Professional Documents
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BEC Final Review Notes
BEC Final Review Notes
A: Corporate Governance
Remember that it would be a CRIME if you forgot the five components of internal control:
1. Control Environment – tone at the top and ethics [EBOCA]
Commitment to ethical values
Board independence and oversight
Organizational structure
Commitment to competence
Accountability
2. Risk Assessment – financial statement misstatements, not efficient controls, breaking law [SAFR]
Specify objectives
Identify and analyze risks
Consider the potential for fraud
Identify and assess changes
3. Information & Communication – fair, accurate, complete, timely [OIE]
Obtain and use information
Internally communicate information
Communicate external parties
4. Monitoring – effectiveness of controls and report deficiencies [SO D]
Ongoing and/or separate evaluations
Communication of deficiencies
5. Existing Control Activities – policies/procedures to mitigate risks [CA T P]
Select and develop control activities
Select and develop technology controls
Deploy through policies and procedures
Pass Key
An effective system of internal control requires more than adherence to policies and procedures by
management, the board of directors and the internal auditors
It requires the use of judgement in determining the sufficiency of controls, in applying the
proper controls, and in assessing the effectiveness of the system
The principles-based approach of the framework supports the emphasis on the importance of
management judgement
The framework is not a rules-based approach – only principle based
Real GDP = measures the value of all final goods and services in constant prices, adjusted for changes in the price level (inflation)
Nominal GDP = measures the value of all final goods and services in current prices (not adjusted for inflation)
Nominal GDP
Real GDP= x 100
GDP Deflator
Leading economic indicators tend to predict economic activity (ex: orders for goods, stock market, new housing)
o Lagging indicators follow economic activity (ex: consumer price index, interest rates, unemployment)
Coincident indicators change at generally the same time as the whole economy (ex: industrial production (GDP))
Aggregate Demand and Supply Curves
Aggregate Demand Curve – indicates the maximum quantity of all goods and services that households, business, and government are
willing and able to purchase at any given price level
o Aggregate Supply Curve – indicates the maximum quantity of all goods and services that producers are willing and able to
produce at any given price level
While changes in the price level will impact the AD or AS along the AD/AS curves, there are other factors beyond price level that may
cause an inward or outward shift in their of the curves
Economic Measures/Indicators
Gross Domestic Product (GDP) = the measure of the output and performance of a nation’s economy that includes all final goods and
services produced by resources within a country, regardless of what country owns the resources
o Expenditure Approach to GDP (GICE)
Government Purchases
Gross Domestic Investment (Business Spending)
Personal Consumption
Net Exports (Exports – Imports)
o Income Approach to GDP (I PIRATED)
Income of Proprietors
Profits of Corporations
Interest (Net)
Rental Income
Adjustments for Net Foreign Income & Misc. Items
Taxes (Government Income)
Employee Compensation (Household Income)
Depreciation
Gross National Product (GNP) = the measure of the market value of all final goods and services produced by residents of a country
o Regardless of whether or not the resident produces the goods/services domestically or abroad
Net National Product (NNP) = GNP – Depreciation
o National Income (NI) = NNP – Indirect Business Taxes
Disposable Income (DI) = Personal Income – Personal Taxes
o Personal income is income received by households and noncorporate businesses
Market Equilibrium
Market’s equilibrium price and quantity is the point on the graph where the supply and demand curves intersect
o Also called the market clearing price
% Change∈¿units of X demanded(supplied)
Income Elasticity of Demand (Supply)=
% Change∈Income
Production Costs in the Short/Long Run
Production costs in the short run are both fixed and variable
Cost Functions:
o Average Fixed Cost = FC / Q
o Average Variable Cost = VC / Q
o Average Total Cost = TC / Q
o Marginal Cost = TC / Q
All production costs in the long-run are variable with the long-run
average total cost curve being U-Shaped
Pass Key
It is important to be able to classify risk into two broad categories:
1. Diversifiable Risk – unsystematic risk (nonmarket/firm-specific)
2. Non-diversifiable Risk – systematic risk (market risk)
Computation of Return
Stated Interest Rate = rate of interest charged before adjustments for compounding or market factors
Effective Interest Rate = the actual finance charge associated with a borrowing
o After reducing the loan proceeds for charges and fees
Simple Interest Rate = the amount of interest paid on the original principle without including compounding
o Formula for calculating simple interest – SI = P0(i)(n)
Compound Interest = amount of interest earnings or expense that is based on the original principal plus unpaid interest earnings or
expense – FVn = P0 (1+i)n
Required Rate of Return = rate computed starting with the risk-free rate and adding the market risk premium, inflation premium,
liquidity risk premium, and default risk premium
Transfer Pricing
