Definition of Pro forma capital structure analysis

Pro forma capital structure analysis

A method of analyzing the impact of alternative capital structure
choices on a firm's credit statistics and reported financial results, especially to determine whether the firm will
be able to use projected tax shield benefits fully.

After-tax profit margin

The ratio of net income to net sales.

Agency problem

Conflicts of interest among stockholders, bondholders, and managers.

Appropriation request

formal request for funds for capital investment project.

Asset substitution problem

Arises when the stockholders substitute riskier assets for the firm's existing
assets and expropriate value from the debtholders.

Asymmetric information

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

Average cost of capital

A firm's required payout to the bondholders and to the stockholders expressed as a
percentage of capital contributed to the firm. Average cost of capital is computed by dividing the total
required cost of capital by the total amount of contributed capital.

BARRA's performance analysis (PERFAN)

A method developed by BARRA, a consulting firm in
Berkeley, Calif. It is commonly used by institutional investors applying performance attribution analysis to
evaluate their money managers' performances.

Base probability of loss

The probability of not achieving a portfolio expected return.

Before-tax profit margin

The ratio of net income before taxes to net sales.

Book profit

The cumulative book income plus any gain or loss on disposition of the assets on termination of the SAT.

Break-even analysis

An analysis of the level of sales at which a project would make zero profit.

Call protection

A feature of some callable bonds that establishes an initial period when the bonds may not be
called.

Call provision

An embedded option granting a bond issuer the right to buy back all or part of the issue prior
to maturity.

Capital

Money invested in a firm.

Capital account

Net result of public and private international investment and lending activities.

Capital allocation

decision Allocation of invested funds between risk-free assets versus the risky portfolio.

Capital asset pricing model (CAPM)

An economic theory that describes the relationship between risk and
expected return, and serves as a model for the pricing of risky securities. The CAPM asserts that the only risk
that is priced by rational investors is systematic risk, because that risk cannot be eliminated by diversification.
The CAPM says that the expected return of a security or a portfolio is equal to the rate on a risk-free security
plus a risk premium.

Capital budget

A firm's set of planned capital expenditures.

Capital budgeting

The process of choosing the firm's long-term capital assets.

Capital expenditures

Amount used during a particular period to acquire or improve long-term assets such as
property, plant or equipment.

Capital flight

The transfer of capital abroad in response to fears of political risk.

Capital gain

When a stock is sold for a profit, it's the difference between the net sales price of securities and
their net cost, or original basis. If a stock is sold below cost, the difference is a capital loss.

Capital gains yield

The price change portion of a stock's return.

Capital lease

A lease obligation that has to be capitalized on the balance sheet.

Capital loss

The difference between the net cost of a security and the net sale price, if that security is sold at a loss.

Capital market

The market for trading long-term debt instruments (those that mature in more than one year).

Capital market efficiency

Reflects the relative amount of wealth wasted in making transactions. An efficient
capital market allows the transfer of assets with little wealth loss. See: efficient market hypothesis.

Capital market imperfections view

The view that issuing debt is generally valuable but that the firm's
optimal choice of capital structure is a dynamic process that involves the other views of capital structure (net
corporate/personal tax, agency cost, bankruptcy cost, and pecking order), which result from considerations of
asymmetric information, asymmetric taxes, and transaction costs.

Capital market line (CML)

The line defined by every combination of the risk-free asset and the market portfolio.

Capital rationing

Placing one or more limits on the amount of new investment undertaken by a firm, either
by using a higher cost of capital, or by setting a maximum on parts of, and/or the entirety of, the capital
budget.

Capital structure

The makeup of the liabilities and stockholders' equity side of the balance sheet, especially
the ratio of debt to equity and the mixture of short and long maturities.

Capital surplus

Amounts of directly contributed equity capital in excess of the par value.

Capitalization

The debt and/or equity mix that fund a firm's assets.

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.

Capitalization ratios

Also called financial leverage ratios, these ratios compare debt to total capitalization
and thus reflect the extent to which a corporation is trading on its equity. capitalization ratios can be
interpreted only in the context of the stability of industry and company earnings and cash flow.

Capitalization table

A table showing the capitalization of a firm, which typically includes the amount of
capital obtained from each source - long-term debt and common equity - and the respective capitalization
ratios.

Capitalized

Recorded in asset accounts and then depreciated or amortized, as is appropriate for expenditures
for items with useful lives greater than one year.

Capitalized interest

Interest that is not immediately expensed, but rather is considered as an asset and is then
amortized through the income statement over time.

Cluster analysis

A statistical technique that identifies clusters of stocks whose returns are highly correlated
within each cluster and relatively uncorrelated between clusters. Cluster analysis has identified groupings
such as growth, cyclical, stable and energy stocks.

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.

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.

Comparative credit analysis

A method of analysis in which a firm is compared to others that have a desired
target debt rating in order to infer an appropriate financial ratio target.

Complete capital market

A market in which there is a distinct marketable security for each and every
possible outcome.

Conventional project

A project with a negative initial cash flow (cash outflow), which is expected to be
followed by one or more future positive cash flows (cash inflows).

Corporate processing float

The time that elapses between receipt of payment from a customer and the
depositing of the customer's check in the firm's bank account; the time required to process customer
payments.

Cost of capital

The required return for a capital budgeting project.

