6 Financial Statement Analysis w3j5s
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Financial Statement Analysis
FINANCIAL STATEMENT ANALYSIS THEORIES: 6. Management is a of financial analysis. Which of the following comments does not represent a fair statement as to the management perspective? A. Management is always interested in maximum profitability. B. Management is interested in the view of investors. C. Management is interested in the financial structure of the entity. D. Management is interested in the asset structure of the entity. Limitations 1. A limitation in calculating ratios in financial statement analysis is that A. it requires a calculator. B. no one other than the management would be interested in them. C. some balances may reflect atypical data at year end. D. they seldom identify problem areas in a company. 2. Which of the following is not a limitation of financial statement analysis? A. The cost basis. C. The diversification of firms. B. The use of estimates. D. The availability of information. 5. Which of the following does not represent a problem with financial analysis? A. Financial statement analysis is an art; it requires judgment decisions on the part of the analyst. B. Financial analysis can be used to detect apparent liquidity problems. C. There are as many ratios for financial analysis as there are pairs of figures. D. Some industry ratio formulas vary from source to source. 77. The use of alternative ing methods: A. is not a problem in ratio analysis because the footnotes disclose the method used. B. may be a problem in ratio analysis even if disclosed. C. is not a problem in ratio analysis since eventually all methods will lead to the same end. D. is only a problem in ratio analysis with respect to inventory. Industry Analysis 3. Suppose you are comparing two firms in the steel industry. One firm is large and the other is small.
Which type of numbers would be most meaningful for statement analysis? A. Absolute numbers would be most meaningful for both the large and small firm. B. Absolute numbers would be most meaningful in the large firm; relative numbers would be most meaningful in the small firm. C. Relative numbers would be most meaningful for the large firm; absolute numbers would be most meaningful for the small firm. D. Relative numbers would be most meaningful for both the large and small firm, especially for interfirm comparisons. 4. Which of these statements is false? A. Many companies will not clearly fit into any one industry. B. A financial service uses its best judgment as to which industry the firm best fits. C. The analysis of an entity's financial statements can be more meaningful if the results are compared with industry averages and with results of competitors. D. A company comparison should not be made with industry averages if the company does not clearly fit into any one industry. Common-sized financial statements 9. Which of the following generally is the most useful in analyzing companies of different sizes? A. comparative statements C. price-level ing B. common-sized financial statements D. profitability index 12. Statements in which all items are expressed only in relative (percentages of a base) are termed: A. Vertical statements C. Funds Statements B. Horizontal Statements D. Common-Size Statements 10. The percent of property, plant and equipment to total assets is an example of: A. vertical analysis C. profitability analysis B. solvency analysis D. horizontal analysis 15. Vertical analysis is a technique that expresses each item in a financial statement A. in pesos and centavos. B. as a percent of the item in the previous year. C. as a percent of a base amount.
Financial Statement Analysis
D. starting with the highest value down to the lowest value. 17. In performing a vertical analysis, the base for prepaid expenses is A. total current assets. C. total liabilities. B. total assets. D. prepaid expenses in a previous year. Horizontal analysis 8. The percentage analysis of increases and decreases in individual items in comparative financial statements is called: A. vertical analysis C. profitability analysis B. solvency analysis D. horizontal analysis 11. Horizontal analysis is also known as A. linear analysis. B. vertical analysis.
C. trend analysis. D. common size analysis.
13. In which of the following cases may a percentage change be computed? A. The trend of the amounts is decreasing but all amounts are positive. B. There is no amount in the base year. C. There is a negative amount in the base year and a negative amount in the subsequent year. D. There is a negative amount in the base year and a positive amount in the subsequent year. 14. Horizontal analysis is a technique for evaluating a series of financial statement data over a period of time A. that has been arranged from the highest number to the lowest number. B. that has been arranged from the lowest number to the highest number. C. to determine which items are in error. D. to determine the amount and/or percentage increase or decrease that has taken place. Trend analysis 16. Trend analysis allows a firm to compare its performance to: A. other firms in the industry C. other industries B. other time periods within the firm D. none of the above Risk and return 29. The present and prospective stockholders are primarily concerned with a firm’
A. profitability B. liquidity
C. leverage D. risk and return
69. Which suppliers of funds bear the greatest risk and should therefore earn the greatest return? A. common stockholders C. preferred shareholders B. general creditors such as banks D. bondholders Measures of Risk 54. The following groups of ratios primarily measure risk: A. liquidity, activity, and common equity C. liquidity, activity, and debt B. liquidity, activity, and profitability D. activity, debt, and profitability Financial ratios 7. Ratios are used as tools in financial analysis A. instead of horizontal and vertical analyses. B. because they can provide information that may not be apparent from inspection of the individual components of a particular ratio. C. because even single ratios by themselves are quite meaningful. D. because they are prescribed by GAAP. 18. In the near term, the important ratios that provide the information critical to the short-run operation of the firm are: A. liquidity, activity, and profitability C. liquidity, activity, and equity B. liquidity, activity, and debt D. activity,debt, and profitability 75. The ability of a business to pay its debts as they come due and to earn a reasonable amount of income is referred to as: A. solvency and leverage C. solvency and liquidity B. solvency and profitability D. solvency and equity Liquidity ratios Interested parties 19. The primary concern of short-term creditors when assessing the strength of a firm is the entity’s A. short-term liquidity C. market price of stock
Financial Statement Analysis
B. profitability
D. leverage
35. Short-term creditors are usually most interested in assessing A. solvency. C. marketability. B. liquidity. D. profitability. 36. The two categories of ratios that should be utilized to asses a firm’s true liquidity are the A. current and quick ratios C. liquidity and profitability ratios B. liquidity and debt ratios D. liquidity and activity ratios 47. Which of the following is the most of interest to a firm’s suppliers? A. profitability C. asset utilization B. debt D. liquidity Measures of liquidity 21. The ratios that are used to determine a company’s short-term debt paying ability are A. asset turnover, times interest earned, current ratio, and receivables turnover. B. times interest earned, inventory turnover, current ratio, and receivables turnover. C. times interest earned, acid-test ratio, current ratio, and inventory turnover. D. current ratio, acid-test ratio, receivables turnover, and inventory turnover. 20. Which of the following is a measure of the liquidity position of a corporation? A. earnings per share B. inventory turnover C. current ratio D. number of times interest charges earned 37. Which one of the following ratios would not likely be used by a short-term creditor in evaluating whether to sell on credit to a company? A. Current ratio C. Asset turnover B. Acid-test ratio D. Receivables turnover 51. Which of the following ratios would be least helpful in appraising the liquidity of current assets? A. s Receivable turnover C. Current Ratio B. Days’ sales in inventory D. Days’ sales in s receivable
53. Which ratio is most helpful in appraising the liquidity of current assets? A. current ratio C. acid-test ratio B. debt ratio D. s receivable turnover Not a measure of liquidity 79. Which one of the following ratios would not likely be used by a short-term creditor in evaluating whether to sell on credit to a company? A. s receivable turnover. C. acid test ratio. B. asset turnover. D. current ratio. Current ratio 24. Typically, which of the following would be considered to be the most indicative of a firm's short-term debt paying ability? A. working capital C. acid test ratio B. current ratio D. days’ sales in receivables 22. The current ratio is A. calculated by dividing current liabilities by current assets. B. used to evaluate a company’s liquidity and short-term debt paying ability. C. used to evaluate a company’s solvency and long-term debt paying ability. D. calculated by subtracting current liabilities from current assets. 30. Which of the following ratios is rated to be a primary measure of liquidity and considered of highest significance rating of the liquidity ratios a bank analyst? A. Debt/Equity B. Current ratio C. Degree of Financial Leverage D. s Receivable Turnover in Days 41. A weakness of the current ratio is A. the difficulty of the calculation. B. that it does not take into the composition of the current assets. C. that it is rarely used by sophisticated analysts. D. that it can be expressed as a percentage, as a rate, or as a proportion. Acid-test or quick ratio
Financial Statement Analysis
42. A measure of a company’s immediate short-term liquidity is the A. current ratio. B. current cash debt coverage ratio. C. cash debt coverage ratio. D. acid-test ratio. 23. The acid-test or quick ratio A. is used to quickly determine a company’s solvency and long-term debt paying ability. B. relates cash, short-term investments, and net receivables to current liabilities. C. is calculated by taking one item from the income statement and one item from the balance sheet. D. is the same as the current ratio except it is rounded to the nearest whole percent. Not a liquidity ratio 28. Which one of the following would not be considered a liquidity ratio? A. Current ratio. C. Quick ratio. B. Inventory turnover. D. Return on assets. Activity ratios Days receivable & receivable turnover Quality of receivables 25. Which of the following does not bear on the quality of receivables? A. shortening the credit B. lengthening the credit C. lengthening the outstanding period D. all of the above bear on the quality of receivables
65. All of the following are asset utilization ratios except: A. average collection period C. receivables turnover B. inventory turnover D. return on assets Asset turnover 63. Asset turnover measures A. how often a company replaces its assets. B. how efficiently a company uses its assets to generate sales. C. the portion of the assets that have been financed by creditors. D. the overall rate of return on assets. 66. Total asset turnover measures the ability of a firm to: A. generate profits on sales B. generate sales through the use of assets C. cover long-term debt D. buy new assets 76. A measure of how efficiently a company uses its assets to generate sales is the A. asset turnover ratio. C. profit margin ratio. B. cash return on sales ratio. D. return on assets ratio. Solvency ratios Interested parties 50. Long-term creditors are usually most interested in evaluating A. liquidity. C. profitability. B. marketability. D. solvency.
