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The recording, classifying, summarizing and interpreting of financial events and transactions to provide management and other interested parties the information they need to make good decisions
Accounting
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Accounting used to provide information and analyses to managers inside the organization to assist them in decision making
Managerial Accounting
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A professional accountant who has met certain educational and experience requirements, passed a qualifying exam, and been certified by the Institute of Certified Management Accountants
Certified Management Accountant (CMA)
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Accounting information and analyses prepared for people outside the organization
Financial Accounting
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A yearly statement of the financial condition, progress and expectations of an organization
Annual Report
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An accountant who works for a single firm, government agency or nonprofit organization
Private Accountant
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An accountant who provides accounting services to individuals or businesses on a fee basis
Public Accountant
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An accountant who passes a series of examinations established by the American Institute of Certified Public Accountants (AICPA)
Certified Public Accountant (CPA)
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The job of reviewing and evaluating the information used to prepare a company's financial statements
Auditing
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An evaluation and unbiased opinion about the accuracy of a company's financial statements
Independent Audit
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An accountant who has a bachelor's degree and two years of experience in internal auditing and who has passed an exam administered by the Institute of Internal Auditors
Certified Internal Auditor (CIA)
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An accountant trained in tax law and responsible for preparing tax returns or developing tax strategies
Tax Accountant
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Accounting system for organizations whose purpose is not generating a profit but serving ratepayers, taxpayers and others according to a duly approved budget
Government and Not-For-Profit Accounting
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A six-step procedure that results in the preparation and analysis of the major financial statements
Accounting Cycle
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The recording of business transactions
Bookkeeping
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The record book or computer program where accounting data are first entered
Journal
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The practice of writing every business transaction in two places
Double-Entry Bookkeeping
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A specialized accounting book or computer program in which information from accounting journals is accumulated into specific categories and posted so that managers can find all the information about one account in the same place
Ledger
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A summary of all the financial data in the account ledgers that ensures the figures are correct and balanced
Trial Balance
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A summary of all the transactions that have occurred over a particular period
Financial Statement
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Assets = Liabilities + Owner's equity; this is the basis for the balance sheet
Fundamental Accounting Equation
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Financial statement that reports a firm's financial condition at a specific time and is composed of three major accounts: assets, liabilities and owners' equity
Balance Sheet
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Economic resources (things of value) owned by a firm
Assets
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The ease with which an asset can be converted into cash
Liquidity
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Items that can or will be converted into cash within one year
Current Assets
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Assets that are relatively permanent, such as land, buildings and equipment
Fixed Assets
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Long-term assets that have no real physical form but do have value
Intangible Assets
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What the business owes to others (debts)
Liabilities
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Current liabilities are bills the company owes to others for merchandise or services purchased on credit but not yet paid for
Accounts Payable
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Short-term or long-term liabilities that a business promises to repay by a certain date
Notes Payable
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Long-term liabilities that represent money lent to the firm that must be paid back
Bonds Payable
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The amount of the business that belongs to the owners minus any liabilities owed by the business
Owners' Equity
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The accumulated earnings from a firm's profitable operations that were reinvested in the business and not paid out to stockholders in dividends
Retained Earnings
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The financial statement that shows a firm's profit after costs, expenses and taxes; it summarizes all of the resources that have come into the firm (revenue), all the resources that have left the firm, and the resulting net income
Income Statement
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Revenue left over after all costs and expenses, including taxes, are paid
Net Income or Net Loss
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A measure of the cost of merchandise sold or cost at raw materials and supplies used for producing items for resale
Costs of Goods Sold (or cost of goods manufactured)
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How much a firm earned by buying (or making) and selling merchandise
Gross Profit (or gross margin)
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Costs involved in operating a business, such as rent, utilities and salaries
Operating Expenses
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The systematic write-off of the cost of a tangible asset over its estimated useful life
Depreciation
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Financial statement that reports cast receipts and disbursements related to a firm's three major activities: operations, investments and financing
Statement of Cash Flows
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The assessment of a firm's financial condition using calculations and interpretations of financial ratios developed from the firm's financial statements
Ratio Analysis
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The function in a business that acquires funds for the firm and manages those funds within the firm
Finance
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The job of managing a firm's resources so it can meet its goals and objectives
Financial Management
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Managers who examine financial data prepared by accountants and recommend strategies for improving the financial performance of the firm
Financial Managers
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Forecast that predicts revenues, costs and expenses for a period of one year or less
Short-term Forecast
