Definition of MM's proposition I (debt irrelevance proposition)

MM's proposition I (debt irrelevance proposition)

The value of a firm is unaffected by its capital structure.

Advance commitment

A promise to sell an asset before the seller has lined up purchase of the asset. This
seller can offset risk by purchasing a futures contract to fix the sales price.

Asymmetry

A lack of equivalence between two things, such as the unequal tax treatment of interest expense
and dividend payments.

Asymmetric information

Information that is known to some people but not to other people.

Asymmetric taxes

A situation wherein participants in a transaction have different net tax rates.

Cash commodity

The actual physical commodity, as distinguished from a futures contract.

Cash flow per common share

Cash flow from operations minus preferred stock dividends, divided by the
number of common shares outstanding.

Commercial draft

Demand for payment.

Commercial paper

Short-term unsecured promissory notes issued by a corporation. The maturity of
commercial paper is typically less than 270 days; the most common maturity range is 30 to 50 days or less.

Commercial risk

The risk that a foreign debtor will be unable to pay its debts because of business events,
such as bankruptcy.

Commission

The fee paid to a broker to execute a trade, based on number of shares, bonds, options, and/or
their dollar value. In 1975, deregulation led to the creation of discount brokers, who charge lower
commissions than full service brokers. Full service brokers offer advice and usually have a full staff of
analysts who follow specific industries. Discount brokers simply execute a client's order -- and usually do not
offer an opinion on a stock. Also known as a round-turn.

Commission broker

A broker on the floor of an exchange acts as agent for a particular brokerage house and
who buys and sells stocks for the brokerage house on a commission basis.

Commission house

A firm which buys and sells future contracts for customer accounts. Related: futures
commission merchant, omnibus account.

Commitment

A trader is said to have a commitment when he assumes the obligation to accept or make
delivery on a futures contract. Related: Open interest

Commitment fee

A fee paid to a commercial bank in return for its legal commitment to lend funds that have
not yet been advanced.

Committee, AIMR Performance Presentation Standards Implementation Committee

The Association for Investment Management and Research (AIMR)'s Performance Presentation Standards Implementation
Committee is charged with the responsibility to interpret, revise and update the AIMR Performance
Presentation Standards (AIMR-PPS(TM)) for portfolio performance presentations.

Commodities Exchange Center (CEC)

The location of five New York futures exchanges: Commodity
Exchange, Inc. (COMEX), the New York Mercantile exchange (NYMEX), the New York Cotton Exchange,
the Coffee, Sugar and Cocoa exchange (CSC), and the New York futures exchange (NYFE). common size
statement A statement in which all items are expressed as a percentage of a base figure, useful for purposes of
analyzing trends and the changing relationship between financial statement items. For example, all items in
each year's income statement could be presented as a percentage of net sales.

Commodity

A commodity is food, metal, or another physical substance that investors buy or sell, usually via
futures contracts.

Common market

An agreement between two or more countries that permits the free movement of capital
and labor as well as goods and services.

Common stock

These are securities that represent equity ownership in a company. Common shares let an
investor vote on such matters as the election of directors. They also give the holder a share in a company's
profits via dividend payments or the capital appreciation of the security.

Common stock/other equity

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

Common stock equivalent

A convertible security that is traded like an equity issue because the optioned
common stock is trading high.

Common stock market

The market for trading equities, not including preferred stock.

Common stock ratios

Ratios that are designed to measure the relative claims of stockholders to earnings
(cash flow per share), and equity (book value per share) of a firm.

Common-base-year analysis

The representing of accounting information over multiple years as percentages
of amounts in an initial year.
Common-size analysis The representing of balance sheet items as percentages of assets and of income
statement items as percentages of sales.

Contingent immunization

An arrangement in which the money manager pursues an active bond portfolio
strategy until an adverse investment experience drives the then-available potential return down to the safetynet
level. When that point is reached, the money manager is obligated to pursue an immunization strategy to
lock in the safety-net level return.

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.

Debt

Money borrowed.

Debt capacity

Ability to borrow. The amount a firm can borrow up to the point where the firm value no
longer increases.