Days receivable 27. A general rule to use in assessing the average collection period is A. that is should not exceed 30 days. B. it can be any length as long as the customer continues to buy merchandise. C. that it should not greatly exceed the discount period. D. that it should not greatly exceed the credit term period.
Financial Leverage 45. Trading on the equity (leverage) refers to the A. amount of working capital. B. amount of capital provided by owners. C. use of borrowed money to increase the return to owners. D. earnings per share.
Asset utilization ratios Performance measures
90. The tendency of the rate earned on stockholders' equity to vary disproportionately from the rate earned on total assets is sometimes referred to as:
Financial Statement Analysis
A. leverage B. solvency
C. yield D. quick assets
55. Using financial leverage is a good financial strategy from the viewpoint of stockholders of companies having: A. a high debt ratio C. a steadily declining current ratio B. steady or rising profits D. cyclical highs and lows 46. The ratio that indicates a company’s degree of financial leverage is the A. cash debt coverage ratio. C. free cash flow ratio. B. debt to total assets. D. times-interest earned ratio. 73. Interest expense creates magnification of earnings through financial leverage because: A. while earnings available to pay interest rise, earnings to residual owners rise faster B. interest accompanies debt financing C. interest costs are cheaper than the required rate of return to equity owners S. the use of interest causes higher earnings Measures of solvency 34. The set of ratios that is most useful in evaluating solvency is A. debt ratio, current ratio, and times interest earned B. debt ratio, times interest earned, and return on assets C. debt ratio, times interest earned, and quick ratio D. debt ratio, times interest earned, and cash flow to debt 49. Which of the following ratios is most relevant to evaluating solvency? A. Return on assets C. Days’ purchases in s payable B. Debt ratio D. Dividend yield Fixed assets to long-term liabilities 44. Which of the following ratios provides a solvency measure that shows the margin of safety of noteholders or bondholders and also gives an indication of the potential ability of the business to borrow additional funds on a long-term basis? A. ratio of fixed assets to long-term liabilities B. ratio of net sales to assets C. number of days' sales in receivables
D. rate earned on stockholders' equity Debt ratio 59. The debt ratio indicates: A. a comparison of liabilities with total assets B. the ability of the firm to pay its current obligations C. the efficiency of the use of total assets D. the magnification of earnings caused by leverage 78. The debt to total assets ratio measures A. the company’s profitability. B. whether interest can be paid on debt in the current year. C. the proportion of interest paid relative to dividends paid. D. the percentage of the total assets provided by creditor. Debt-to-equity ratio 60. Which of the following statements best compares long-term borrowing capacity ratios? A. The debt/equity ratio is more conservative than the debt ratio. B. The debt to tangible net worth ratio is more conservative than the debt/equity ratio. C. The debt/equity ratio is more conservative than the debt to tangible net worth ratio. D. The debt ratio is more conservative than the debt/equity ratio. Times interest earned 74. A times interest earned ratio of 0.90 to 1 means that A. the firm will default on its interest payment B. net income is less than the interest expense C. the cash flow is less than the net income D. the cash flow exceeds the net income Fixed charge coverage 61. A fixed charge coverage: A. is a balance sheet indication of debt carrying ability B. is an income statement indication of debt carrying ability C. frequently includes research and development D. computation is standard from firm to firm
Financial Statement Analysis
Off-balance sheet liabilities 62. If a firm has substantial capital or financing leases disclosed in the notes but not capitalized in the financial statements, then the A. times interest earned ratio will be overstated, based upon the financial statements B. debt ratio will be understated C. working capital will be understated D. fixed charge ratio will be overstated, based upon the financial statements Profitability ratios Interested parties 39. The return on assets ratio is affected by the A. asset turnover ratio. B. debt to total assets ratio. C. profit margin ratio. D. asset turnover and profit margin ratios. 52. Stockholders are most interested in evaluating A. liquidity. C. profitability. B. solvency. D. marketability. Performance measures 48. The set of ratios that are most useful in evaluating profitability is A. ROA, ROE, and debt to equity ratio C. ROA, ROE, and acid-test ratio B. ROA, ROE, and dividend yield D. ROA, ROE, and cash flow to debt Earnings per share 82. Which of the following ratios appears most frequently in annual reports? A. Earnings per Share C. Profit Margin B. Return on Equity D. Debt/Equity Return on assets 64. Return on assets A. can be determined by looking at a balance sheet B. should be smaller than return on sales C. can be affected by the company’s choice of a depreciation method D. should be larger than return on equity
Return on investments 72. Return on investment measures: A. return to all suppliers of funds funds B. return to all long-term creditors
C. return to all long-term suppliers of D. return to stockholders
Market test ratios Price-earnings ratio 56. The price/earnings ratio A. measures the past earning ability of the firm B. is a gauge of future earning power as seen by investors C. relates price to dividends D. relates 58. Which of the following ratios usually reflects investors opinions of the future prospects for the firm? A. dividend yield C. book value per share B. price/earnings ratio D. earnings per share Dividend yield 57. Which of the following ratios represents dividends per common share in relation to market price per common share? A. dividend payout C. price/earnings B. dividend yield D. book value per share Financial Statement Analysis s Receivable 26. Which of the following reasons should not be considered in order to explain why the receivables appear to be abnormally high? A. Sales volume decreases materially late in the year. B. Receivables have collectibility problems and possibly some should have been written off. C. Material amount of receivables are on the installment basis. D. Sales volume expanded materially late in the year.
Financial Statement Analysis
31. An acceleration in the collection of receivables will tend to cause the s receivable turnover to: A. decrease C. either increase or decrease B. remain the same D. increase Inventories 32. Which of the following would best indicate that the firm is carrying excess inventory? A. a decline in the current ratio B. stable current ratio with declining quick ratios C. a decline in days' sales in inventory D. a rise in total asset turnover 89. When Tri-C Corp. compares its ratios to industry averages, it has a higher current ratio, an average quick ratio, and a low inventory turnover. What might you assume about Tri-C? A. Its cash balance is too low. C. Its current liabilities are too low. B. Its cost of goods sold is too low. D. Its average inventory is too high. Current ratio 33. Which of the following would be most detrimental to a firm's current ratio if that ratio is currently 2.0? A. Buy raw materials on credit B. Sell marketable securities at cost C. Pay off s payable with cash D. Pay off a portion of long-term debt with cash Fixed asset turnover ratio 68. Which of the following circumstances will cause sales to fixed assets to be abnormally high? A. A labor-intensive industry. B. The use of units-of-production depreciation. C. A highly mechanized facility. D. High direct labor costs from a new union contract. Total asset turnover 81. A firm with a total asset turnover lower than the industry standard and a current ratio which meets industry standard might have excessive: A. s receivable C. Debt
B. Fixed assets
D. Inventory
Profitability analysis 84. Denver Dynamics has net income of P2,000,000. Oakland Enterprises has net income of P2,500,000. Which of the following best compares the profitability of Denver and Oakland? A. Oakland Enterprises is 25% more profitable than Denver Dynamics. B. Oakland Enterprises is more profitable than Denver Dynamics, but the comparison can't be quantified. C. Oakland Enterprises is only more profitable if it is smaller than Denver Dynamics. D. Further information is needed for a reasonable comparison. Debt ratio 86. Companies A and B are in the same industry and have similar characteristics except that Company A is more leveraged than Company B. Both companies have the same income before interest and taxes and the same total assets. Based on this information we could conclude that A. Company A has higher net income than Company B B. Company A has a lower return on assets than company B C. Company A is more risky than Company B. D. Company A has a lower debt ratio than company B Sensitivity Analysis Current ratio 40. A firm has a current ratio of 1:1. In order to improve its liquidity ratios, this firm should A. improve its collection practices, thereby increasing cash and increasing its current and quick ratios. B. improve its collection practices and pay s payable, there decreasing current liabilities and increasing the current and quick ratios. C. decrease current liabilities by utilizing more long-term debt, thereby increasing the current and quick ratios. D. increase inventory, thereby increasing current assets and the current and quick ratios. 43. Recently the M&M Company has been having problems. As a result, its financial situation has deteriorated. M&M approached the First National Bank for a badly needed loan, but
Financial Statement Analysis
the loan officer insisted that the current ratio (now 0.5) be improved to at least 0.8 before the bank would even consider granting the credit. Which of the following actions would do the most to improve the ratio in the short run? A. Using some cash to pay off some current liabilities. B. Collecting some of the current s receivable. C. Paying off some long-term debt. D. Purchasing additional inventory on credit (s payable). 87. Tyner Company had P250,000 of current assets and P90,000 of current liabilities before borrowing P60,000 from the bank with a 3-month note payable. What effect did the borrowing transaction have on Tyner Company's current ratio? A. The ratio remained unchanged. B. The change in the current ratio cannot be determined. C. The ratio decreased. D. The ratio increased. 88. Which of the following actions will increase a firm's current ratio if it is now less than 1.0? A. Convert marketable securities to cash. B. Pay s payable with cash. C. Buy inventory with short term credit (i.e. s payable). D. Sell inventory at cost. Acid-test ratio 38. If a company has an acid-test ratio of 1.2:1, what respective effects will the borrowing of cash by short-term debt and collection of s receivable have on the ratio? A. B. C. D. Short-term borrowing Increase Increase Decrease Decrease Collection of receivable No effect Increase No effect Decrease Profit margin 70. Which of the following would most likely cause a rise in net profit margin? A. increased sales C. decreased operating expenses B. decreased preferred dividends D. increased cost of sales Return on assets 67. Return on assets cannot fall under which of the following circumstances?
