Definition of Equity Method

Equity Method

Accounting method for an equity security in cases where the investor has sufficient
voting interest to have significant influence over the operating and financial policies of an
investee.

All equity rate

The discount rate that reflects only the business risks of a project and abstracts from the
effects of financing.

Asset/equity ratio

The ratio of total assets to stockholder equity.

Bottom-up equity management style

A management style that de-emphasizes the significance of economic
and market cycles, focusing instead on the analysis of individual stocks.

Capitalization method

A method of constructing a replicating portfolio in which the manager purchases a
number of the largest-capitalized names in the index stock in proportion to their capitalization.

Common stock/other equity

Value of outstanding common shares at par, plus accumulated retained
earnings. Also called shareholders' equity.

Current rate method

Under this currency translation method, all foreign currency balance-sheet and income
statement items are translated at the current exchange rate.

Debt/equity ratio

Indicator of financial leverage. Compares assets provided by creditors to assets provided
by shareholders. Determined by dividing long-term debt by common stockholder equity.

Deferred equity

A common term for convertible bonds because of their equity component and the
expectation that the bond will ultimately be converted into shares of common stock.

Direct estimate method

A method of cash budgeting based on detailed estimates of cash receipts and cash
disbursements category by category.

Dual syndicate equity offering

An international equity placement where the offering is split into two
tranches - domestic and foreign - and each tranche is handled by a separate lead manager.

Equity

Represents ownership interest in a firm. Also the residual dollar value of a futures trading account,
assuming its liquidation at the going market price.

Equity cap

An agreement in which one party, for an upfront premium, agrees to compensate the other at
specific time periods if a designated stock market benchmark is greater than a predetermined level.

Equity claim

Also called a residual claim, a claim to a share of earnings after debt obligation have been
satisfied.

Equity collar

The simultaneous purchase of an equity floor and sale of an equity cap.

Equity contribution agreement

An agreement to contribute equity to a project under certain specified
conditions.

Equity floor

An agreement in which one party agrees to pay the other at specific time periods if a specific
stock market benchmark is less than a predetermined level.

Equity kicker

Used to refer to warrants because they are usually issued attached to privately placed bonds.

Equity market

Related:Stock market

Equity multiplier

Total assets divided by total common stockholders' equity; the amount of total assets per
dollar of stockholders' equity.

Equity options

Securities that give the holder the right to buy or sell a specified number of shares of stock, at
a specified price for a certain (limited) time period. Typically one option equals 100 shares of stock.

Equity swap

A swap in which the cash flows that are exchanged are based on the total return on some stock
market index and an interest rate (either a fixed rate or a floating rate). Related: interest rate swap.

Equity-linked policies

Related: Variable life

Equityholders

Those holding shares of the firm's equity.

Euroequity issues

Securities sold in the Euromarket. That is, securities initially sold to investors
simultaneously in several national markets by an international syndicate. Euromarket.
Related: external market

Flow-through method

The practice of reporting to shareholders using straight-line depreciation and
accelerated depreciation for tax purposes and "flowing through" the lower income taxes actually paid to the
financial statement prepared for shareholders.

Foreign equity market

That portion of the domestic equity market that represents issues floated by foreign companies.

GEMs (growing-equity mortgages)

Mortgages in which annual increases in monthly payments are used to
reduce outstanding principal and to shorten the term of the loan.

Investor's equity

The balance of a margin account. Related: buying on margin, initial margin requirement.

Leveraged equity

Stock in a firm that relies on financial leverage. Holders of leveraged equity face the
benefits and costs of using debt.

Log-linear least-squares method

A statistical technique for fitting a curve to a set of data points. One of the
variables is transformed by taking its logarithm, and then a straight line is fitted to the transformed set of data
points.

Long-term debt to equity ratio

A capitalization ratio comparing long-term debt to shareholders' equity.