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Forecast that predicts the cash inflows and outflows in future periods, usually months or quarters
Cash Flow Forecast
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Forecast that predicts revenues, costs and expenses for a period longer than 1 year, and sometimes as far as 5 or 10 years into the future
Long-term Forecast
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A financial plan that sets forth management's expectations, and, on the basis of those expectations, allocates the use of specific resources throughout the firm
Budget
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A budget that highlights a firm's spending plans for major assets purchases that often require large sums of money
Capital Budget
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A budget that estimates cash inflows and outflows during a particular period like a month or a quarter
Cash Budget
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The budget that ties together the firm's other budgets and summarizes its proposed financial activities
Operating (or master) Budget
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A process in which a firm periodically compares its actual revenues, costs and expenses with its budget
Financial Control
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Major investments in either tangible long-term assets such as lang, buildings and equipment or intangible assets such as patents, trademarks and copyrights
Capital Expenditures
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Funds raised through various forms of borrowing that must be repaid
Debt Financing
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Money raised from within the firm, from operations or through the sale of ownership in the firm (stock)
Equity Financing
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Funds needed for a year or less
Short-Term Financing
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Funds needed for more than a year (usually 2 to 10 years)
Long-Term Financing
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The practice of buying goods and services now and paying for them later
Trade Credit
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A written contract with a promise to pay a supplier a specific sum of money at a definite time
Promissory Note
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A loan backed by collateral, something valuable such as property
Secured Loan
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A loan that doesn't require any collateral
Unsecured Loan
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A given amount of unsecured short-term funds a bank will lend to a business, provided the funds are readily available
Line of Credit
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A line of credit that's guaranteed but usually comes with a fee
Revolving Credit Agreement
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Organizations that make short-term loans to borrowers who offer tangible assets as collateral
Commercial Finance Companies
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The process of selling accounts receivable for cash
Factoring
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Unsecured promissory notes of $100,000 and up that mature (come due) in 270 days or less
Commercial Paper
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A promissory note that requires the borrower to repay the loan in specified installments
Term-Loan Agreement
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The principle that the greater the risk a lender takes in making a loan, the higher the interest rate required
Risk/Return Trade-Off
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The terms of agreement in a bond issue
Indenture Terms
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A bond issued with some form of collateral
Secured Bond
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A bond backed only by the reputation of the issuer; also called a debenture bond
Unsecured Bond
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Money that is invested in new or emerging companies that are perceived as having great profit potential
Venture Capital
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Raising needed funds through borrowing to increase a firm's rate of return
Leverage
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The rate of return a company must earn in order to meet the demands of its lenders and expectations of its equity holders
Cost of Capital
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The first public offering of a corporation's stock
Initial Public Offering (IPO)
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Specialists who assist in the issue and sale of new securities
Investment Bankers
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Large organizations - such as pension funds, mutual funds and insurance companies - that invest their own funds or funds of others
Institutional Investors
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An organization whose members can buy and sell (exchange) securities for companies and individual investors
Stock Exchange
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Exchange that provides a means to trade stocks not listed on the national exchanges
Over-the-Counter (OTC) Market
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A nationwide electronic system that links dealers across the nation so that they can buy and sell securities electronically
NASDAQ
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Federal agency that has responsibility for regulating the various stock exchanges
Securities and Exchange Commission (SEC)
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A condensed version of economic and financial information that a company must file with the SEC before issuing stock
Prospectus
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Shares of ownership in a company
Stocks
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Evidence of stock ownership that specifies the name of the company, the number of shares it represents and the type of stock being issued
Stock Certificate
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Part of a firm's profits that the firm may distribute to stockholders as either cash payments or additional shares of stock
Dividends
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The most basic form of ownership in a firm; it confers voting rights and the right to share in the firm's profits through dividends, if approved by the firm's board of directors
Common Stock
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Stock that gives its owners preference in the payment of dividends and an earlier claim on assets than common stockholders if the company is forced out of business and its assets sold
Preferred Stock
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A corporate certificate indicating that a person has lent money to a firm (or a government)
Bond
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The exact date that issuer of a bond must pay the principal to the bondholder
Maturity Date
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The payment the issuer of the bond makes to the bondholders for use of the borrowed money
Interest
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Bonds that are unsecured
Debenture Bonds
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A reserve account in which the issuer of a bond periodically retires some part of the bond principal prior to maturity so that enough capital will be accumulated by the maturity date to pay off the bond
Sinking Fund
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A registered representative who works as a market intermediary to buy and sell securities for clients
Stockbroker
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Buying several different investment alternatives to spread the risk of investing
Diversification