Net profit margin Total asset turnover
A. Decline Rise
B. Rise Decline
C. Rise Rise
D. Decline Decline
Debt ratio 83. Jones Company has long-term debt of P1,000,000, while Smith Company, Jones' competitor, has long-term debt of P200,000. Which of the following statements best represents an analysis of the long-term debt position of these two firms? A. Jones obviously has too much debt when compared to its competitor. B. Smith Company's times interest earned should be lower than Jones. C. Smith has five times better long-term borrowing ability than Jones. D. Not enough information to determine if any of the answers are correct. Times interest earned 85. Which of the following will not cause times interest earned to drop? Assume no other changes than those listed. A. A rise in preferred stock dividends. B. A drop in sales with no change in interest expense. C. An increase in interest rates. D. An increase in bonds payable with no change in operating income. DuPont Analysis 71. Which of the following could cause return on assets to decline when net profit margin is increasing? A. sale of investments at year-end C. purchase of a new building at yearend B. increased turnover of operating assets D. a stock split 80. A firm with a lower net profit margin can improve its return on total assets by A. increasing its debt ratio C. increasing its total asset turnover B. decreasing its fixed assets turnover D. decreasing its total asset turnover PROBLEMS: Horizontal analysis i .Kline Corporation had net income of P2 million in 2006. Using the 2006 financial elements as
Financial Statement Analysis
the base data, net income decreased by 70 percent in 2007 and increased by 175 percent in 2008. The respective net income reported by Kline Corporation for 2007 and 2008 are: A. P 600,000 and P5,500,000 C. P1,400,000 and P3,500,000 B. P5,500,000 and P 600,000 D. P1,400,000 and P5,500,000 ii
.Assume that Axle Inc. reported a net loss of P50,000 in 2006 and net income of P250,000 in 2007. The increase in net income of P300,000: A. can be stated as 0% C. cannot be stated as a percentage B. can be stated as 100% increase D. can be stated as 200% increase
Liquidity ratios iii .The following financial data have been taken from the records of Ratio Company: s receivable P200,000 s payable 80,000 Bonds payable, due in 10 years 500,000 Cash 100,000 Interest payable, due in three months 25,000 Inventory 440,000 Land 800,000 Notes payable, due in six months 250,000 What will happen to the ratios below if Ratio Company uses cash to pay 50 percent of its s payable? A. B. C. D. Current ratio Increase Decrease Increase Decrease Acid-test ratio Increase Decrease Decrease Increase Question Nos. 4 through 6 are based on the data taken from the balance sheet of Nomad Company at the end of the current year: s payable P145,000 s receivable 110,000 Accrued liabilities 4,000 Cash 80,000 Income tax payable 10,000 Inventory 140,000 Marketable securities 250,000 Notes payable, short-term 85,000
Prepaid expenses
15,000
iv
.The amount of working capital for the company is: A. P351,000 C. P211,000 B. P361,000 D. P336,000
v
.The company’s current ratio as of the balance sheet date is: A. 2.67:1 C. 2.02:1 B. 2.44:1 D. 1.95:1
vi
.The company’s acid-test ratio as of the balance sheet date is: A. 1.80:1 C. 2.02:1 B. 2.40:1 D. 1.76:1
Activity ratios Receivables turnover vii .Pine Hardware Store had net credit sales of P6,500,000 and cost of goods sold of P5,000,000 for the year. The s Receivable balances at the beginning and end of the year were P600,000 and P700,000, respectively. The receivables turnover was A. 7.7 times. C. 9.3 times. B. 10.8 times. D. 10.0 times. viii
.Milward Corporation’s books disclosed the following information for the year ended December 31, 2007: Net credit sales P1,500,000 Net cash sales 240,000 s receivable at beginning of year 200,000 s receivable at end of year 400,000 Milward’s s receivable turnover is A. 3.75 times C. 5.00 times B. 4.35 times D. 5.80 times
Days receivable ix .Batik Clothing Store had a balance in the s Receivable of P390,000 at the beginning of the year and a balance of P410,000 at the end of the year. The net credit sales during the year amounted to P4,000,000. Using 360-day year, what is the average
Financial Statement Analysis
collection period of the receivables? A. 30 days B. 65 days
B. 15.6 C. 73 days D. 36 days
xiv
Cash collection x .Deity Company had sales of P30,000, increase in s payable of P5,000, decrease in s receivable of P1,000, increase in inventories of P4,000, and depreciation expense of P4,000. What was the cash collected from customers? A. P31,000 C. P34,000 B. P35,000 D. P25,000 Inventory turnover xi .During 2007, Tarlac Company purchased P960,000 of inventory. The cost of goods sold for 2007 was P900,000, and the ending inventory at December 31, 2007 was P180,000. What was the inventory turnover for 2007? A. 6.4 C. 5.3 B. 6.0 D. 5.0 xii
.Selected information from the ing records of Petals Company is as follows: Net sales for 2007 P900,000 Cost of goods sold for 2007 600,000 Inventory at December 31, 2006 180,000 Inventory at December 31, 2007 156,000 Petals’ inventory turnover for 2007 is A. 5.77 times C. 3.67 times B. 3.85 times D. 3.57 times
xiii
.The Moss Company presents the following data for 2007. Net Sales, 2007 Net Sales, 2006 Cost of Goods Sold, 2007 Cost of Goods Sold, 2007 Inventory, beginning of 2007 Inventory, end of 2007 The merchandise inventory turnover for 2007 is: A. 5.6 C. 7.5
D. 7.7
P3,007,124 P 930,247 P2,000,326 P1,000,120 P 341,169 P 376,526
.Based on the following data for the current year, what is the inventory turnover? Net sales on during year P 500,000 Cost of merchandise sold during year 330,000 s receivable, beginning of year 45,000 s receivable, end of year 35,000 Inventory, beginning of year 90,000 Inventory, end of year 110,000 A. 3.3 C. 3.7 B. 8.3 D. 3.0
Days inventory xv .Selected information from the ing records of Eternity Manufacturing Company follows: Net sales P3,600,000 Cost of goods sold 2,400,000 Inventories at January 1 672,000 Inventories at December 31 576,000 What is the number of days’ sales in average inventories for the year? A. 102.2 C. 87.6 B. 94.9 D. 68.1 Turnover ratios Asset turnover Asset xvi .Net sales are P6,000,000, beginning total assets are P2,800,000, and the asset turnover is 3.0. What is the ending total asset balance? A. P2,000,000. C. P2,800,000. B. P1,200,000. D. P1,600,000. Solvency ratios Debt ratio xvii .Jordan Manufacturing reports the following capital structure: Current liabilities Long-term debt
P100,000 400,000
Financial Statement Analysis
Deferred income taxes Preferred stock Common stock on common stock Retained earnings What is the debt ratio? A. 0.48 B. 0.49
10,000 80,000 100,000 180,000 170,000 C. 0.93 D. 0.96
Times interest earned xviii .House of Fashion Company had the following financial statistics for 2006: Long-term debt (average rate of interest is 8%) Interest expense Net income Income tax Operating income What is the times interest earned for 2006? A. 11.4 times C. 3.1 times B. 3.3 times D. 3.7 times xix
xx
Preferred dividends paid 15,000 Based on the data presented above, what is the number of times bond interest charges were earned (round to one decimal point)? A. 3.7 C. 4.5 B. 4.4 D. 3.5 xxi
P400,000 35,000 48,000 46,000 107,000
.Brava Company reported the following on its income statement: Income before taxes P400,000 Income tax expense 100,000 Net income P300,000 An analysis of the income statement revealed that interest expense was P100,000. Brava Company’s times interest earned (TIE) was A. 5 times C. 3.5 times B. 4 times D. 3 times
.The balance sheet and income statement data for Candle Factory indicate the following: Bonds payable, 10% (issued 1998 due 2022) P1,000,000 Preferred 5% stock, P100 par (no change during year) 300,000 Common stock, P50 par (no change during year) 2,000,000 Income before income tax for year 350,000 Income tax for year 80,000 Common dividends paid 50,000
.The following data were abstracted from the records of Johnson Corporation for the year: Sales P1,800,000 Bond interest expense 60,000 Income taxes 300,000 Net income 400,000 How many times was bond interest earned? A. 7.67 C. 12.67 B. 11.67 D. 13.67
Net income xxii .The times interest earned ratio of Mikoto Company is 4.5 times. The interest expense for the year was P20,000, and the company’s tax rate is 40%. The company’s net income is: A. P22,000 C. P54,000 B. P42,000 D. P66,000 Profitability Ratios Return on Common Equity xxiii .Selected information for Ivano Company as of December 31 is as follows: 2006 2007 Preferred stock, 8%, par P100, nonconvertible, P250,000 P250,000 noncumulative Common stock 600,000 800,000 Retained earnings 150,000 370,000 Dividends paid on preferred stock for the year 20,000 20,000 Net income for the year 120,000 240,000 Ivano’s return on common stockholders’ equity, rounded to the nearest percentage point, for 2007 is A. 17% C. 21% B. 19% D. 23%
Financial Statement Analysis
Additional information: Stockholders’ equity at 12/31/07 Net income year ended 12/31/07 Dividends on preferred stock year ended 12/31/07 Market price per share of common stock at 12/31/07 The price-earnings ratio on common stock at December 31, 2007, was A. 10 to 1 C. 14 to 1 B. 12 to 1 D. 16 to 1
Dividend yield xxiv .The following information is available for Duncan Co.: 2006 Dividends per share of common stock P 1.40 Market price per share of common stock 17.50 Which of the following statements is correct? A. The dividend yield is 8.0%, which is of interest to investors seeking an increase in market price of their stocks. B. The dividend yield is 8.0%, which is of special interest to investors seeking current returns on their investments. C. The dividend yield is 12.5%, which is of interest to bondholders. D. The dividend yield is 8.0 times the market price, which is important in solvency analysis. Market Test Ratios Market/Book value ratio Price per share xxv .What is the market price of a share of stock for a firm with 100,000 shares outstanding, a book value of equity of P3,000,000, and a market/book ratio of 3.5? A. P8.57 C. P85.70 B. P30.00 D. P105.00 P/E ratio xxvi .Orchard Company’s capital stock at December 31 consisted of the following: Common stock, P2 par value; 100,000 shares authorized, issued, and outstanding. 10% noncumulative, nonconvertible preferred stock, P100 par value; 1,000 shares authorized, issued, and outstanding. Orchard’s common stock, which is listed on a major stock exchange, was quoted at P4 per share on December 31. Orchard’s net income for the year ended December 31 was P50,000. The yearly preferred dividend was declared. No capital stock transactions occurred. What was the price earnings ratio on Orchard’s common stock at December 31? A. 6 to 1 C. 10 to 1 B. 8 to 1 D. 16 to 1 xxvii
. On December 31, 2006 and 2007, Renegade Corporation had 100,000 shares of common stock and 50,000 shares of noncumulative and nonconvertible preferred stock issued and outstanding.
