(FAQs) on Basic Finance
1. What is Finance?
Answer:
Finance is the management of money and includes activities like investing, borrowing, lending,
budgeting, saving, and forecasting. It can be broadly divided into personal finance, corporate
finance, and public finance.
2. What are the three main areas of Finance?
Answer:
1. Corporate Finance – managing finances of a company.
2. Investments – managing assets like stocks, bonds, etc.
3. Financial Markets & Institutions – studying markets where financial instruments are
traded.
3. What is Working Capital?
Answer:
Working Capital = Current Assets – Current Liabilities.
It indicates the liquidity and short-term financial health of a company.
4. What is the Time Value of Money (TVM)?
Answer:
TVM is the concept that money available today is worth more than the same amount in the future
due to its earning potential.
5. What is Net Present Value (NPV)?
Answer:
NPV is the difference between the present value of cash inflows and outflows over a period. A
positive NPV indicates a profitable investment.
6. What is Internal Rate of Return (IRR)?
Answer:
IRR is the discount rate at which NPV becomes zero. It represents the expected annual return of
an investment.
7. What are Financial Statements?
Answer:
1. Balance Sheet – shows assets, liabilities, and equity.
2. Income Statement – shows revenues and expenses.
3. Cash Flow Statement – shows cash inflows/outflows from operating, investing, and
financing activities.
8. What is Ratio Analysis?
Answer:
Ratio analysis involves evaluating financial performance using ratios like:
Liquidity Ratios (e.g., Current Ratio)
Profitability Ratios (e.g., Net Profit Margin)
Solvency Ratios (e.g., Debt-Equity Ratio)
9. What is Capital Budgeting?
Answer:
Capital budgeting is like planning how to spend large amount of money today to earn more
money in future like buying new machines, building a factory, launching a new product.
10. What is the difference between Equity and Debt?
Answer:
Equity: Money invested by owners or shareholders, with ownership and profit-sharing.
Debt: Borrowed money that must be repaid with interest, without ownership.
11. What is the Cost of Capital?
Answer:
Cost of capital is the return required by investors for investing in the business. It includes Cost of
Debt, Cost of Equity, and Weighted Average Cost of Capital (WACC).
12. What is Leverage?
Answer:
Leverage refers to the use of borrowed funds to increase the potential return on investment. It
includes financial leverage and operating leverage.
13. What is the Difference between Gross Profit and Net Profit?
Answer:
Gross Profit = Sales – Cost of Goods Sold
Net Profit = Gross Profit – Operating & Other Expenses (including taxes)
14. What is a Dividend?
Answer:
A dividend is a portion of a company’s earnings distributed to shareholders, usually in cash or
stock.
15. What is the Payback Period?
Answer:
It is the time taken to recover the initial investment. A shorter payback period is generally
preferable.
What is the difference between Primary and Secondary Markets?
Answer:
Primary Market: Where new securities are issued (e.g., IPO).
Secondary Market: Where existing securities are traded (e.g., NSE, BSE).
17. What is a Derivative?
Answer:
A derivative is a financial instrument whose value is derived from an underlying asset (e.g.,
stock, commodity, currency). Examples: Futures, Options, Swaps.
18. What is Beta in Finance?
Answer:
Beta measures a stock's volatility in relation to the market.
Beta > 1: More volatile
Beta < 1: Less volatile
Beta = 1: Moves with the market
19. What is a Mutual Fund?
Answer:
A mutual fund is a pooled investment that collects money from investors and invests in
diversified assets like stocks, bonds, etc., managed by professionals.
20. What is Risk and Return?
Answer:
Risk is the possibility of loss, while Return is the gain from investment. Generally, higher risk
is associated with higher potential returns.
21. What is Portfolio Diversification?
Answer:
Diversification is investing in a mix of assets to reduce overall risk. "Don't put all your eggs in
one basket."
22. What is Arbitrage?
Answer:
Arbitrage is the practice of profiting from price differences in different markets without risk, e.g.,
buying in one market and selling in another at a higher price.
23. What is a Bond and how is it different from a Share?
Answer:
Bond: A debt instrument, fixed interest, no ownership.
Share: Equity instrument, dividend-based, ownership in the company.
24. What is Goodwill in Accounting?
Answer:
Goodwill is an intangible asset that arises when a company acquires another for more than the
fair value of its net assets. It represents brand value, reputation, etc.
25. What is the Difference between Cash Flow and Profit?
Answer:
Profit: Accounting concept (may include non-cash items).
Cash Flow: Actual movement of cash in and out of the business.
26. What is Financial Modeling?
Answer:
Financial modeling is the process of creating a spreadsheet to forecast a company's financial
performance, often using historical data, assumptions, and ratios.
27. What is the Difference Between Technical Analysis and Fundamental
Analysis?
Answer:
Fundamental Analysis: Focuses on financial health (e.g., P/E ratio, earnings).
Technical Analysis: Focuses on price patterns, charts, and market trends.
28. What is the P/E Ratio?
Answer:
Price-to-Earnings Ratio = Market Price per Share / Earnings per Share (EPS)
Used to evaluate if a stock is overvalued or undervalued.
29. What is Book Value?
Answer:
Book Value = Total Assets – Total Liabilities.
It represents the net value of a company's assets.
30. What are Non-Performing Assets (NPAs)?
Answer:
NPAs are loans or advances where the borrower has stopped making interest or principal
repayments for a specified period (typically 90 days).
31. What is Credit Rating?
Answer:
A credit rating is an evaluation of a borrower's creditworthiness by agencies like CRISIL, ICRA,
or S&P, often expressed as AAA, AA, etc.
32. What is the role of RBI in India’s Financial System?
Answer:
The RBI (Reserve Bank of India) regulates monetary policy, issues currency, manages foreign
exchange, supervises banks, and maintains financial stability.