CPA Advanced Level

Advanced Financial Management cheat sheet

Every chapter's key points, formulas and definitions on one page, for the last week before the exam. Each heading links to the chapter that explains it.

Advanced capital budgeting decisions

Basic NPV assumes cash flows are known with certainty; advanced appraisal deals explicitly with the risk that actual cash flows will differ from the forecasts.
Sensitivity analysis changes one input at a time to find the variable the decision is most sensitive to, scenario analysis changes several together, and simulation samples repeatedly across many variables to give a full distribution of NPV outcomes.
The risk-adjusted discount rate raises the discount rate for a riskier project; the certainty equivalent method instead cuts the cash flows to their risk-free equivalents and discounts them at the risk-free rate.
Adjusted present value splits a project into its base-case NPV, as if all-equity financed, plus the present value of financing side effects such as the tax shield on debt interest and issue costs.
Real options to expand, delay, abandon or redeploy add flexibility value that a static NPV misses, and nominal cash flows must always be discounted at a nominal rate, real cash flows at a real rate.

Key terms

Expected Monetary Value (EMV): The probability-weighted average of possible NPV outcomes (see CPA Quantitative Analysis), giving a single risk-adjusted expected value.
Standard deviation and coefficient of variation: Measure the dispersion of possible outcomes around the expected value, and, via coefficient of variation, allow risk comparison between projects of different scale (see CPA Financial Management).
Sensitivity analysis: Tests how NPV changes as one input variable (e.g. sales volume) changes at a time, identifying which variable the decision is most sensitive to.
Scenario analysis: Tests NPV under defined combinations of changes to multiple variables simultaneously (e.g. a 'worst case' and 'best case' scenario).
Decision trees: Map sequential decisions and chance events (see CPA Quantitative Analysis), solved by working backward from final payoffs.
Simulation analysis: Uses repeated random sampling (e.g. Monte Carlo simulation) across the probability distributions of multiple variables to generate a full distribution of possible NPV outcomes.
Utility analysis: Incorporates the decision-maker's own risk attitude (risk-averse, risk-neutral, risk-seeking) into the evaluation, rather than relying on expected value alone.
Risk-adjusted discount rate (RADR): Adjusts the discount rate upward for riskier projects, a higher rate for higher risk, before computing NPV.
Certainty equivalent method: Adjusts the risky cash flows themselves downward to their risk-free equivalent value, then discounts at the risk-free rate.
Single-period capital rationing with divisible projects: Rank projects by profitability index (see CPA Financial Management) and select the combination maximising total NPV within the available budget.
Multi-period capital rationing with divisible investments: Extends the same logic across multiple periods with budget constraints in each, typically solved using linear programming (see CPA Quantitative Analysis).
Equivalent annual annuity approach: Converts each project's NPV into an equivalent constant annual amount over its own life, allowing direct comparison between projects of different durations.
Replacement chain analysis: Extends each project through repeated replications until a common time horizon is reached, then compares total NPV over that common horizon.
Characteristics of real options: Represent managerial flexibility to adapt a decision as new information arrives, adding value beyond a static NPV calculation.
Strategic (expansionary) option: The option to expand a project if it succeeds.
Timing option: The option to delay a project until conditions are more favourable.
Abandonment option: The option to withdraw from a project if it underperforms.
Option to redeploy: The option to switch a project's resources to an alternative use.
Challenges in using real options: Difficulty in quantifying option values precisely, and the added complexity relative to standard NPV analysis.

The rest of the sheet covers

Portfolio theory and analysis
Advanced financing decisions
Mergers and acquisitions
Corporate restructuring and reorganisation
Financial risk management
International financial management
Real estate finance
Contemporary issues and emerging trends
Worked examples
Exam technique and revision
Glossary