P4,500,000 1,200,000 300,000 144
Payout ratio xxviii .Selected financial data of Alexander Corporation for the year ended December 31, 2007, is presented below: Operating income P900,000 Interest expense (100,000) Income before income taxes 800,000 Income tax (320,000) Net income 480,000 Preferred stock dividend (200,000) Net income available to common stockholders 280,000 Common stock dividends were P120,000. The payout ratio is: A. 42.9 percent C. 25.0 percent B. 66.7 percent D. 71.4 percent P/E ratio & Payout ratio Use the following information for question Nos. 33 and 34: Terry Corporation had net income of P200,000 and paid dividends to common stockholders of P40,000 in 2007. The weighted-average number of shares outstanding in 2007 was 50,000 shares. Terry Corporation’s common stock is selling for P60 per share in the local stock exchange. xxix
.Terry Corporation’s price-earnings ratio is A. 3.8 times B. 15 times
C. 18.8 times D. 6 times
.Terry Corporation’s payout ratio for 2007 is A. P4 per share
C. 20.0 percent
xxx
Financial Statement Analysis
B. 12.5 percent
D. 25.0 percent
DuPont Model Debt ratio xxxi . The Board of Directors is dissatisfied with last year's ROE of 15%. If the profit margin and asset turnover remain unchanged at 8% and 1.25 respectively, by how much must the total debt ratio increase to achieve 20% ROE? A. Total debt ratio must increase by .5 B. Total debt ratio must increase by 5 C. Total debt ratio must increase by 5% D. Total debt ratio must increase by 50% xxxii
.Assume you are given the following relationships for the Orange Company: Sales/total assets Return on assets (ROA) Return on equity (ROE) The Orange Company’s debt ratio is A. 40% C. 35% B. 60% D. 65%
Leverage Ratio Degree of financial leverage xxxiii .A summarized income statement for Leveraged Inc. is presented below. Sales Cost of Sales Gross Profit Operating Expenses Operating Income Interest Expense Earnings Before Tax Income Tax Net Income The degree of financial leverage is: A. P 150,000 ÷ P 30,000 C. P1,000,000 ÷ P400,000 B. P 150,000 ÷ P120,000 D. P 150,000 ÷ P 80,000
1.5X 3% 5%
P1,000,000 600,000 P 400,000 250,000 P 150,000 30,000 P 120,000 40,000 P 80,000
Other Ratios Book value per share xxxiv .M Corporation’s stockholders’ equity at December 31, 2007 consists of the following: 6% cumulative preferred stock, P100 par, liquidating value was P110 per share; issued and outstanding 50,000 shares P5,000,000 Common stock, par, P5 per share; issued and outstanding, 400,000 shares 2,000,000 Retained earnings 1,000,000 Total P8,000,000 Dividends on preferred stock have been paid through 2006. At December 31, 2007, M Corporation’s book value per share was A. P5.50 C. P6.75 B. P6.25 D. P7.50 xxxv
.The following data were gathered from the annual report of Desk Products. Market price per share Number of common shares Preferred stock, 5% P100 par Common equity The book value per share is: A. P30.00 C. P14.00 B. P15.00 D. P13.75
P30.00 10,000 P10,000 P140,000
Integrated ratios Liquidity & activity ratios Inventory xxxvi .The current assets of Mayon Enterprise consists of cash, s receivable, and inventory. The following information is available: Credit sales 75% of total sales Inventory turnover 5 times Working capital P1,120,000 Current ratio 2.00 to 1 Quick ratio 1.25 to 1 Average Collection period 42 days Working days 360 The estimated inventory amount is:
Financial Statement Analysis
A. 840,000 B. 600,000
C. 720,000 D. 550,000
.The following data were obtained from the records of Salacot Company: Current ratio (at year end) 1.5 to 1 Inventory turnover based on sales and ending inventory 15 times Inventory turnover based on cost of goods sold and ending inventory 10.5 times Gross margin for 2007 P360,000 What was Salacot Company’s December 31, 2007 balance in the Inventory ? A. P120,000 C. P 80,000 B. P 54,000 D. P 95,000
xxxvii
Net sales xxxviii .Selected data from Mildred Company’s year-end financial statements are presented below. The difference between average and ending inventory is immaterial. Current ratio 2.0 Quick ratio 1.5 Current liabilities P120,000 Inventory turnover (based on cost of sales) 8 times Gross profit margin 40% Mildred’s net sales for the year were A. P 800,000 C. P 480,000 B. P 672,000 D. P1,200,000 Gross margin xxxix .Selected information from the ing records of the Blackwood Co. is as follows: Net A/R at December 31, 2006 P 900,000 Net A/R at December 31, 2007 P1,000,000 s receivable turnover 5 to 1 Inventories at December 31, 2006 P1,100,000 Inventories at December 31, 2007 P1,200,000 Inventory turnover 4 to 1 What was the gross margin for 2007?
A. P150,000 B. P200,000
C. P300,000 D. P400,000
Market Test Ratio Dividend yield xl .Recto Co. has a price earnings ratio of 10, earnings per share of P2.20, and a pay out ratio of 75%. The dividend yield is A. 25.0% C. 7.5% B. 22.0% D. 10.0% xli
.The following were reflected from the records of Salvacion Company: Earnings before interest and taxes Interest expense Preferred dividends Payout ratio Shares outstanding throughout 2006 Preferred Common Income tax rate Price earnings ratio The dividend yield ratio is A. 0.50 C. 0.40 B. 0.12 D. 0.08
P1,250,000 250,000 200,000 40 percent 20,000 25,000 40 percent 5 times
Comprehensive xlii .The balance sheets of Magdangal Company at the end of each of the first two years of operations indicate the following: 2007 2006 Total current assets P600,000 P560,000 Total investments 60,000 40,000 Total property, plant, and equipment 900,000 700,000 Total current liabilities 150,000 80,000 Total long-term liabilities 350,000 250,000 Preferred 9% stock, P100 par 100,000 100,000 Common stock, P10 par 600,000 600,000 Paid-in capital in excess of par-common stock 60,000 60,000
Financial Statement Analysis
Retained earnings 300,000 210,000 Net income is P115,000 and interest expense is P30,000 for 2007. What is the rate earned on total assets for 2007 (round percent to one decimal point)? A. 9.3 percent C. 8.9 percent B. 10.1 percent D. 7.4 percent xliii
.What is the rate earned on stockholders' equity for 2007 (round percent to one decimal point)? A. 10.6 percent C. 12.4 percent B. 11.2 percent D. 15.6 percent
xliv
.What is the earnings per share on common stock for 2007, (round to two decimal places)? A. P1.92 C. P1.77 B. P1.89 D. P1.42
xlv
.If the market price is P30, what is the price-earnings ratio on common stock for 2007 (round to one decimal point)? A. 17.0 C. 12.4 B. 12.1 D. 15.9
i ii iii
iv v vi vii viii ix x xi xii xiii xiv xv xvi xvii xviii xix
xx xxi xxii xxiii
xxiv xxv xxvi xxvii
xxviii xxix
xxx xxxi
xxxii xxxiii xxxiv xxxv xxxvi xxxvii xxxviii xxxix xl xli xlii xliii xliv xlv
FINANCIAL STATEMENT ANALYSIS THEORIES: 6. Management is a of financial analysis. Which of the following comments does not represent a fair statement as to the management perspective? A. Management is always interested in maximum profitability. B. Management is interested in the view of investors. C. Management is interested in the financial structure of the entity. D. Management is interested in the asset structure of the entity. Limitations 1. A limitation in calculating ratios in financial statement analysis is that A. it requires a calculator. B. no one other than the management would be interested in them. C. some balances may reflect atypical data at year end. D. they seldom identify problem areas in a company. 2. Which of the following is not a limitation of financial statement analysis? A. The cost basis. C. The diversification of firms. B. The use of estimates. D. The availability of information. 5. Which of the following does not represent a problem with financial analysis? A. Financial statement analysis is an art; it requires judgment decisions on the part of the analyst. B. Financial analysis can be used to detect apparent liquidity problems. C. There are as many ratios for financial analysis as there are pairs of figures. D. Some industry ratio formulas vary from source to source. 77. The use of alternative ing methods: A. is not a problem in ratio analysis because the footnotes disclose the method used. B. may be a problem in ratio analysis even if disclosed. C. is not a problem in ratio analysis since eventually all methods will lead to the same end. D. is only a problem in ratio analysis with respect to inventory. Industry Analysis 3. Suppose you are comparing two firms in the steel industry. One firm is large and the other is small.
