ICMA Pakistan Strategic Financial Management Flashcards

24 sample cards from the Strategic Financial Management deck

Sampled from the end of the deck, so these are different cards from the ones shown on the syllabus page.

1. How does the dividend valuation model value a share with constant growth?

   P0 = D1 / (Ke − g), where D1 is next year's dividend, Ke is the cost of equity, and g is the constant growth rate of dividends.

2. How is a business valued using discounted free cash flow?

   By forecasting future free cash flows, discounting them at the WACC to present value, adding the present value of a terminal value, to obtain enterprise value (then deduct debt for equity value).

3. How is the market value of irredeemable (perpetual) debt calculated?

   Market value = Annual interest payment / Required yield (Kd). For example, MV = I / Kd.

4. How is the market value of redeemable debt determined?

   By discounting the future interest payments and the redemption value at the investors' required rate of return (the pre-tax cost of debt / yield to maturity).

5. Why is the valuation of intangibles (e.g., brands, goodwill) difficult?

   Intangibles lack an active market and physical form; their value depends on future earning potential, making valuation subjective and often based on relief-from-royalty, excess-earnings, or capitalized-earnings methods.

6. Distinguish a horizontal, vertical, and conglomerate merger.

   Horizontal: firms in the same industry/stage; Vertical: firms at different stages of the same supply chain (supplier or customer); Conglomerate: firms in unrelated businesses.

7. What is synergy in the context of business combinations?

   The benefit where the combined value of two merged firms exceeds the sum of their separate values (2 + 2 = 5), arising from cost savings, revenue gains, or financial efficiencies.

8. What are the main methods of financing an acquisition?

   Cash offer, share-for-share exchange (paper offer), debt/loan stock, or a combination (mixed offer) such as cash plus shares or a vendor placing.

9. State one advantage and one disadvantage of a share-for-share (paper) acquisition offer.

   Advantage: no cash outflow and target shareholders retain an interest; Disadvantage: it dilutes existing ownership/control and the value depends on the acquirer's volatile share price.

10. What is corporate reconstruction (reorganization)?

    A restructuring of a company's capital, assets, or operations — such as a financial reconstruction scheme to avoid liquidation by rearranging debt and equity claims of stakeholders.

11. Name three forms of corporate divestment.

    Sell-off (sale of a division for cash), spin-off/demerger (distributing shares of a subsidiary to existing shareholders), and management buy-out (MBO)/buy-in.

12. What is a management buy-out (MBO)?

    The acquisition of a business (or part of it) by its existing management team, usually financed by a mix of personal equity, venture capital, and debt (often highly leveraged).

13. What is foreign exchange (transaction) risk?

    The risk that the value of a future cash flow denominated in a foreign currency will change due to exchange rate movements between the transaction date and the settlement date.

14. Distinguish transaction, translation, and economic foreign exchange risk.

    Transaction risk affects specific cash flows from trade; translation risk affects the reported value of foreign assets/liabilities on consolidation; economic risk affects the firm's long-term competitive position and PV of future cash flows.

15. How does a forward exchange contract hedge currency risk?

    By locking in a fixed exchange rate today for a currency transaction settling at a future date, eliminating uncertainty about the future spot rate.

16. What is a money market hedge for a foreign currency payable?

    Borrowing/depositing in the money markets so that a deposit in the foreign currency matures to cover the payable, effectively fixing the cost now and removing exchange rate exposure.

17. How can currency options hedge FX risk, and what is their advantage?

    They give the right but not the obligation to exchange currency at a set rate; the advantage is downside protection while allowing the holder to benefit from favorable rate movements (for a premium cost).

18. What is interest rate risk?

    The risk that changes in market interest rates will adversely affect a firm's borrowing costs, investment returns, or the value of interest-sensitive assets and liabilities.

19. What is a forward rate agreement (FRA)?

    An over-the-counter contract that fixes the interest rate on a notional loan or deposit for a future period, with cash settlement of the difference between the agreed rate and the actual reference rate.

20. What is an interest rate cap?

    An option-based instrument that sets a maximum interest rate on borrowing; if rates rise above the cap, the seller compensates the borrower, protecting against rate increases for a premium.

21. What is a financial derivative?

    A financial instrument whose value is derived from an underlying asset, rate, or index — such as forwards, futures, options, and swaps — used for hedging or speculation.

22. What is an interest rate swap?

    An agreement between two parties to exchange interest payment streams on a notional principal — typically swapping fixed-rate for floating-rate interest payments.

23. What is a currency swap?

    An agreement to exchange principal and interest payments in one currency for principal and interest in another currency, used to obtain cheaper foreign financing or hedge long-term currency exposure.

24. How do futures contracts differ from forward contracts?

    Futures are standardized, exchange-traded, and marked-to-market daily with margin requirements; forwards are customized, over-the-counter, and settled at maturity with counterparty (credit) risk.

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