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The positive difference between the purchase price of a stock and its sale price
Capital Gains
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An action by a company that gives stockholders two or more shares of stock for each one they own
Stock Splits
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Purchasing stocks by borrowing some of the purchase cost from the brokerage firm
Buying Stock on Margin
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High-risk, high-interest bonds
Junk Bonds
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An organization that buys stocks and bonds and then sells shares in those securities to the public
Mutual Fund
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Collections of stocks and bonds that are traded on exchanges but are traded more like individual stocks than like mutual funds
Exchange-Traded Funds (ETFs)
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The average cost of 30 selected industrial stocks, used to give an indication of the direction (up or down) of the stock market over time
Dow Jones Industrial Average (the Dow)
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Giving instructions to computers to automatically sell if the price of a stock dips to a certain point to avoid potential losses
Program Trading
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1) Analyze source documents
2) Record transactions in journals
3) Transfer (post) journal entries to ledger
4) Take a trial balance
5) Prepare financial statements
6) Analyze financial statements
Steps in the Accounting Cycle
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Balance Sheet - reports the firm's financial condition on a specific date
Income Statement - summarizes revenues, cost of goods and expenses for a specific period and highlights the total profit or loss the firm experienced during that period
Statement of Cash Flows - provides a summary of money coming into and going out of the firm that tracks a company's cash receipts and payments
Key Financial Statements of a Business
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Measures the speed with which inventory moves through the firm and gets converted into sales
Inventory Turnover Ratio
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Measures the amount of profit earned for each share of outstanding common stock, but also considers stock options, warrants, preferred stock and convertible debt securities the firm can convert into common stock
Diluted Earnings Per Share (EPS)
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Helps determine the amount of profit a company earned for each share of outstanding common stock
Basic Earnings Per Share Ratio (basic EPS)
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The ratio of a firm's current assets to its current liabilities
Current Ratio
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Measures the cash, marketable securities (such as stocks and bonds) and receivables of a firm, compared to its current liabilities
Acid-Test (Quick Ratio)
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Measures the degree to which the company is financed by borrowed funds that it must repay
Debt to Owners' Equity Ratio
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1) Planning
2) Auditing
3) Managing Taxes
4) Advising top management on financial matters
5) Collecting funds (credit management)
6) Controlling funds (funds management)
7) Obtaining funds
8) Budgeting
What Financial Managers do
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1) Undercapitalization (insufficient funds to start the business)
2) Poor control over cash flow
3) Inadequate expense control
3 common reasons a firm fails financially
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1) Managing day-by-day needs of the business
2) Controlling credit operations
3) Acquiring needed inventory
4) Making capital expenditures
Operational needs for which they need funds
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A percentage of the value of a firm's accounts receivable pledged is advanced to the borrowing firm
Pledging
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A market intermediary that agrees to buy the firm's accounts receivable, at a discount, for cash
Factor
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1) What are our organization's long-term goals and objectives?
2) What funds do we need to achieve the firm's long-term goals and objectives?
3) What sources of long-term funding (capital) are available, and which will best fit our needs?
3 questions financial managers ask when setting long-term financing objectives
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1) As owners of the business, stockholders never have to be repaid their investment
2) There's no legal obligation to pay dividends to stockholders; therefore, the firm can reinvest income to finance future needs
3) Selling stock can improve the condition of a firm's balance sheet since issuing stock creates no debt
Advantages to a firm of issuing stock
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1) As owners, stockholders have the right to vote for the company's board of directors. Issuing new shares of stock can thus alter the control of the firm
2) Dividends are paid from profit after taxes and are not tax-deductible
3) The need to keep stockholders happy can affect managers' decisions
Disadvantages of issuing stock
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1) Bondholders are creditors of the firm, not owners. They seldom vote on corporate matters; thus, management maintains control over the firm's operations
2) Bond interest is tax-deductible to the firm
3) Bonds are a temporary source of funding. They're eventually repaid and the debt obligation is eliminated
4) Bonds can be repaid before the maturity date if they contain a call provision They can be converted to common stock
Financing advantages for offering long-term bonds
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1) Bonds increase debt (long-term liabilities) and may adversely affect the market's perception of the firm
2) Paying interest on bonds is a legal obligation. If interest is not paid, bondholders can take legal action to force payment
3) The face value must be repaid on the maturity date. Without careful planning, this obligation can cause cash flow problems when the repayment comes due
Drawbacks of bonds
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1) They provide for an orderly retirement (repayment) of a bond issue
2) They reduce the risk the bond will not be repaid
3) They support the market price of the bond because they reduce the risk the bond will not be repaid
Reasons sinking funds are attractive
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Permits the bond issuer to pay off the principal before its maturity date
Callable Bond
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1) Investment risk - the chance that an investment will be worth less at some future time than its worth now
2) Yield - the expected rate of return on an investment, such as interest or dividends, usually over a period of one year
3) Duration - the length of time your money is committed to an investment
4) Liquidity - how quickly you can get back your invested funds if you want or need them
5) Tax Consequences - how the investment will affect your tax situation
5 Key Criteria when selecting investment options
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Charges investors a commission to buy or sell its shares
Load Fund
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Charges no commission
No-Load Fund
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Mutual funds; will accept the investments of any interested investors
Open-End Funds
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Limit the number of shares; once the fund reaches its target number, no new investors can buy into the fund
Closed-End Funds
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