Which type of numbers would be most meaningful for statement analysis? A. Absolute numbers would be most meaningful for both the large and small firm. B. Absolute numbers would be most meaningful in the large firm; relative numbers would be most meaningful in the small firm. C. Relative numbers would be most meaningful for the large firm; absolute numbers would be most meaningful for the small firm. D. Relative numbers would be most meaningful for both the large and small firm, especially for interfirm comparisons. 4. Which of these statements is false? A. Many companies will not clearly fit into any one industry. B. A financial service uses its best judgment as to which industry the firm best fits. C. The analysis of an entity's financial statements can be more meaningful if the results are compared with industry averages and with results of competitors. D. A company comparison should not be made with industry averages if the company does not clearly fit into any one industry. Common-sized financial statements 9. Which of the following generally is the most useful in analyzing companies of different sizes? A. comparative statements C. price-level ing B. common-sized financial statements D. profitability index 12. Statements in which all items are expressed only in relative (percentages of a base) are termed: A. Vertical statements C. Funds Statements B. Horizontal Statements D. Common-Size Statements 10. The percent of property, plant and equipment to total assets is an example of: A. vertical analysis C. profitability analysis B. solvency analysis D. horizontal analysis 15. Vertical analysis is a technique that expresses each item in a financial statement A. in pesos and centavos. B. as a percent of the item in the previous year. C. as a percent of a base amount.
Financial Statement Analysis
D. starting with the highest value down to the lowest value. 17. In performing a vertical analysis, the base for prepaid expenses is A. total current assets. C. total liabilities. B. total assets. D. prepaid expenses in a previous year. Horizontal analysis 8. The percentage analysis of increases and decreases in individual items in comparative financial statements is called: A. vertical analysis C. profitability analysis B. solvency analysis D. horizontal analysis 11. Horizontal analysis is also known as A. linear analysis. B. vertical analysis.
C. trend analysis. D. common size analysis.
13. In which of the following cases may a percentage change be computed? A. The trend of the amounts is decreasing but all amounts are positive. B. There is no amount in the base year. C. There is a negative amount in the base year and a negative amount in the subsequent year. D. There is a negative amount in the base year and a positive amount in the subsequent year. 14. Horizontal analysis is a technique for evaluating a series of financial statement data over a period of time A. that has been arranged from the highest number to the lowest number. B. that has been arranged from the lowest number to the highest number. C. to determine which items are in error. D. to determine the amount and/or percentage increase or decrease that has taken place. Trend analysis 16. Trend analysis allows a firm to compare its performance to: A. other firms in the industry C. other industries B. other time periods within the firm D. none of the above Risk and return 29. The present and prospective stockholders are primarily concerned with a firm’
A. profitability B. liquidity
C. leverage D. risk and return
69. Which suppliers of funds bear the greatest risk and should therefore earn the greatest return? A. common stockholders C. preferred shareholders B. general creditors such as banks D. bondholders Measures of Risk 54. The following groups of ratios primarily measure risk: A. liquidity, activity, and common equity C. liquidity, activity, and debt B. liquidity, activity, and profitability D. activity, debt, and profitability Financial ratios 7. Ratios are used as tools in financial analysis A. instead of horizontal and vertical analyses. B. because they can provide information that may not be apparent from inspection of the individual components of a particular ratio. C. because even single ratios by themselves are quite meaningful. D. because they are prescribed by GAAP. 18. In the near term, the important ratios that provide the information critical to the short-run operation of the firm are: A. liquidity, activity, and profitability C. liquidity, activity, and equity B. liquidity, activity, and debt D. activity,debt, and profitability 75. The ability of a business to pay its debts as they come due and to earn a reasonable amount of income is referred to as: A. solvency and leverage C. solvency and liquidity B. solvency and profitability D. solvency and equity Liquidity ratios Interested parties 19. The primary concern of short-term creditors when assessing the strength of a firm is the entity’s A. short-term liquidity C. market price of stock
Financial Statement Analysis
B. profitability
D. leverage
35. Short-term creditors are usually most interested in assessing A. solvency. C. marketability. B. liquidity. D. profitability. 36. The two categories of ratios that should be utilized to asses a firm’s true liquidity are the A. current and quick ratios C. liquidity and profitability ratios B. liquidity and debt ratios D. liquidity and activity ratios 47. Which of the following is the most of interest to a firm’s suppliers? A. profitability C. asset utilization B. debt D. liquidity Measures of liquidity 21. The ratios that are used to determine a company’s short-term debt paying ability are A. asset turnover, times interest earned, current ratio, and receivables turnover. B. times interest earned, inventory turnover, current ratio, and receivables turnover. C. times interest earned, acid-test ratio, current ratio, and inventory turnover. D. current ratio, acid-test ratio, receivables turnover, and inventory turnover. 20. Which of the following is a measure of the liquidity position of a corporation? A. earnings per share B. inventory turnover C. current ratio D. number of times interest charges earned 37. Which one of the following ratios would not likely be used by a short-term creditor in evaluating whether to sell on credit to a company? A. Current ratio C. Asset turnover B. Acid-test ratio D. Receivables turnover 51. Which of the following ratios would be least helpful in appraising the liquidity of current assets? A. s Receivable turnover C. Current Ratio B. Days’ sales in inventory D. Days’ sales in s receivable
53. Which ratio is most helpful in appraising the liquidity of current assets? A. current ratio C. acid-test ratio B. debt ratio D. s receivable turnover Not a measure of liquidity 79. Which one of the following ratios would not likely be used by a short-term creditor in evaluating whether to sell on credit to a company? A. s receivable turnover. C. acid test ratio. B. asset turnover. D. current ratio. Current ratio 24. Typically, which of the following would be considered to be the most indicative of a firm's short-term debt paying ability? A. working capital C. acid test ratio B. current ratio D. days’ sales in receivables 22. The current ratio is A. calculated by dividing current liabilities by current assets. B. used to evaluate a company’s liquidity and short-term debt paying ability. C. used to evaluate a company’s solvency and long-term debt paying ability. D. calculated by subtracting current liabilities from current assets. 30. Which of the following ratios is rated to be a primary measure of liquidity and considered of highest significance rating of the liquidity ratios a bank analyst? A. Debt/Equity B. Current ratio C. Degree of Financial Leverage D. s Receivable Turnover in Days 41. A weakness of the current ratio is A. the difficulty of the calculation. B. that it does not take into the composition of the current assets. C. that it is rarely used by sophisticated analysts. D. that it can be expressed as a percentage, as a rate, or as a proportion. Acid-test or quick ratio
Financial Statement Analysis
42. A measure of a company’s immediate short-term liquidity is the A. current ratio. B. current cash debt coverage ratio. C. cash debt coverage ratio. D. acid-test ratio. 23. The acid-test or quick ratio A. is used to quickly determine a company’s solvency and long-term debt paying ability. B. relates cash, short-term investments, and net receivables to current liabilities. C. is calculated by taking one item from the income statement and one item from the balance sheet. D. is the same as the current ratio except it is rounded to the nearest whole percent. Not a liquidity ratio 28. Which one of the following would not be considered a liquidity ratio? A. Current ratio. C. Quick ratio. B. Inventory turnover. D. Return on assets. Activity ratios Days receivable & receivable turnover Quality of receivables 25. Which of the following does not bear on the quality of receivables? A. shortening the credit B. lengthening the credit C. lengthening the outstanding period D. all of the above bear on the quality of receivables
65. All of the following are asset utilization ratios except: A. average collection period C. receivables turnover B. inventory turnover D. return on assets Asset turnover 63. Asset turnover measures A. how often a company replaces its assets. B. how efficiently a company uses its assets to generate sales. C. the portion of the assets that have been financed by creditors. D. the overall rate of return on assets. 66. Total asset turnover measures the ability of a firm to: A. generate profits on sales B. generate sales through the use of assets C. cover long-term debt D. buy new assets 76. A measure of how efficiently a company uses its assets to generate sales is the A. asset turnover ratio. C. profit margin ratio. B. cash return on sales ratio. D. return on assets ratio. Solvency ratios Interested parties 50. Long-term creditors are usually most interested in evaluating A. liquidity. C. profitability. B. marketability. D. solvency.
