ICSAN Financial Strategy key terms

The value lost when managers pursue their own interests instead of shareholders' interests, including monitoring costs, bonding costs and the residual loss that remains despite controls.

The conflict that arises when a principal such as a shareholder delegates decisions to an agent such as a director, and the two parties' incentives and information diverge.

The present value of one currency unit received at the end of each period for a given number of periods, discounted at a stated rate; used to value level cash flow streams quickly.

An asset pricing model in which expected return is a linear function of several systematic risk factors, such as inflation surprises, industrial production and term spreads, rather than a single market factor.

A measure of how much a share's return moves with the market return; a beta above one indicates above-average systematic risk, and it drives the equity cost in the CAPM.

A model stating that required equity return equals the risk-free rate plus beta times the market risk premium, so only non-diversifiable risk is rewarded.

The process of evaluating and selecting long-term investment projects, ranking them by criteria such as net present value and deciding which to fund under capital rationing.

A situation where a firm cannot fund all positive net present value projects because of a fixed capital budget (hard rationing) or self-imposed limits (soft rationing).

The mix of debt and equity a company uses to finance its assets, which affects financial risk, the weighted average cost of capital and hence firm value.

The system of rules, board structures, controls and accountability mechanisms by which companies are directed and held to account by shareholders and other stakeholders.

The minimum return a company must earn on its investments to satisfy providers of debt and equity finance, reflecting the risk of the business and its financing mix.

The risk that a counterparty or borrower fails to meet interest or principal obligations when due, causing a loss to the lender or derivative holder.

A derivative contract in which one party pays periodic premiums and receives compensation if a specified borrower defaults or suffers a defined credit event.

The proposition that, in perfect markets without taxes or transaction costs, the split between dividends and retained earnings does not change shareholder wealth.

A company's stated approach to deciding how much profit to distribute to shareholders and how much to retain, including the level, timing and stability of payouts.

A performance measure equal to net operating profit after tax minus a capital charge on invested capital, showing whether a business earns more than its cost of capital.

The proportion of debt in a company's capital structure, often measured as debt to equity or debt to total capital, which magnifies both returns and losses to shareholders.

The additional variability of shareholder returns caused by fixed financing obligations such as interest and preference dividends, over and above business risk.

A private agreement to buy or sell an asset at a fixed price on a future date, tailored to the parties' needs but carrying counterparty and liquidity risk.

A standardised exchange-traded agreement to trade an underlying asset at a set price on a future date, marked to market daily through a clearing house.

Taking an offsetting position in a derivative or other instrument to reduce exposure to an identified risk such as interest rate, currency or commodity price movements.

The discount rate at which a project's net present value equals zero; a project is acceptable if this rate exceeds the required return, though it can mislead with non-conventional cash flows.

The relationship stating that the difference between forward and spot exchange rates reflects the interest rate differential between two currencies, preventing riskless arbitrage.

An agreement between two parties to exchange interest payment streams, typically fixed for floating, on a notional principal over a set term, used to manage interest rate exposure.

The excess return investors expect from holding the market portfolio over the risk-free rate, a key input to the capital asset pricing model.

Theory showing that capital structure is irrelevant in perfect markets without tax, but that with tax the value rises with debt because interest is tax-deductible, tempered by distress costs.

The sum of a project's future cash flows discounted at the required rate of return, less the initial outlay; a positive value means the project adds shareholder wealth.

A rental arrangement where the lessor retains most risks and rewards of owning the asset, giving the lessee short-term use without a large capital outlay.

A project's present value of future cash flows divided by its initial investment; used to rank projects when capital is rationed and funds are limited.

The theory that exchange rates adjust so identical baskets of goods cost the same across countries, implying exchange rate changes track relative inflation differentials.

A divisional performance measure equal to divisional profit minus a charge for the capital employed, encouraging managers to cover the cost of the assets they use.

A performance ratio dividing divisional or project profit by the capital invested, simple to compute but able to discourage managers from accepting profitable projects that dilute the ratio.

A transaction in which a company sells an asset it owns and immediately leases it back, releasing capital tied up in property while retaining use of it.

A company's repurchase of its own shares in the market or by tender offer, returning cash to shareholders and reducing the number of shares in issue.

The idea that managerial actions such as dividend increases, share issues or buybacks convey private information about a firm's prospects to outside investors.

The view that a company should be managed in the interests of all parties affected by it, including employees, customers, suppliers and communities, not only shareholders.

Risk that affects the whole market and cannot be removed by diversification, such as interest rate or recession risk; it is the risk priced in expected returns.

The increase in firm value created by the tax deductibility of interest payments on debt, equal to the tax rate times the debt amount under simplified assumptions.

The blended after-tax cost of a firm's debt and equity, weighted by their market values, used as the discount rate for projects of average business risk.

The funds tied up in current assets such as inventory and receivables less current liabilities, managed to balance liquidity against the cost of financing.