Primary reason for transfer pricing arrangements between domestic parents and foreign subsidiaries is to minimize local taxation
Intercompany cash transfers are often managed through the use of:
o “Leading” transfer policy – subsidiaries with strong cash position
o “Lagging” transfer policy – subsidiaries with weak cash position
Financial Management in Business
A: Capital Structure
o Firm with significant operating leverage must have sufficient sales revenues to cover high fixed operating costs
High operating leverage can be very capital intensive (con)
o Beyond breakeven, firms with higher F.C.s will retain a higher percentage of additional revenues as operating revenue (pro)
Financial Leverage = the degree to which a firm uses debt (as opposed to equity) in its capital structure
o Firm with significant financial leverage must have sufficient operating income (EBIT) to cover fixed interests costs (con)
o Once interest costs are covered, additional EBIT goes straight to net income and EPS (pro)
Expected Dividend
Cost of Common Stock= x Constant Growth Rate ∈Dividends
Current Stock Price
4. Cost of Retained Earnings – capital asset pricing model (CAPM)
Cost of Retained Earnings=Risk Free Rate + Beta( Market Rate−Risk Free Rate )
5. Weighted Average Cost of Capital = the sum of the weighted percentage of each form of capitalization used by a business
o Optimal cost of capital of the combination of debt and equity securities that produces the lowest WAAC
E P D
WACC= ( R e ) + ( R p ) + ( Rd ) (1−T )
V V V
PE Ratio=P0 / E1
PEG Ratio = a measure that demonstrates the effect of earnings growth on a company’s P/E, assuming a linear relationship between P/E
and growth – often times given PEG and solving for other component
Pass Key
Discounted cash flow is the basis for net present value methods:
1. Calculate after-tax cash flows = annual net cash flow x (1-Tax Rate)
2. Add depreciation tax shield = depreciation x tax rate
3. Multiply result by appropriate present value factor
4. Subtract the initial cash outflow
Investment
Payback Period =
Ave . Annual Cash Flows ( After Tax)
E-Commerce Technologies
E-Commerce = the electronic completion of buying and selling (exchange) transactions
o Can use a private network or the Internet
Electronic funds transfer systems are a major form of electronic payment for the banking and retailing industries
o EFT security is normally provided through various types of data encryption
o A third-party vendor acts as an intermediary between the user company and the banking system
Application service providers supply access to application programs on a rental basis – allows smaller companies to avoid the extremely
high cost of owning and maintaining application systems
o The application service providers own and host the software
Many smaller companies have stand-alone web stores that are not integrated with larger accounting systems
Dynamic content is any content that changes frequently and includes videos, audio, and animation
Cloud computing involves virtual servers over the internet
o If can offer other professional management of hardware and software
o Cloud providers must have sophisticated backup procedures as well as high-level security for customer data
Mashups are web pages that are collages of other web pages and other information (ex: Google Maps)
A: Performance Management
Net Income
ROI=
Average Invested Capital
ROI=Profit Margin x Investment Turnover
Net Income Sales
ROI= x
Sales Invested Capital
Return on Assets = similar to return on investment, except that ROA uses average total assets in the denominator rather than invested
capital in the denominator
Net Income
ROA=
Average Total Assets
Return on Equity (ROE) & DuPont Ratios
Return on Equity = a measure of profitability equal to the amount of net income returned as a percentage of shareholders’ equity
Net Income
ROE=
Ave . Total Equity
DuPont Ratio is a means of breaking down ROE into three components:
Pass Key
A cost driver is a factor that has the ability to change total costs
Cost drivers could include nonfinancial or statistical measurements of
activities such as sales or production volume
Cost drivers are identified by activity based costing and are related to one
of multiple cost pools for cost allocation
Pass Key
Although the most commonly tested cost accumulation systems are job-order costing and process costing,
there are many variations of cost accumulation systems that may appear on the exam:
Operations Costing = uses components of both job-order costing and process costing
Backflush Costing = accounts for certain costs at the end of the process in circumstances in which
there is little need for in-process inventory valuation
Life-Cycle Costing = seeks to monitor costs throughout the product’s life cycle and expand on the
traditional costing systems that focus only on the manufacturing phase of a product’s life
Conformance Costs
Conformance Costs = costs ensuring conformance with quality standards and are classified as prevention and appraisal costs
o Prevention Costs = costs incurred to prevent the production of defective units
Employee training
Inspection expenses
Preventative maintenance
Redesign of product or processes
Search for high quality suppliers
o Appraisal Costs = costs incurred to discover and remove defective parts before they are shipped to the customer
Statistical quality checks
Testing and inspection
Maintenance of the laboratory
Non-Conformance Costs = costs to fix quality problems related to nonconformance with quality standards