Days receivable 27. A general rule to use in assessing the average collection period is A. that is should not exceed 30 days. B. it can be any length as long as the customer continues to buy merchandise. C. that it should not greatly exceed the discount period. D. that it should not greatly exceed the credit term period.
Financial Leverage 45. Trading on the equity (leverage) refers to the A. amount of working capital. B. amount of capital provided by owners. C. use of borrowed money to increase the return to owners. D. earnings per share.
Asset utilization ratios Performance measures
90. The tendency of the rate earned on stockholders' equity to vary disproportionately from the rate earned on total assets is sometimes referred to as:
Financial Statement Analysis
A. leverage B. solvency
C. yield D. quick assets
55. Using financial leverage is a good financial strategy from the viewpoint of stockholders of companies having: A. a high debt ratio C. a steadily declining current ratio B. steady or rising profits D. cyclical highs and lows 46. The ratio that indicates a company’s degree of financial leverage is the A. cash debt coverage ratio. C. free cash flow ratio. B. debt to total assets. D. times-interest earned ratio. 73. Interest expense creates magnification of earnings through financial leverage because: A. while earnings available to pay interest rise, earnings to residual owners rise faster B. interest accompanies debt financing C. interest costs are cheaper than the required rate of return to equity owners S. the use of interest causes higher earnings Measures of solvency 34. The set of ratios that is most useful in evaluating solvency is A. debt ratio, current ratio, and times interest earned B. debt ratio, times interest earned, and return on assets C. debt ratio, times interest earned, and quick ratio D. debt ratio, times interest earned, and cash flow to debt 49. Which of the following ratios is most relevant to evaluating solvency? A. Return on assets C. Days’ purchases in s payable B. Debt ratio D. Dividend yield Fixed assets to long-term liabilities 44. Which of the following ratios provides a solvency measure that shows the margin of safety of noteholders or bondholders and also gives an indication of the potential ability of the business to borrow additional funds on a long-term basis? A. ratio of fixed assets to long-term liabilities B. ratio of net sales to assets C. number of days' sales in receivables
D. rate earned on stockholders' equity Debt ratio 59. The debt ratio indicates: A. a comparison of liabilities with total assets B. the ability of the firm to pay its current obligations C. the efficiency of the use of total assets D. the magnification of earnings caused by leverage 78. The debt to total assets ratio measures A. the company’s profitability. B. whether interest can be paid on debt in the current year. C. the proportion of interest paid relative to dividends paid. D. the percentage of the total assets provided by creditor. Debt-to-equity ratio 60. Which of the following statements best compares long-term borrowing capacity ratios? A. The debt/equity ratio is more conservative than the debt ratio. B. The debt to tangible net worth ratio is more conservative than the debt/equity ratio. C. The debt/equity ratio is more conservative than the debt to tangible net worth ratio. D. The debt ratio is more conservative than the debt/equity ratio. Times interest earned 74. A times interest earned ratio of 0.90 to 1 means that A. the firm will default on its interest payment B. net income is less than the interest expense C. the cash flow is less than the net income D. the cash flow exceeds the net income Fixed charge coverage 61. A fixed charge coverage: A. is a balance sheet indication of debt carrying ability B. is an income statement indication of debt carrying ability C. frequently includes research and development D. computation is standard from firm to firm
Financial Statement Analysis
Off-balance sheet liabilities 62. If a firm has substantial capital or financing leases disclosed in the notes but not capitalized in the financial statements, then the A. times interest earned ratio will be overstated, based upon the financial statements B. debt ratio will be understated C. working capital will be understated D. fixed charge ratio will be overstated, based upon the financial statements Profitability ratios Interested parties 39. The return on assets ratio is affected by the A. asset turnover ratio. B. debt to total assets ratio. C. profit margin ratio. D. asset turnover and profit margin ratios. 52. Stockholders are most interested in evaluating A. liquidity. C. profitability. B. solvency. D. marketability. Performance measures 48. The set of ratios that are most useful in evaluating profitability is A. ROA, ROE, and debt to equity ratio C. ROA, ROE, and acid-test ratio B. ROA, ROE, and dividend yield D. ROA, ROE, and cash flow to debt Earnings per share 82. Which of the following ratios appears most frequently in annual reports? A. Earnings per Share C. Profit Margin B. Return on Equity D. Debt/Equity Return on assets 64. Return on assets A. can be determined by looking at a balance sheet B. should be smaller than return on sales C. can be affected by the company’s choice of a depreciation method D. should be larger than return on equity
Return on investments 72. Return on investment measures: A. return to all suppliers of funds funds B. return to all long-term creditors
C. return to all long-term suppliers of D. return to stockholders
Market test ratios Price-earnings ratio 56. The price/earnings ratio A. measures the past earning ability of the firm B. is a gauge of future earning power as seen by investors C. relates price to dividends D. relates 58. Which of the following ratios usually reflects investors opinions of the future prospects for the firm? A. dividend yield C. book value per share B. price/earnings ratio D. earnings per share Dividend yield 57. Which of the following ratios represents dividends per common share in relation to market price per common share? A. dividend payout C. price/earnings B. dividend yield D. book value per share Financial Statement Analysis s Receivable 26. Which of the following reasons should not be considered in order to explain why the receivables appear to be abnormally high? A. Sales volume decreases materially late in the year. B. Receivables have collectibility problems and possibly some should have been written off. C. Material amount of receivables are on the installment basis. D. Sales volume expanded materially late in the year.
Financial Statement Analysis
31. An acceleration in the collection of receivables will tend to cause the s receivable turnover to: A. decrease C. either increase or decrease B. remain the same D. increase Inventories 32. Which of the following would best indicate that the firm is carrying excess inventory? A. a decline in the current ratio B. stable current ratio with declining quick ratios C. a decline in days' sales in inventory D. a rise in total asset turnover 89. When Tri-C Corp. compares its ratios to industry averages, it has a higher current ratio, an average quick ratio, and a low inventory turnover. What might you assume about Tri-C? A. Its cash balance is too low. C. Its current liabilities are too low. B. Its cost of goods sold is too low. D. Its average inventory is too high. Current ratio 33. Which of the following would be most detrimental to a firm's current ratio if that ratio is currently 2.0? A. Buy raw materials on credit B. Sell marketable securities at cost C. Pay off s payable with cash D. Pay off a portion of long-term debt with cash Fixed asset turnover ratio 68. Which of the following circumstances will cause sales to fixed assets to be abnormally high? A. A labor-intensive industry. B. The use of units-of-production depreciation. C. A highly mechanized facility. D. High direct labor costs from a new union contract. Total asset turnover 81. A firm with a total asset turnover lower than the industry standard and a current ratio which meets industry standard might have excessive: A. s receivable C. Debt
B. Fixed assets
D. Inventory
Profitability analysis 84. Denver Dynamics has net income of P2,000,000. Oakland Enterprises has net income of P2,500,000. Which of the following best compares the profitability of Denver and Oakland? A. Oakland Enterprises is 25% more profitable than Denver Dynamics. B. Oakland Enterprises is more profitable than Denver Dynamics, but the comparison can't be quantified. C. Oakland Enterprises is only more profitable if it is smaller than Denver Dynamics. D. Further information is needed for a reasonable comparison. Debt ratio 86. Companies A and B are in the same industry and have similar characteristics except that Company A is more leveraged than Company B. Both companies have the same income before interest and taxes and the same total assets. Based on this information we could conclude that A. Company A has higher net income than Company B B. Company A has a lower return on assets than company B C. Company A is more risky than Company B. D. Company A has a lower debt ratio than company B Sensitivity Analysis Current ratio 40. A firm has a current ratio of 1:1. In order to improve its liquidity ratios, this firm should A. improve its collection practices, thereby increasing cash and increasing its current and quick ratios. B. improve its collection practices and pay s payable, there decreasing current liabilities and increasing the current and quick ratios. C. decrease current liabilities by utilizing more long-term debt, thereby increasing the current and quick ratios. D. increase inventory, thereby increasing current assets and the current and quick ratios. 43. Recently the M&M Company has been having problems. As a result, its financial situation has deteriorated. M&M approached the First National Bank for a badly needed loan, but
Financial Statement Analysis
the loan officer insisted that the current ratio (now 0.5) be improved to at least 0.8 before the bank would even consider granting the credit. Which of the following actions would do the most to improve the ratio in the short run? A. Using some cash to pay off some current liabilities. B. Collecting some of the current s receivable. C. Paying off some long-term debt. D. Purchasing additional inventory on credit (s payable). 87. Tyner Company had P250,000 of current assets and P90,000 of current liabilities before borrowing P60,000 from the bank with a 3-month note payable. What effect did the borrowing transaction have on Tyner Company's current ratio? A. The ratio remained unchanged. B. The change in the current ratio cannot be determined. C. The ratio decreased. D. The ratio increased. 88. Which of the following actions will increase a firm's current ratio if it is now less than 1.0? A. Convert marketable securities to cash. B. Pay s payable with cash. C. Buy inventory with short term credit (i.e. s payable). D. Sell inventory at cost. Acid-test ratio 38. If a company has an acid-test ratio of 1.2:1, what respective effects will the borrowing of cash by short-term debt and collection of s receivable have on the ratio? A. B. C. D. Short-term borrowing Increase Increase Decrease Decrease Collection of receivable No effect Increase No effect Decrease Profit margin 70. Which of the following would most likely cause a rise in net profit margin? A. increased sales C. decreased operating expenses B. decreased preferred dividends D. increased cost of sales Return on assets 67. Return on assets cannot fall under which of the following circumstances?