Monetary / non-monetary method

Under this translation method, monetary items (e.g. cash, accounts
payable and receivable, and long-term debt) are translated at the current rate while non-monetary items (e.g.
inventory, fixed assets, and long-term investments) are translated at historical rates.

Normalizing method

The practice of making a charge in the income account equivalent to the tax savings
realized through the use of different depreciation methods for shareholder and income tax purposes, thus
washing out the benefits of the tax savings reported as final net income to shareholders.

Preferred equity redemption stock (PERC)

Preferred stock that converts automatically into equity at a
stated date. A limit is placed on the value of the shares the investor receives.

Purchase method

Accounting for an acquisition using market value for the consolidation of the two entities'
net assets on the balance sheet. Generally, depreciation/amortization will increase for this method compared
with pooling and will result in lower net income.

Residual method

A method of allocating the purchase price for the acquisition of another firm among the
acquired assets.

Return on equity (ROE)

Indicator of profitability. Determined by dividing net income for the past 12
months by common stockholder equity (adjusted for stock splits). Result is shown as a percentage. Investors
use ROE as a measure of how a company is using its money. ROE may be decomposed into return on assets
(ROA) multiplied by financial leverage (total assets/total equity).

Shareholders' equity

This is a company's total assets minus total liabilities. A company's net worth is the
same thing.

Simple compound growth method

A method of calculating the growth rate by relating the terminal value to
the initial value and assuming a constant percentage annual rate of growth between these two values.

Statement-of-cash-flows method

A method of cash budgeting that is organized along the lines of the statement of cash flows.

Stockholder equity

Balance sheet item that includes the book value of ownership in the corporation. It
includes capital stock, paid in surplus, and retained earnings.

Stockholder's equity

The residual claims that stockholders have against a firm's assets, calculated by
subtracting total liabilities from total assets.

Stratified equity indexing

A method of constructing a replicating portfolio in which the stocks in the index
are classified into stratum, and each stratum is represented in the portfolio.

Temporal method

Under this currency translation method, the choice of exchange rate depends on the
underlying method of valuation. Assets and liabilities valued at historical cost (market cost) are translated at
the historical (current market) rate.

Top-down equity management style

A management style that begins with an assessment of the overall
economic environment and makes a general asset allocation decision regarding various sectors of the financial
markets and various industries. The bottom-up manager, in contrast, selects the specific securities within the
favored sectors.

Total debt to equity ratio

A capitalization ratio comparing current liabilities plus long-term debt to
shareholders' equity.

RATE OF RETURN ON STOCKHOLDERS’ EQUITY

The percentage return or profit that management made on each dollar stockholders invested in a company. Here’s how you figure it:
(Net income) / (Stockholders’ equity)

RATIO OF DEBT TO STOCKHOLDERS’ EQUITY

A ratio that shows which group—creditors or stockholders—has the biggest stake in or the most control of a company:
(Total liabilities) / (Stockholders’ equity)

STOCKHOLDERS’ (OR OWNERS’) EQUITY

The value of the owners’ interests in a company.

Equity

Funds raised from shareholders.

Allowance method

A method of adjusting accounts receivable to the amount that is expected to be collected based on company experience.

Contra-equity account

An account that reduces an equity account. An example is Treasury stock.

Direct method

A method of preparing the operating section of the Statement of Cash Flows that uses the company’s actual cash inflows and cash outflows.

Direct write-off method

A method of adjusting accounts receivable to the amount that is expected to be collected by eliminating the account balances of specific nonpaying customers.

Equity

Amounts contributed to the company by the owners (contributed capital) plus the residual earnings of the business (retained earnings).

Indirect method

A method of preparing the operating section of the Statement of Cash Flows that does not use the company’s actual cash inflows and cash outflows, but instead arrives at the net cash flow by taking net income and adjusting it for noncash expenses and the changes from last year in the current assets and current liabilities.