Debt displacement

The amount of borrowing that leasing displaces. Firms that do a lot of leasing will be
forced to cut back on borrowing.

Debt instrument

An asset requiring fixed dollar payments, such as a government or corporate bond.

Debt leverage

The amplification of the return earned on equity when an investment or firm is financed
partially with borrowed money.

Debt limitation

A bond covenant that restricts in some way the firm's ability to incur additional indebtedness.

Debt market

The market for trading debt instruments.

Debt ratio

Total debt divided by total assets.

Debt relief

Reducing the principal and/or interest payments on LDC loans.

Debt securities

IOUs created through loan-type transactions - commercial paper, bank CDs, bills, bonds, and
other instruments.

Debt service

Interest payment plus repayments of principal to creditors, that is, retirement of debt.

Debt service parity approach

An analysis wherein the alternatives under consideration will provide the firm
with the exact same schedule of after-tax debt payments (including both interest and principal).

Debt-service coverage ratio

Earnings before interest and income taxes plus one-third rental charges, divided
by interest expense plus one-third rental charges plus the quantity of principal repayments divided by one
minus the tax rate.

Debt swap

A set of transactions (also called a debt-equity swap) in which a firm buys a country's dollar bank
debt at a discount and swaps this debt with the central bank for local currency that it can use to acquire local
equity.

Debtor in possession

A firm that is continuing to operate under Chapter 11 bankruptcy process.

Debtor-in-possession financing

New debt obtained by a firm during the Chapter 11 bankruptcy process.

Doctrine of sovereign immunity

Doctrine that says a nation may not be tried in the courts of another country
without its consent.

Euro-commercial paper

Short-term notes with maturities up to 360 days that are issued by companies in
international money markets.

Firm commitment underwriting

An undewriting in which an investment banking firm commits to buy the
entire issue and assumes all financial responsibility for any unsold shares.

Firm's net value of debt

Total firm value minus total firm debt.

Funded debt

debt maturing after more than one year.

Futures commission merchant

A firm or person engaged in soliciting or accepting and handling orders for
the purchase or sale of futures contracts, subject to the rules of a futures exchange and, who, in connection
with such solicitation or acceptance of orders, accepts any money or securities to margin any resulting trades
or contracts. The FCM must be licensed by the CFTC. Related: commission house , omnibus account

Gamma

The ratio of a change in the option delta to a small change in the price of the asset on which the
option is written.

Immediate settlement

Delivery and settlement of securities within five business days.

Immunization

The construction of an asset and a liability that are subject to offsetting changes in value.

Immunization strategy

A bond portfolio strategy whose goal is to eliminate the portfolio's risk against a
general change in the rate of interest through the use of duration.

Information asymmetry

A situation involving information that is known to some, but not all, participants.

Integer programming

Variant of linear programming whereby the solution values must be integers.

Interest rate on debt

The firm's cost of debt capital.

International Monetary Market (IMM)

A division of the CME established in 1972 for trading financial
futures. Related: Chicago Mercantile Exchange (CME).

Irrelevance result

The Modigliani and Miller theorem that a firm's capital structure is irrelevant to the firm's
value.

Junior debt (subordinate debt)

debt whose holders have a claim on the firm's assets only after senior
debtholder's claims have been satisfied. Subordinated debt.

Linear programming

Technique for finding the maximum value of some equation subject to stated linear constraints.

Long-term debt

An obligation having a maturity of more than one year from the date it was issued. Also
called funded debt.

Long-term debt/capitalization

Indicator of financial leverage. Shows long-term debt as a proportion of the
capital available. Determined by dividing long-term debt by the sum of long-term debt, preferred stock and
common stockholder equity.

Long-term debt ratio

The ratio of long-term debt to total capitalization.

Long-term debt to equity ratio

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

Letter of comment

A communication to the firm from the SEC that suggests changes to its registration
statement.

Mathematical programming

An operations research technique that solves problems in which an optimal
value is sought subject to specified constraints. Mathematical programming models include linear
programming, quadratic programming, and dynamic programming.