Cost of limited partner capital

The discount rate that equates the after-tax inflows with outflows for capital
raised from limited partners.

Credit analysis

The process of analyzing information on companies and bond issues in order to estimate the
ability of the issuer to live up to its future contractual obligations. Related: default risk

Cross-sectional approach

A statistical methodology applied to a set of firms at a particular point in time.

Cumulative probability distribution

A function that shows the probability that the random variable will
attain a value less than or equal to each value that the random variable can take on.

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).

Dedicated capital

Total par value (number of shares issued, multiplied by the par value of each share). Also
called dedicated value.

Diffusion process

A conception of the way a stock's price changes that assumes that the price takes on all
intermediate values. dirty price. Related: full price

Direct stock-purchase programs

The purchase by investors of securities directly from the issuer.

Discriminant analysis

A statistical process that links the probability of default to a specified set of financial ratios.

Efficient capital market

A market in which new information is very quickly reflected accurately in share
prices.

Expected value of perfect information

The expected value if the future uncertain outcomes could be known
minus the expected value with no additional information.

Expropriation

The official seizure by a government of private property. Any government has the right to
seize such property, according to international law, if prompt and adequate compensation is given.

Factor analysis

A statistical procedure that seeks to explain a certain phenomenon, such as the return on a
common stock, in terms of the behavior of a set of predictive factors.

Fair price provision

See:appraisal rights.

Fundamental analysis

Security analysis that seeks to detect misvalued securities by an analysis of the firm's
business prospects. Research analysis often focuses on earnings, dividend prospects, expectations for future
interest rates, and risk evaluation of the firm.

Good delivery and settlement procedures

Refers to PSA Uniform Practices such as cutoff times on delivery
of securities and notification, allocation, and proper endorsement.

Gross domestic product (GDP)

The market value of goods and services produced over time including the
income of foreign corporations and foreign residents working in the U.S., but excluding the income of U.S.
residents and corporations overseas.

Gross national product (GNP)

Measures and economy's total income. It is equal to GDP plus the income
abroad accruing to domestic residents minus income generated in domestic market accruing to non-residents.

Gross profit margin

Gross profit divided by sales, which is equal to each sales dollar left over after paying
for the cost of goods sold.

Guarantor program

Under the Freddie Mac program, the aggregation by a single issuer (usually an S&L)
for the purpose of forming a qualifying pool to be issued as PCs under the Freddie Mac guarantee.

Hard capital rationing

capital rationing that under no circumstances can be violated.

Horizon analysis

An analysis of returns using total return to assess performance over some investment horizon.

Horizontal analysis

The process of dividing each expense item of a given year by the same expense item in
the base year. This allows for the exploration of changes in the relative importance of expense items over time
and the behavior of expense items as sales change.

Human capital

The unique capabilities and expertise of individuals.

Independent project

A project whose acceptance or rejection is independent of the acceptance or rejection of
other projects.

Information asymmetry

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

Information Coefficient (IC)

The correlation between predicted and actual stock returns, sometimes used to
measure the value of a financial analyst. An IC of 1.0 indicates a perfect linear relationship between predicted
and actual returns, while an IC of 0.0 indicates no linear relationship.

Information costs

Transaction costs that include the assessment of the investment merits of a financial asset.
Related: search costs.

Information services

Organizations that furnish investment and other types of information, such as
information that helps a firm monitor its cash position.

Information-content effect

The rise in the stock price following the dividend signal.

Informational efficiency

The speed and accuracy with which prices reflect new information.

Informationless trades

Trades that are the result of either a reallocation of wealth or an implementation of an
investment strategy that only utilizes existing information.

Information-motivated trades

Trades in which an investor believes he or she possesses pertinent
information not currently reflected in the stock's price.

Insider information

Relevant information about a company that has not yet been made public. It is illegal for
holders of this information to make trades based on it, however received.

Integer programming

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

Investment product line (IPML)

The line of required returns for investment projects as a function of beta
(nondiversifiable risk).

In-house processing float

Refers to the time it takes the receiver of a check to process the payment and
deposit it in a bank for collection.

Issued share capital

Total amount of shares that are in issue. Related: outstanding shares.

Legal capital

Value at which a company's shares are recorded in its books.

Linear programming

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

Liquidity theory of the term structure

A biased expectations theory that asserts that the implied forward
rates will not be a pure estimate of the market's expectations of future interest rates because they embody a
liquidity premium.

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.

Market capitalization

The total dollar value of all outstanding shares. Computed as shares times current
market price. It is a measure of corporate size.

Market capitalization rate

Expected return on a security. The market-consensus estimate of the appropriate
discount rate for a firm's cash flows.

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.

Mean-variance analysis

Evaluation of risky prospects based on the expected value and variance of possible outcomes.

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.

Multiple-discriminant analysis (MDA)

Statistical technique for distinguishing between two groups on the
basis of their observed characteristics.

Net profit margin

Net income divided by sales; the amount of each sales dollar left over after all expenses
have been paid.

Net working capital

Current assets minus current liabilities. Often simply referred to as working capital.

Non-reproducible assets

A tangible asset with unique physical properties, like a parcel of land, a mine, or a
work of art.

Nondiversifiability of human capital

The difficulty of diversifying one's human capital (the unique
capabilities and expertise of individuals) and employment effort.

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