o Internal Failure Costs = costs to cure a defect discovered before the product is sent to the customer
Rework costs and scrap
Tooling changes and downtime
Costs to dispose and cost of the lost unit
o External Failure Costs = costs to cure a defect discovered after the product is sent to the customer
Warranty costs and liability claims
Costs of returning the good
Lost customers
Reengineering and external failure
Theory of Constraints
Theory of Constraints = a management philosophy that says organizations are impeded from achieving objectives by the existence of
one or more constraints
o The organization must be consistently operated in a manner that either works around or leverages the constraint
There are five steps to applying the theory of constraints – maximize throughput by:
1. Identification – use process charts or interview results in identification of constraint that produces suboptimal performance
2. Exploitation – planning around the constraint uses capacity that is potentially wasted
3. Subordinate – subordinate everything else to the above decisions
Management directs its efforts to improving the performance of the constraint
4. Elevate Constraint – add capacity to overcome the constraint
5. Return to First Step – reexamine the process to optimize the results
Six Sigma & Quality Improvement
Six Sigma = recommends the use of rigorous metrics in the evaluation of goal achievement and logically anticipates methodologies to
improve current processes and develop new processes
o Focus is on continuous quality improvement in current and new processes
Existing Product and Business Process Improvements (DMAIC)
o Define the problem
o Measure key aspects of the current process
o Analyze data
o Improve or optimize current process
o Control
New Product or Business Process Development (DMADV)
o Define design goals
o Measure CTQ – critical to quality issues
o Analyze design alternatives
o Design optimization
o Verify the design
VOH Efficiency ( Usage ) Variance=Standard Rate x ( Actual Hours−Std Hours Allowed for Act . Production Volum
FOH Budget (Spending) Variance – focuses at a high level whether more or less was spend on fixed overhead costs than budgeted
Sales Price Variance=( Actual SP per unit −Budgeted SP per unit ) x Actual Sold Units
Sales Volume Variance – a flexible budget variance that distills volume activity from other sales performance components
SalesVolume Variance=( Actual Units Sold −Budgeted Units Sold ) x Standard CM per Unit
Actual sales prices higher than budgeted sales prices produce a favorable variance
o Actual sales prices lower than budgeted sales prices produce an unfavorable variance
Actual units sold higher than the budgeted units sold produces a favorable variance
o Actual units sold lower than the budgeted units sold produces an unfavorable variance
Pass Key
Examiners frequently ask about the difference between variable costing net income and absorption costing
net income. Follow these steps below to compute the difference:
1. Compute fixed cost per unit (fixed MOH/units produced)
2. Compute the change in income (change in inventory units x fixed cost per unit)
3. Determine the impact of the change in income
Target Costing
Target costing is used to establish the product cost allowed that ensures both total sales volume and profitability per unit
o The target cost will be equal to the market price less the required profit
With target pricing, the selling price of the product determine the production costs allowed
Regression Analysis
Linear Regression = a method for studying the relationship between two or more variables
o Using regression analysis, variation in the dependent variable is explained using one or more independent variables
The dependent variable is specified to be a linear function of one or more independent variables
Simple regression involves only one independent variable
o Multiple regression analysis involves more than one independent variable
The simple linear regression model takes the following form:
Sales (net)
Asset turnover
Average total assets
Income available to common shareholders
Basic earnings per share Weighted-average common shares
outstanding
Cash conversion cycle Days sales in accounts receivable + Days in inventory — Days of payables outstanding
Current assets
Current ratio
Current liabilities
Ending inventory
Days in inventory
Cost of goods sold / 365
Days of payables Ending accounts payable
outstanding Cost of goods sold / 365
Ending accounts receivable (net)
Days sales in accounts receivable
Sales (net) / 365
Total liabilities
Debt to equity
Total equity
Cash dividends
Dividend payout
Net income
Total assets
Equity multiplier Total equity
Gross margin Sales (net) — Cost of goods sold
(Gross profit margin) Sales (net)
Cost of goods sold
Inventory turnover
Average inventory
Cash flow from operations
Operating cash flow ratio
Ending current liabilities
Price per share
Price earnings ratio
Basic earnings per share
Net income
Profit margin
Sales (net)
Cash and cash equivalents + Short-term marketable
Quick ratio securities + Receivables (net)
Current liabilities
Net income
Return on assets
Average total assets
Net income
Return on equity
Average total equity
Income before interest income, interest
Return on sales expense, and taxes
Sales (net)
Income before interest expense and taxes
Interest expense
Earnings before interest and taxes
Interest expense
Total liabilities
Total debt ratio
Total assets