CMA Final Paper 15 key terms

The blended required return of a firm's debt and equity providers, weighted by their market-value proportions. It is the hurdle rate for projects of average risk and the discount rate in many valuation models.

The return shareholders demand for bearing ownership risk. It cannot be observed directly and is usually estimated with the capital asset pricing model, dividend growth models, or bond-yield-plus-risk-premium approaches.

A model pricing equity as the risk-free rate plus beta times the market risk premium. It assumes diversified investors care only about systematic risk, so unsystematic risk earns no extra return.

A measure of how strongly a share's returns move with the overall market. A beta above one indicates greater sensitivity than the market; a beta below one indicates less. It captures systematic risk only.

Risk arising from economy-wide factors such as interest rates, inflation, or recessions that cannot be removed by diversification. Markets reward only this type of risk with a premium.

Firm-specific risk such as a plant failure, a product recall, or a management dispute. Because shareholders can eliminate it by holding a diversified portfolio, it does not command a risk premium.

A situation where a firm cannot fund every positive net present value project because capital or management capacity is limited. Projects are then ranked by profitability index or other value-per-unit-of-scarce-resource measures.

The present value of a project's future cash flows divided by its initial outlay. A value above one signals an acceptable project, and the index is useful for ranking projects under capital rationing.

The sum of a project's expected cash flows discounted at the required rate of return, minus the initial investment. A positive NPV means the project adds value to shareholders.

The discount rate at which a project's net present value equals zero. It is compared with the hurdle rate, but can mislead when cash flows change sign or when project scale differs.

A variant of IRR that assumes interim cash flows are reinvested at the cost of capital rather than at the IRR itself, and produces a single answer even when cash flows change sign more than once.

The value of managerial flexibility embedded in an investment, such as the option to delay, expand, abandon, or switch inputs. Traditional discounted cash flow analysis ignores this flexibility and can undervalue projects.

A technique that changes one input at a time to see how much a project's outcome moves. It identifies which assumptions matter most but ignores correlations between variables.

A technique that reworks a project's cash flows under a small number of coherent alternative futures, such as best, base, and worst cases, allowing variables to move together rather than one at a time.

A probabilistic technique that assigns distributions to uncertain inputs and runs thousands of random draws to build a distribution of project outcomes, supporting probability statements about value.

A costing method that assigns overhead to products through activities and cost drivers rather than a single volume-based rate. It improves accuracy where products consume support resources in very different proportions.

The use of activity cost information to improve operations by eliminating or reducing non-value-added activities and by redesigning processes, rather than merely to restate product costs.

Any factor that causes a cost to change in total, such as number of setups, machine hours, or customer orders. Identifying drivers is the foundation of activity-based costing and of cost behaviour analysis.

The way total cost responds to changes in activity volume, typically classified as fixed, variable, or mixed within a relevant range. It underpins break-even analysis and flexible budgeting.

Sales revenue less variable costs. It measures the amount each unit or each sale contributes toward covering fixed costs and then generating profit, and it is central to break-even and short-run decisions.

A future cash cost that differs between the alternatives being considered. Sunk costs and allocated fixed overhead are excluded because they do not change the decision.

The benefit forgone by choosing one course of action over the next best alternative. It is a relevant cost in decision making even though it never appears in accounting records.

The price at which one division of a company supplies goods or services to another. It affects divisional profit, motivation, and the optimal level of internal trade.

Divisional profit less a charge for the capital employed, calculated as profit minus the required return multiplied by invested capital. It discourages managers from rejecting acceptable projects simply to protect return ratios.

Divisional profit divided by invested capital, often decomposed into margin and turnover. It is simple and comparable but can prompt managers to reject profitable investments that dilute an existing high return.

A measure of profit after deducting a charge for all capital employed, including equity. A positive figure means the business earned more than its investors' required return.

A performance framework that combines financial measures with customer, internal process, and learning and growth perspectives, linking day-to-day measures to strategy.

A small set of measures chosen because they signal progress toward a critical objective. Good KPIs are specific, measurable, and tied to outcomes the organisation can influence.

A process step that increases what a customer is willing to pay for, or that is required by law or regulation. Activities that add neither are candidates for elimination.

The policies, procedures, and culture a board and management put in place to safeguard assets, produce reliable reporting, and comply with laws. It provides reasonable, not absolute, assurance.

A widely used model describing internal control across five components: control environment, risk assessment, control activities, information and communication, and monitoring activities.

Splitting incompatible tasks, such as authorising a payment, recording it, and holding the related asset, among different people so that no single person can both commit and conceal an error or fraud.

The amount and type of risk an organisation is willing to accept in pursuing its objectives. It is set by the board and translated into limits and tolerances for operating units.

A structured log of identified risks, each rated for likelihood and impact, with an assigned owner and planned response. It is the working document of the risk management process.

A governance structure in which operational management owns risk, a risk and compliance function monitors it, and internal audit provides independent assurance to the board.

A subcommittee of independent non-executive directors responsible for overseeing financial reporting, external audit, internal audit, and the effectiveness of internal control.

The conflict that arises when managers, acting as agents for shareholders, pursue their own interests such as empire building, excessive pay, or risk avoidance instead of maximising shareholder value.

The system of rules, practices, and processes by which a company is directed and controlled, balancing the interests of shareholders, management, and other stakeholders.

A arrangement in which one party, the principal, delegates work to another, the agent, who may have different information and incentives. It creates monitoring and bonding costs.

A transfer of resources between a company and a party connected to it, such as a director or a major shareholder. Such dealings require disclosure and often independent approval to protect minority investors.

A situation where a person's private interest could improperly influence a professional judgement. Ethical codes require disclosure and, where necessary, withdrawal from the decision.

The state of being free from relationships or pressures that could compromise objective judgement, whether in fact or in appearance. It is a core requirement for auditors and non-executive directors.

The disclosure by an employee of suspected wrongdoing within the organisation, ideally through a protected channel that shields the reporter from retaliation.

A model explaining fraud as the convergence of pressure or incentive, opportunity, and rationalisation. Controls typically target opportunity, the element most within management's power to reduce.

The accounting process of recording revenue when performance obligations are satisfied and control of goods or services passes to the customer, at an amount reflecting expected consideration.

Recording income and expenses when they are earned or incurred rather than when cash moves. It improves matching of effort to reward but requires judgement and estimation.

The extent to which reported profit reflects sustainable operating performance and is free from aggressive estimates, one-off items, or manipulation. High quality earnings persist and convert into cash.

Cash generated from operations after maintaining and expanding the asset base, available to debt and equity holders. It is the usual cash flow input to a discounted valuation.

A valuation method that projects future free cash flows and discounts them at an appropriate rate to estimate present value. The result depends heavily on terminal value assumptions.

The estimated value of all cash flows beyond the explicit forecast period, often calculated with a perpetuity growth formula or an exit multiple. It frequently dominates a DCF result.

A relative valuation method that values a business by applying multiples such as price-to-earnings or enterprise value to EBITDA from similar listed companies to the target's metrics.

The total value of a business to all capital providers, equal to market capitalisation plus debt and minority interests less cash. It is the numerator in EV-to-EBITDA multiples.

The additional value created when two businesses combine that exceeds the sum of their standalone values, arising from cost savings, revenue gains, or better capital use.

An assessment of whether an acquisition increases or decreases the acquirer's earnings per share, comparing pro forma combined earnings with the acquirer's standalone figure.