Net profit margin Total asset turnover
A. Decline Rise
B. Rise Decline
C. Rise Rise
D. Decline Decline
Debt ratio 83. Jones Company has long-term debt of P1,000,000, while Smith Company, Jones' competitor, has long-term debt of P200,000. Which of the following statements best represents an analysis of the long-term debt position of these two firms? A. Jones obviously has too much debt when compared to its competitor. B. Smith Company's times interest earned should be lower than Jones. C. Smith has five times better long-term borrowing ability than Jones. D. Not enough information to determine if any of the answers are correct. Times interest earned 85. Which of the following will not cause times interest earned to drop? Assume no other changes than those listed. A. A rise in preferred stock dividends. B. A drop in sales with no change in interest expense. C. An increase in interest rates. D. An increase in bonds payable with no change in operating income. DuPont Analysis 71. Which of the following could cause return on assets to decline when net profit margin is increasing? A. sale of investments at year-end C. purchase of a new building at yearend B. increased turnover of operating assets D. a stock split 80. A firm with a lower net profit margin can improve its return on total assets by A. increasing its debt ratio C. increasing its total asset turnover B. decreasing its fixed assets turnover D. decreasing its total asset turnover PROBLEMS: Horizontal analysis i .Kline Corporation had net income of P2 million in 2006. Using the 2006 financial elements as
Financial Statement Analysis
the base data, net income decreased by 70 percent in 2007 and increased by 175 percent in 2008. The respective net income reported by Kline Corporation for 2007 and 2008 are: A. P 600,000 and P5,500,000 C. P1,400,000 and P3,500,000 B. P5,500,000 and P 600,000 D. P1,400,000 and P5,500,000 ii
.Assume that Axle Inc. reported a net loss of P50,000 in 2006 and net income of P250,000 in 2007. The increase in net income of P300,000: A. can be stated as 0% C. cannot be stated as a percentage B. can be stated as 100% increase D. can be stated as 200% increase
Liquidity ratios iii .The following financial data have been taken from the records of Ratio Company: s receivable P200,000 s payable 80,000 Bonds payable, due in 10 years 500,000 Cash 100,000 Interest payable, due in three months 25,000 Inventory 440,000 Land 800,000 Notes payable, due in six months 250,000 What will happen to the ratios below if Ratio Company uses cash to pay 50 percent of its s payable? A. B. C. D. Current ratio Increase Decrease Increase Decrease Acid-test ratio Increase Decrease Decrease Increase Question Nos. 4 through 6 are based on the data taken from the balance sheet of Nomad Company at the end of the current year: s payable P145,000 s receivable 110,000 Accrued liabilities 4,000 Cash 80,000 Income tax payable 10,000 Inventory 140,000 Marketable securities 250,000 Notes payable, short-term 85,000
Prepaid expenses
15,000
iv
.The amount of working capital for the company is: A. P351,000 C. P211,000 B. P361,000 D. P336,000
v
.The company’s current ratio as of the balance sheet date is: A. 2.67:1 C. 2.02:1 B. 2.44:1 D. 1.95:1
vi
.The company’s acid-test ratio as of the balance sheet date is: A. 1.80:1 C. 2.02:1 B. 2.40:1 D. 1.76:1
Activity ratios Receivables turnover vii .Pine Hardware Store had net credit sales of P6,500,000 and cost of goods sold of P5,000,000 for the year. The s Receivable balances at the beginning and end of the year were P600,000 and P700,000, respectively. The receivables turnover was A. 7.7 times. C. 9.3 times. B. 10.8 times. D. 10.0 times. viii
.Milward Corporation’s books disclosed the following information for the year ended December 31, 2007: Net credit sales P1,500,000 Net cash sales 240,000 s receivable at beginning of year 200,000 s receivable at end of year 400,000 Milward’s s receivable turnover is A. 3.75 times C. 5.00 times B. 4.35 times D. 5.80 times
Days receivable ix .Batik Clothing Store had a balance in the s Receivable of P390,000 at the beginning of the year and a balance of P410,000 at the end of the year. The net credit sales during the year amounted to P4,000,000. Using 360-day year, what is the average
Financial Statement Analysis
collection period of the receivables? A. 30 days B. 65 days
B. 15.6 C. 73 days D. 36 days
xiv
Cash collection x .Deity Company had sales of P30,000, increase in s payable of P5,000, decrease in s receivable of P1,000, increase in inventories of P4,000, and depreciation expense of P4,000. What was the cash collected from customers? A. P31,000 C. P34,000 B. P35,000 D. P25,000 Inventory turnover xi .During 2007, Tarlac Company purchased P960,000 of inventory. The cost of goods sold for 2007 was P900,000, and the ending inventory at December 31, 2007 was P180,000. What was the inventory turnover for 2007? A. 6.4 C. 5.3 B. 6.0 D. 5.0 xii
.Selected information from the ing records of Petals Company is as follows: Net sales for 2007 P900,000 Cost of goods sold for 2007 600,000 Inventory at December 31, 2006 180,000 Inventory at December 31, 2007 156,000 Petals’ inventory turnover for 2007 is A. 5.77 times C. 3.67 times B. 3.85 times D. 3.57 times
xiii
.The Moss Company presents the following data for 2007. Net Sales, 2007 Net Sales, 2006 Cost of Goods Sold, 2007 Cost of Goods Sold, 2007 Inventory, beginning of 2007 Inventory, end of 2007 The merchandise inventory turnover for 2007 is: A. 5.6 C. 7.5
D. 7.7
P3,007,124 P 930,247 P2,000,326 P1,000,120 P 341,169 P 376,526
.Based on the following data for the current year, what is the inventory turnover? Net sales on during year P 500,000 Cost of merchandise sold during year 330,000 s receivable, beginning of year 45,000 s receivable, end of year 35,000 Inventory, beginning of year 90,000 Inventory, end of year 110,000 A. 3.3 C. 3.7 B. 8.3 D. 3.0
Days inventory xv .Selected information from the ing records of Eternity Manufacturing Company follows: Net sales P3,600,000 Cost of goods sold 2,400,000 Inventories at January 1 672,000 Inventories at December 31 576,000 What is the number of days’ sales in average inventories for the year? A. 102.2 C. 87.6 B. 94.9 D. 68.1 Turnover ratios Asset turnover Asset xvi .Net sales are P6,000,000, beginning total assets are P2,800,000, and the asset turnover is 3.0. What is the ending total asset balance? A. P2,000,000. C. P2,800,000. B. P1,200,000. D. P1,600,000. Solvency ratios Debt ratio xvii .Jordan Manufacturing reports the following capital structure: Current liabilities Long-term debt
P100,000 400,000
Financial Statement Analysis
Deferred income taxes Preferred stock Common stock on common stock Retained earnings What is the debt ratio? A. 0.48 B. 0.49
10,000 80,000 100,000 180,000 170,000 C. 0.93 D. 0.96
Times interest earned xviii .House of Fashion Company had the following financial statistics for 2006: Long-term debt (average rate of interest is 8%) Interest expense Net income Income tax Operating income What is the times interest earned for 2006? A. 11.4 times C. 3.1 times B. 3.3 times D. 3.7 times xix
xx
Preferred dividends paid 15,000 Based on the data presented above, what is the number of times bond interest charges were earned (round to one decimal point)? A. 3.7 C. 4.5 B. 4.4 D. 3.5 xxi
P400,000 35,000 48,000 46,000 107,000
.Brava Company reported the following on its income statement: Income before taxes P400,000 Income tax expense 100,000 Net income P300,000 An analysis of the income statement revealed that interest expense was P100,000. Brava Company’s times interest earned (TIE) was A. 5 times C. 3.5 times B. 4 times D. 3 times
.The balance sheet and income statement data for Candle Factory indicate the following: Bonds payable, 10% (issued 1998 due 2022) P1,000,000 Preferred 5% stock, P100 par (no change during year) 300,000 Common stock, P50 par (no change during year) 2,000,000 Income before income tax for year 350,000 Income tax for year 80,000 Common dividends paid 50,000
.The following data were abstracted from the records of Johnson Corporation for the year: Sales P1,800,000 Bond interest expense 60,000 Income taxes 300,000 Net income 400,000 How many times was bond interest earned? A. 7.67 C. 12.67 B. 11.67 D. 13.67
Net income xxii .The times interest earned ratio of Mikoto Company is 4.5 times. The interest expense for the year was P20,000, and the company’s tax rate is 40%. The company’s net income is: A. P22,000 C. P54,000 B. P42,000 D. P66,000 Profitability Ratios Return on Common Equity xxiii .Selected information for Ivano Company as of December 31 is as follows: 2006 2007 Preferred stock, 8%, par P100, nonconvertible, P250,000 P250,000 noncumulative Common stock 600,000 800,000 Retained earnings 150,000 370,000 Dividends paid on preferred stock for the year 20,000 20,000 Net income for the year 120,000 240,000 Ivano’s return on common stockholders’ equity, rounded to the nearest percentage point, for 2007 is A. 17% C. 21% B. 19% D. 23%
Financial Statement Analysis
Additional information: Stockholders’ equity at 12/31/07 Net income year ended 12/31/07 Dividends on preferred stock year ended 12/31/07 Market price per share of common stock at 12/31/07 The price-earnings ratio on common stock at December 31, 2007, was A. 10 to 1 C. 14 to 1 B. 12 to 1 D. 16 to 1
Dividend yield xxiv .The following information is available for Duncan Co.: 2006 Dividends per share of common stock P 1.40 Market price per share of common stock 17.50 Which of the following statements is correct? A. The dividend yield is 8.0%, which is of interest to investors seeking an increase in market price of their stocks. B. The dividend yield is 8.0%, which is of special interest to investors seeking current returns on their investments. C. The dividend yield is 12.5%, which is of interest to bondholders. D. The dividend yield is 8.0 times the market price, which is important in solvency analysis. Market Test Ratios Market/Book value ratio Price per share xxv .What is the market price of a share of stock for a firm with 100,000 shares outstanding, a book value of equity of P3,000,000, and a market/book ratio of 3.5? A. P8.57 C. P85.70 B. P30.00 D. P105.00 P/E ratio xxvi .Orchard Company’s capital stock at December 31 consisted of the following: Common stock, P2 par value; 100,000 shares authorized, issued, and outstanding. 10% noncumulative, nonconvertible preferred stock, P100 par value; 1,000 shares authorized, issued, and outstanding. Orchard’s common stock, which is listed on a major stock exchange, was quoted at P4 per share on December 31. Orchard’s net income for the year ended December 31 was P50,000. The yearly preferred dividend was declared. No capital stock transactions occurred. What was the price earnings ratio on Orchard’s common stock at December 31? A. 6 to 1 C. 10 to 1 B. 8 to 1 D. 16 to 1 xxvii
. On December 31, 2006 and 2007, Renegade Corporation had 100,000 shares of common stock and 50,000 shares of noncumulative and nonconvertible preferred stock issued and outstanding.
