-setting, performance, review and revision, information/communication/reporting.

Three lines model: management owns risk (first line), risk/compliance functions monitor (second line), internal audit provides independent assurance (third line).

Inherent risk × control effectiveness = residual risk; residual risk is what remains after controls are applied.

Risk response options under COSO ERM: accept, avoid, reduce (mitigate), share (transfer), and pursue (exploit).

Segregation of duties separates custody of assets, authorization, and record-keeping; combining them raises fraud risk.

COSO defines fraud triangle as incentive/pressure, opportunity, and rationalization/attitude.

Value at Risk (VaR) states the maximum loss over a given horizon at a stated confidence level; it says nothing about the size of losses beyond that threshold.

Agency problem: separation of ownership and control creates conflicts; governance mechanisms include boards, audits, disclosure, and incentive alignment.

Board independence requires a majority of non-executive directors; audit, remuneration, and nomination committees should be composed of independent directors.

Audit committee responsibilities: oversee external audit, internal audit, financial reporting integrity, and internal control; it must not manage the business.

Dual-class share structures concentrate control with founders; governance concerns include unequal voting rights and reduced accountability.

Stakeholder vs shareholder models: shareholder primacy maximizes shareholder value; stakeholder model balances employees, creditors, community, and environment.

King IV applies 'apply and explain' for principles and 'apply or explain' for practices; it uses an outcomes-based approach (ethical culture, performance, effective control, legitimacy).

Disclosure rules typically require related-party transactions, director remuneration, and material risk factors to be reported.

Whistleblowing channels should allow confidential, anonymous reporting and be protected from retaliation by law and policy.

Ethical decision frameworks: utilitarian (greatest good), deontological (duties/rights), and virtue ethics (character); each may yield a different conclusion.

IMA Statement of Ethical Professional Practice: competence, confidentiality, integrity, and credibility; unresolved ethical issues escalate to the next level and then to the audit committee.

Fraud elements: misappropriation of assets (theft) vs fraudulent financial reporting (misstatement); both require intent and concealment.

Contract essentials: offer, acceptance, consideration, capacity, intention to create legal relations, and legality; absence of any element undermines enforceability.

Agency law: the agent owes fiduciary duties of loyalty, obedience, and disclosure; apparent authority can bind the principal even without actual authority.

Negligence elements: duty of care, breach, causation, and damage; contributory negligence reduces the claimant's recovery.

Insider trading prohibits dealing on material non-public information and tipping others who trade on it.

Bribery and corruption laws (e.g., FCPA, UK Bribery Act) have extraterritorial reach; facilitation payments are treated differently across jurisdictions.

Revenue recognition (IFRS 15 / ASC 606) five steps: identify contract, identify performance obligations, determine transaction price, allocate price, recognize when satisfied.

Goodwill is not amortized under IFRS; it is tested annually for impairment; impairment losses are not reversed under IFRS for goodwill.

Leases (IFRS 16): lessee recognizes a right-of-use asset and lease liability at present value of lease payments; operating lease expense is replaced by depreciation and interest.

DuPont: ROE = net profit margin × asset turnover × financial leverage; decompose to diagnose drivers of return.

Current ratio = current assets / current liabilities; quick ratio excludes inventory and prepayments.

Cash flow quality: compare operating cash flow to net income; sustained OCF below net income signals aggressive accruals.

Fair value hierarchy: Level 1 quoted prices, Level 2 observable inputs, Level 3 unobservable inputs; Level 3 carries greater estimation risk.

Earnings management red flags: rising revenue with rising receivables, declining cash conversion, and frequent one-off 'exceptional' charges.

NPV = present value of cash inflows − initial investment; accept projects with NPV > 0; NPV is the preferred method because it measures absolute value added.

IRR is the discount rate where NPV = 0; accept if IRR > cost of capital; IRR can mislead with non-conventional cash flows (multiple IRRs) or scale differences.

Profitability index = PV of inflows / initial investment; useful when capital is rationed, rank by PI.

Payback period ignores time value and cash flows after payback; discounted payback corrects for time value but still ignores later flows.

Incremental cash flows only: exclude sunk costs and allocated fixed overhead; include opportunity costs and working capital changes.

Depreciation tax shield = depreciation × tax rate; it is a relevant cash flow because it reduces tax payable.

Real options (expand, defer, abandon, switch) add value beyond static NPV by capturing managerial flexibility.

Capital rationing: with a single-period constraint, select the combination maximizing total NPV subject to the budget; use linear programming for multi-period.

WACC = (E/V) × Ke + (D/V) × Kd × (1 − t); use market values and after-tax cost of debt.

CAPM: Ke = Rf + β × (Rm − Rf); beta measures systematic risk; unsystematic risk is diversifiable and not priced.

Dividend growth model: P0 = D1 / (Ke − g); rearranged, Ke = D1 / P0 + g; g must be less than Ke.

Free cash flow to firm = EBIT × (1 − t) + depreciation − capex − increase in working capital.

Enterprise value = market value of equity + debt − cash; EV/EBITDA is a common relative valuation multiple.

Modigliani–Miller with taxes: value of levered firm = value of unlevered firm + tax rate × debt; without taxes, capital structure is irrelevant.

Merger synergy value = combined value − (acquirer value + target value); a premium above synergy destroys acquirer shareholder value.

Adjusted present value = base-case NPV + PV of financing side effects (tax shield, issue costs, subsidies).