Shareholders' equity

The total amount of contributed capital and retained earnings; synonymous with stockholders' equity.

Stockholders' equity

The total amount of contributed capital and retained earnings; synonymous with shareholders’ equity.

debt-to-equity ratio

A widely used financial statement ratio to assess the
overall debt load of a business and its capital structure, it equals total liabilities
divided by total owners’ equity. Both numbers for this ratio are
taken from a business’s latest balance sheet. There is no standard, or
generally agreed on, maximum ratio, such as 1:1 or 2:1. Every industry
is different in this regard. Some businesses, such as financial institutions,
have very high debt-to-equity ratios. In contrast, many businesses
use very little debt relative to their owners’ equity.

equity

Refers to one of the two basic sources of capital for a business, the
other being debt (borrowed money). Most often, it is called owners’
equity because it refers to the capital used by a business that “belongs”
to the ownership interests in the business. Owners’ equity arises from
two quite distinct sources: capital invested by the owners in the business
and profit (net income) earned by the business that is not distributed to
its owners (called retained earnings). Owners’ equity in our highly developed
and sophisticated economic and legal system can be very complex—
involving stock options, financial derivatives of all kinds, different
classes of stock, convertible debt, and so on.

owners' equity

Refers to the capital invested in a business by its shareowners
plus the profit earned by the business that has not been distributed
to its shareowners, which is called retained earnings. Owners’
equity is one of the two basic sources of capital for a business, the other
being borrowed money, or debt. The book value, or value reported in a
balance sheet for owners’ equity, is not the market value of the business.
Rather, the balance sheet value reflects the historical amounts of capital
invested in the business by the owners over the years plus the accumulation
of yearly profits that were not paid out to owners.

return on equity (ROE)

This key ratio, expressed as a percent, equals net
income for the year divided by owners’ equity. ROE should be higher than
a business’s interest rate on debt because the owners take more risk.

stockholders' equity, statement of changes in

Although often considered
a financial statement, this is more in the nature of a supporting schedule
that summarizes in one place various changes in the owners’ equity
accounts of a business during the period—including the issuance and
retirement of capital stock shares, cash dividends, and other transactions
affecting owners’ equity. This statement (schedule) is very helpful
when a business has more than one class of stock shares outstanding
and when a variety of events occurred during the year that changed its
owners’ equity accounts.

Cost of Equity

Same as the cost of common stock. Sometimes viewed as the
rate of return stockholders require to maintain the market value of
the company's common stock.

Return on Common Equity Ratio

A measure of the percentage return earned on the value of the
common equity invested in the company. It is calculated by
dividing the net income available for distribution to shareholders
by the book value of the common equity.

algebraic method

a process of service department cost allocation
that considers all interrelationships of the departments
and reflects these relationships in simultaneous
equations

direct method

a service department cost allocation approach
that assigns service department costs directly to revenueproducing
areas with only one set of intermediate cost
pools or allocations

dividend growth method

a method of computing the cost
of common stock equity that indicates the rate of return
that common shareholders expect to earn in the form of
dividends on a company’s common stock

FIFO method (of process costing)

the method of cost assignment that computes an average cost per equivalent
unit of production for the current period; keeps beginning
inventory units and costs separate from current period production
and costs

high-low method

a technique used to determine the fixed
and variable portions of a mixed cost; it uses only the highest
and lowest levels of activity within the relevant range

judgmental method (of risk adjustment)

an informal method of adjusting for risk that allows the decision maker
to use logic and reason to decide whether a project provides
an acceptable rate of return

method of least squares

see least squares regression analysis

method of neglect

a method of treating spoiled units in the
equivalent units schedule as if those units did not occur;
it is used for continuous normal spoilage

modified FIFO method (of process costing)

the method of cost assignment that uses FIFO to compute a cost per
equivalent unit but, in transferring units from a department,
the costs of the beginning inventory units and the
units started and completed are combined and averaged

