# D

**Debentures**

Debt backed only by the general credit of the issuer.

**Declining balance method**

A method of depreciation that applies a constant rate to a declining, undepreciated balance of an asset's book value.

**Default risk**

The uncertainty associated with the payment of required cash flows of a security (that is, the interest or principal of a bond) when promised.

**Deferred annuity**

A series of level cash flows that occur at regular intervals, though the first cash flow occurs *after* the end of the first interval.

**Deferred taxes**

A tax obligation that is expected in the future, but for which the expense has been deducted from income for financial reporting purposes.

**Degree of financial leverage, DFL**

The sensitivity of net income to owners to changes in operating income.

**Degree of operating leverage, DOL**

The sensitivity of operating earnings to change in unit sales.

**Degree of total leverage, DTL**

The sensitivity of net income to owners to changes in unit sales; the product of the degree of operating leverage and the degree of financial leverage.

**Depreciation**

The allocation of the cost of an asset over its useful life.

**Depreciation tax shield**

the amount of tax that is eliminated because of the tax-deductibility of the depreciation expense for the determination of taxes.

**Depression**

A severe recession, marked by high unemployment, low prices, and severally decreased economic activity.

**Derivative securities**

Securities in which the value is determined (derived) from another security or asset.

**Diluted earnings per share (Diluted EPS)**

Net income, divided by the number of shares outstanding considering all dilutive securities.

**Discount bond**

A bond that is selling for less than its face or par value; a bond whose coupon rate is less than the bond's yield-to-maturity.

**Discounted payback period**

The time it takes for the initial investment to be paid back in terms of discounted future cash flows, where future cash flows are discounted at the project's cost of capital.

**Discounting**

The process of translating a future value (i.e., a value at some future point in time) into a current, present value (i.e., a value at the current point in time, today).

**Discount interest**

An interest rate on a loan arrangement in which the interest is "paid up front"; that is, the funds available to the borrower are equal to the amount of the loan, less the discount (specified as percentage of the loaned amount).

**Diversifiable risk**

Risk that can be eliminated by combining assets whose returns are not perfectly, positively correlated with one another.

**Diversification**

The reduction of risk through the inclusion of different securities whose returns are not perfectly positively correlated with one another.

**Dividends received deduction**

The deduction of a portion (specified in tax law) of dividends received by a corporation from another corporation.

**Dividend payout ratio**

The ratio of dividends to earnings; the percentage of earnings that are paid out to owners in the form of dividends.

**Dividends per share**

The ratio of dividends paid to the number of shares of stock outstanding.

**Dividend valuation model (DVM)**

A model that relates the price of a share of stock to expected next period dividends, the expected growth rate of future dividends, and the required rate of return.

**Du Pont system**

A method of decomposing return ratios into components, the mosts common use of which is to break return ratios in the profit margin and turnover components.

# E

**Earnings per share (EPS)**

The net income of a company, divided by the number of shares outstanding.

**Earnings surprise**

The deviation of actual earnings from expected earnings; actual earnings per share less expected or forecasted earnings per share.

**Economic life**

The estimate of the length of time that an asset will provide benefits to a firm. Also referred to as the *useful life*.

**Economic profit**

The difference between revenues and costs, where costs include the opportunity cost of invested funds and normal profits.

**Economic value added, EVA**

Another name for economic profit; EVA is a trademarked designation of Stern Stewart for the concept of economic profit.

**Effective annual rate, EAR**

An annualized rate that considers compound interest; also known as the *effective annual rate of interest* and the *effective rate of interest*.

**Efficient frontier**

The set of possible portfolios that dominate other portfolios in terms of risk and return.

**Efficient market**

A market in which information is reflected rapidly into asset prices.

**Estate planning**

The process by which clients ensure that the maximum portion of their estate will be left to their heirs and beneficiaries.

**Expected return**

The anticipated return; regarding a probability distribution, the weighted average of the possible outcomes, with the weights being the probabilities.

**Externalties**

Effects of an action by one party on another party not directly involved in the action.

# F

**Fiduciary duty**

The responsibility to act in another's best interest.

**Fiduciary relation**

A relation that is founded on the trust or confidence of one party in the fidelity or integrity of another party.

**Financial analysis**

The evaluation of the financial condition and operating performance of a business enterprise.

**Financial distress**

The situation in which a business enterprise is having difficulty satisfying immediate and near-term obligations, which may result in non-optimal financing and investment decisions in an attempt to meet these obligations.

**Financial leverage**

The use of debt to finance a business which, because of the fixed financing expenses associated with debt, results in a "leveraging" or accentuating effect on the returns to owners; also referred to as *gearing*.