P4,500,000 1,200,000 300,000 144
Payout ratio xxviii .Selected financial data of Alexander Corporation for the year ended December 31, 2007, is presented below: Operating income P900,000 Interest expense (100,000) Income before income taxes 800,000 Income tax (320,000) Net income 480,000 Preferred stock dividend (200,000) Net income available to common stockholders 280,000 Common stock dividends were P120,000. The payout ratio is: A. 42.9 percent C. 25.0 percent B. 66.7 percent D. 71.4 percent P/E ratio & Payout ratio Use the following information for question Nos. 33 and 34: Terry Corporation had net income of P200,000 and paid dividends to common stockholders of P40,000 in 2007. The weighted-average number of shares outstanding in 2007 was 50,000 shares. Terry Corporation’s common stock is selling for P60 per share in the local stock exchange. xxix
.Terry Corporation’s price-earnings ratio is A. 3.8 times B. 15 times
C. 18.8 times D. 6 times
.Terry Corporation’s payout ratio for 2007 is A. P4 per share
C. 20.0 percent
xxx
Financial Statement Analysis
B. 12.5 percent
D. 25.0 percent
DuPont Model Debt ratio xxxi . The Board of Directors is dissatisfied with last year's ROE of 15%. If the profit margin and asset turnover remain unchanged at 8% and 1.25 respectively, by how much must the total debt ratio increase to achieve 20% ROE? A. Total debt ratio must increase by .5 B. Total debt ratio must increase by 5 C. Total debt ratio must increase by 5% D. Total debt ratio must increase by 50% xxxii
.Assume you are given the following relationships for the Orange Company: Sales/total assets Return on assets (ROA) Return on equity (ROE) The Orange Company’s debt ratio is A. 40% C. 35% B. 60% D. 65%
Leverage Ratio Degree of financial leverage xxxiii .A summarized income statement for Leveraged Inc. is presented below. Sales Cost of Sales Gross Profit Operating Expenses Operating Income Interest Expense Earnings Before Tax Income Tax Net Income The degree of financial leverage is: A. P 150,000 ÷ P 30,000 C. P1,000,000 ÷ P400,000 B. P 150,000 ÷ P120,000 D. P 150,000 ÷ P 80,000
1.5X 3% 5%
P1,000,000 600,000 P 400,000 250,000 P 150,000 30,000 P 120,000 40,000 P 80,000
Other Ratios Book value per share xxxiv .M Corporation’s stockholders’ equity at December 31, 2007 consists of the following: 6% cumulative preferred stock, P100 par, liquidating value was P110 per share; issued and outstanding 50,000 shares P5,000,000 Common stock, par, P5 per share; issued and outstanding, 400,000 shares 2,000,000 Retained earnings 1,000,000 Total P8,000,000 Dividends on preferred stock have been paid through 2006. At December 31, 2007, M Corporation’s book value per share was A. P5.50 C. P6.75 B. P6.25 D. P7.50 xxxv
.The following data were gathered from the annual report of Desk Products. Market price per share Number of common shares Preferred stock, 5% P100 par Common equity The book value per share is: A. P30.00 C. P14.00 B. P15.00 D. P13.75
P30.00 10,000 P10,000 P140,000
Integrated ratios Liquidity & activity ratios Inventory xxxvi .The current assets of Mayon Enterprise consists of cash, s receivable, and inventory. The following information is available: Credit sales 75% of total sales Inventory turnover 5 times Working capital P1,120,000 Current ratio 2.00 to 1 Quick ratio 1.25 to 1 Average Collection period 42 days Working days 360 The estimated inventory amount is:
Financial Statement Analysis
A. 840,000 B. 600,000
C. 720,000 D. 550,000
.The following data were obtained from the records of Salacot Company: Current ratio (at year end) 1.5 to 1 Inventory turnover based on sales and ending inventory 15 times Inventory turnover based on cost of goods sold and ending inventory 10.5 times Gross margin for 2007 P360,000 What was Salacot Company’s December 31, 2007 balance in the Inventory ? A. P120,000 C. P 80,000 B. P 54,000 D. P 95,000
xxxvii
Net sales xxxviii .Selected data from Mildred Company’s year-end financial statements are presented below. The difference between average and ending inventory is immaterial. Current ratio 2.0 Quick ratio 1.5 Current liabilities P120,000 Inventory turnover (based on cost of sales) 8 times Gross profit margin 40% Mildred’s net sales for the year were A. P 800,000 C. P 480,000 B. P 672,000 D. P1,200,000 Gross margin xxxix .Selected information from the ing records of the Blackwood Co. is as follows: Net A/R at December 31, 2006 P 900,000 Net A/R at December 31, 2007 P1,000,000 s receivable turnover 5 to 1 Inventories at December 31, 2006 P1,100,000 Inventories at December 31, 2007 P1,200,000 Inventory turnover 4 to 1 What was the gross margin for 2007?
A. P150,000 B. P200,000
C. P300,000 D. P400,000
Market Test Ratio Dividend yield xl .Recto Co. has a price earnings ratio of 10, earnings per share of P2.20, and a pay out ratio of 75%. The dividend yield is A. 25.0% C. 7.5% B. 22.0% D. 10.0% xli
.The following were reflected from the records of Salvacion Company: Earnings before interest and taxes Interest expense Preferred dividends Payout ratio Shares outstanding throughout 2006 Preferred Common Income tax rate Price earnings ratio The dividend yield ratio is A. 0.50 C. 0.40 B. 0.12 D. 0.08
P1,250,000 250,000 200,000 40 percent 20,000 25,000 40 percent 5 times
Comprehensive xlii .The balance sheets of Magdangal Company at the end of each of the first two years of operations indicate the following: 2007 2006 Total current assets P600,000 P560,000 Total investments 60,000 40,000 Total property, plant, and equipment 900,000 700,000 Total current liabilities 150,000 80,000 Total long-term liabilities 350,000 250,000 Preferred 9% stock, P100 par 100,000 100,000 Common stock, P10 par 600,000 600,000 Paid-in capital in excess of par-common stock 60,000 60,000
Financial Statement Analysis
Retained earnings 300,000 210,000 Net income is P115,000 and interest expense is P30,000 for 2007. What is the rate earned on total assets for 2007 (round percent to one decimal point)? A. 9.3 percent C. 8.9 percent B. 10.1 percent D. 7.4 percent xliii
.What is the rate earned on stockholders' equity for 2007 (round percent to one decimal point)? A. 10.6 percent C. 12.4 percent B. 11.2 percent D. 15.6 percent
xliv
.What is the earnings per share on common stock for 2007, (round to two decimal places)? A. P1.92 C. P1.77 B. P1.89 D. P1.42
xlv
.If the market price is P30, what is the price-earnings ratio on common stock for 2007 (round to one decimal point)? A. 17.0 C. 12.4 B. 12.1 D. 15.9
i ii iii
iv v vi vii viii ix x xi xii xiii xiv xv xvi xvii xviii xix
xx xxi xxii xxiii
xxiv xxv xxvi xxvii
xxviii xxix
xxx xxxi
xxxii xxxiii xxxiv xxxv xxxvi xxxvii xxxviii xxxix xl xli xlii xliii xliv xlv
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