net present value method

a process that uses the discounted
cash flows of a project to determine whether the
rate of return on that project is equal to, higher than, or
lower than the desired rate of return

risk-adjusted discount rate method

a formal method of adjusting for risk in which the decision maker increases the rate used for discounting the future cash flows to compensate for increased risk

simplex method

an iterative (sequential) algorithm used to solve multivariable, multiconstraint linear programming problems

six-sigma method

a high-performance, data-driven approach to analyzing and solving the root causes of business problems

step method

a process of service department cost allocation
that assigns service department costs to cost objects after
considering the interrelationships of the service departments
and revenue-producing departments

strict FIFO method (of process costing)

the method of cost assignment that uses FIFO to compute a cost per equivalent unit and, in transferring units from a department, keeps the
cost of the beginning units separate from the cost of the
units started and completed during the current period

weighted average method (of process costing)

the method of cost assignment that computes an average cost per
equivalent unit of production for all units completed during
the current period; it combines beginning inventory units
and costs with current production and costs, respectively,
to compute the average

Bootstrapping, bootstrap method

An arithmetic method for backing an
implied zero curve out of the par yield curve.

Equity

The difference between the total of all recorded assets and liabilities on the balance
sheet.

First in, first-out costing method (FIFO)

A process costing methodology that assigns the earliest
cost of production and materials to those units being sold, while the latest costs
of production and materials are assigned to those units still retained in inventory.

Moving average inventory method

An inventory costing methodology that calls for the re-calculation of the average cost of all parts in stock after every purchase.
Therefore, the moving average is the cost of all units subsequent to the latest purchase,
divided by their total cost.

Owners' equity

The total of all capital contributions and retained earnings on a business’s
balance sheet.

Payback method

A capital budgeting analysis method that calculates the amount of
time it will take to recoup the investment in a capital asset, with no regard for the
time cost of money.

Purchase method

An accounting method used to combine the financial statements of
companies. This involves recording the acquired assets at fair market value, and the
excess of the purchase price over this value as goodwill, which will be amortized
over time.

Equity

Ownership. Common stock represents equity in a corporation.

Benefit Ratio Method

The proportion of unemployment benefits paid to a company’s
former employees during the measurement period, divided by the total
payroll during the period. This calculation is used by states to determine the unemployment
contribution rate to charge employers.

Benefit Wage Ratio Method

The proportion of total taxable wages for laid off
employees during the measurement period divided by the total payroll during
the period. This calculation is used by states to determine the unemployment
contribution rate to charge employers.

Average-Cost Inventory Method

The inventory cost-flow assumption that assigns the average
cost of beginning inventory and inventory purchases during a period to cost of goods sold and
ending inventory.

Completed-Contract Method

A contract accounting method that recognizes contract revenue
only when the contract is completed. All contract costs are accumulated and reported as expense
when the contract revenue is recognized.

Direct-Method Format

A format for the operating section of the cash-flow statement that reports actual cash receipts and cash disbursements from operating activities.

Equity Security

An ownership interest in an enterprise, including preferred and common stock.

First-In, First-Out (FIFO) Inventory Method

The inventory cost-flow assumption that
assigns the earliest inventory acquisition costs to cost of goods sold. The most recent inventory
acquisition costs are assumed to remain in ending inventory.

Full-Cost Method

A method of accounting for petroleum exploration and development expenditures
that permits capitalization of all such expenditures, including those leading to productive
as well as nonproductive wells.

Indirect-Method Format

A format for the operating section of the cash-flow statement that
presents the derivation of cash flow provided by operating activities. The format starts with net
income and adjusts for all nonoperating items and all noncash expenses and changes in working capital accounts.

Last-In, First-Out (LIFO) Inventory Method

The inventory cost-flow assumption that assigns the most recent inventory acquisition costs to cost of goods sold. The earliest inventory
acquisition costs are assumed to remain in ending inventory.

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