Modigliani and Miller Proposition I

A proposition by Modigliani and Miller which states that a firm cannot
change the total value of its outstanding securities by changing its capital structure proportions. Also called
the irrelevance proposition.

Modigliani and Miller Proposition II

A proposition by Modigliani and Miller which states that the cost of
equity is a linear function of the firm's debt-equity-ratio.

Multiperiod immunization

A portfolio strategy in which a portfolio is created that will be capable of
satisfying more than one predetermined future liability regardless if interest rates change.

Original issue discount debt (OID debt)

debt that is initially offered at a price below par.

Production-flow commitment

An agreement by the loan purchaser to allow the monthly loan quota to be
delivered in batches.

Secured debt

debt that, in the event of default, has first claim on specified assets.

Securities & Exchange Commission

The SEC is a federal agency that regulates the U.S.financial markets.

Senior debt

debt that, in the event of bankruptcy, must be repaid before subordinated debt receives any payment.

Society for Worldwide Interbank Financial Telecommunications (SWIFT)

A dedicated computer network to support funds transfer messages internationally between over 900 member banks worldwide.

Structured debt

debt that has been customized for the buyer, often by incorporating unusual options.

Subordinated debt

debt over which senior debt takes priority. In the event of bankruptcy, subordinated
debtholders receive payment only after senior debt claims are paid in full.

Symmetric cash matching

An extension of cash flow matching that allows for the short-term borrowing of
funds to satisfy a liability prior to the liability due date, resulting in a reduction in the cost of funding liabilities.

Total debt to equity ratio

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

Trade debt

Accounts payable.

Unfunded debt

debt maturing within one year (short-term debt). See: funded debt.

Unsecured debt

debt that does not identify specific assets that can be taken over by the debtholder in case of default.

Zero-one integer programming

An analytical method that can be used to determine the solution to a capital
rationing problem.

BOOK VALUE OF COMMON STOCK

The theoretical amount per share that each stockholder would receive if a company’s assets were sold on the balance sheet’s date. Book value equals:
(Stockholders’ equity) / (Common stock shares outstanding)

Earnings per share of common stock

How much profit a company made on each share of common stock this year.

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)

Debt

Borrowings from financiers.

Debtors

Sales to customers who have bought goods or services on credit but who have not yet paid their debt.

Planning, programming and budgeting system (PPBS)

A method of budgeting in which budgets are allocated to projects or programmes rather than to responsibility centres.

Bad debts

The amount of accounts receivable that is not expected to be collected.

Common stock

Shares of ownership sold to the public.

bad debts

Refers to accounts receivable from credit sales to customers
that a business will not be able to collect (or not collect in full). In hindsight,
the business shouldn’t have extended credit to these particular
customers. Since these amounts owed to the business will not be collected,
they are written off. The accounts receivable asset account is
decreased by the estimated amount of uncollectible receivables, and the
bad debts expense account is increased this amount. These write-offs
can be done by the direct write-off method, which means that no
expense is recorded until specific accounts receivable are identified as
uncollectible. Or the allowance method can be used, which is based on
an estimated percent of bad debts from credit sales during the period.
Under this method, a contra asset account is created (called allowance
for bad debts) and the balance of this account is deducted from the
accounts receivable asset account.

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.

Securities and Exchange Commission (SEC)

The federal agency that
oversees the issuance of and trading in securities of public businesses.
The SEC has broad powers and can suspend the trading in securities of a
business. The SEC also has primary jurisdiction in making accounting
and financial reporting rules, but over the years it has largely deferred to
the private sector for the development of generally accepted accounting
principles (GAAP).

Common Stock

A financial security that represents an ownership claim on the
assets and earnings of a company. This claim is valid after the
claims of the debt providers and preferred stockholders have been
satisfied.

Cost of Common Stock

The rate of return required by the investors in the common stock of
the company. A component of the cost of capital.

Cost of Debt

The cost of debt (bonds, loans, etc.) that a company is charged for
borrowing funds. A component of the cost of capital.

Debt Ratio

The percentage of debt that is used in the total capitalization of a
company. It is calculated by dividing the total book value of the
debt by the book value of all assets.

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.

Total Debt to Total Assets Ratio

See debt ratio

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