**Financial leverage ratio**

A ratio that reflects the extent to which a firm has financed its assets with debt.

**Financial management**

The management of the cash flows of a business to make a profit for the firm's owners.

**Financial plan**

A set of strategies and products that are available to meet the client's objectives.

**Financial planning**

Planning that includes the key aspects of a client's financial affairs and is targeted to achieve the client's financial goals.

**Fisher effect**

The decomposition of the nominal interest rate into the inflation rate, the real return, and the cross-product of the inflation rate and the real return.

**Fixed asset turnover**

The ratio of sales to fixed assets; a measure of the firm's ability to put fixed assets to work to generate sales.

**Fixed charge coverage ratio**

The ratio of a firm's income available to cover fixed financing obligations to its fixed financing obligation; a measure of a firm's use of financial leverage.

**Futures contract**

A security that represents an arrangement to buy or sell an asset at a fixed price at a fixed time in the future.

**Future value**

The value at some time in the future of a current value or a series of cash flows.

**Future value annuity factor**

The sum of compound factors that is used to translate an annuity (i.e., a series of even, periodic cash flows) into a value in the future.

# G

**General partnership**

A partnership in which each partner is liable for the debts of the business (partner referred to as a general partner). Each partner is liable for the debts of the partnership: "joint and several" liability.

**Geometric average**

The nth root of the product of a series of n values; with respect to returns or interest rates, geometric average rate = [(1 + i_{1})(1 + i_{2}) ... (1 + i_{n})]^{1/n} - 1

, where i_{i} is the interest rate or return for the ith item or time period.

**Golden parachute**

A compensation package that provides a significant benefit to an employee that loses his or her job in the event of a change in control of a business.

**Gross domestic product, GDP**

A measure of the value of all goods and services produced by workers and capital in the U.S.

**Gross plant and equipment**

The total cost of physical assets in the possession of the business.

**Gross profit margin**

The ratio of gross profit (i.e., sales less cost of goods sold) to sales; a measure of a firm's profitability.

**Growth rate**

The rate of change in the value of an asset, generally stated on an annual basis.

# H

**Half-year convention**

In tax law, one half year's depreciation is taken in the first year of an asset's life no matter when in the year the asset is placed in service.

**Home equity loan**

A loan that uses the home as security (i.e., collateral), usually based on the difference between the market value of the home and the amount due on the existing mortgage.

# I

**Illegal insider trading**

Trading on material, non-public information.

**Income and expenditures statement**

See cash flow statement.

**Income statement**

A financial statement that conveys the revenues and expenses of a business enterprise.

**Independent projects**

In the context of capital budgeting, projects in which the acceptance of one does not preclude the acceptance of another.

**Inflation**

The increase in the general level of prices for goods and services.

**Installment credit**

Credit that is repaid in two or more payments.

**Insurable interest**

What an insured person must stand to lose something if there is a loss associated with the property. In the case of an insurable interest, the insured cannot lose more than his/her financial interest in the property.

**Intangible asset**

An asset that has no physical existence, such as a patent or a trademark.

**Interest**

The compensation for the opportunity cost of funds and the uncertainty of repayment of the amount borrowed.

**Interest coverage ratio**

The ratio of a firm's operating income (i.e., earnings before interest and taxes) to its interest obligation; a measure of a firm's use of financial leverage.

**Interest rate risk**

The sensitivity of a security's price to a change in market yields.

**Internal rate of return (IRR)**

The return that equates the present value of an investment's inflows with the present value of the investment's outflows; the return or interest rate that equates the cost of the investment with the present value of the investment's future cash flows.

**Inter vivos trust**

See living trust.

**Inventory**

Raw materials and work-in-process used in the production of goods, as well as finished goods held for sale.

**Inventory turnover**

The ratio of the cost of goods sold to inventory; a measure of how many times the investment in inventory "turns over" or completely cycles through the firm from raw materials to sold finished goods.

**Investing**

The process of purchasing securities for the long-term in the expectation of receiving future benefits in terms of price appreciation and/or cash dividends.

**Investment grade debt**

Debt that has a credit quality rating of BBB (using Standard and Poor's system) or Baa (using Moody's system) or better.

**Investment policy**

A statement that specifies, in general terms, the goals or objectives of the financial plan considering the client's return objectives, risk tolerance, liquidity needs, time horizon, tax situation, and estate goals.

**Investment tax credit**

A credit against taxes payable as a specific percentage of an asset's cost.

**Investment profile**

See net present value profile.