Chap028.pdf

Chapter 28 - Financial Analysis

Chapter 28 Financial Analysis Multiple Choice Questions

1. The following groups are stakeholders of a public company: I) Shareholders II) The government III) Suppliers IV) Employees V) Bondholders VI) Management A. I and II only B. I, II, and III only C. I, II, III, and IV only D. I, II, III, IV, V, and VI

2. In the U.S.A. and the U.K. laws and accounting procedures are designed, generally, to benefit the: A. Shareholders B. Managers C. Creditors D. Employees

3. German laws and accounting procedures are designed, generally, to protect interests of the: A. Shareholders B. Managers C. Creditors D. Employees

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4. Assets are listed on the balance sheet in order of: I) Decreasing liquidity II) Decreasing size III) Increasing size IV) Relative life A. I only B. III and IV only C. II only D. IV only

5. The following are known as current assets: I) Cash II) Marketable securities III) Receivables IV) Inventories V) Payables A. I, II and III only B. I, II, III and IV only C. II, III, IV and V only D. III, IV and V only

6. The difference between Total Assets of a firm and its Total Liabilities is called. A. Net working capital B. Net current assets C. Net worth D. None of the above

7. Inventory consists of: A. finished goods B. raw material and finished goods C. raw material, work in process, and finished goods D. none of the above

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8. The difference between Current Assets of a firm and its Current Liabilities is called. A. Net worth B. Net working capital C. Gross working capital D. None of the above

9. Net working capital (NWC) is calculated as: A. Total assets-total liabilities B. Current assets + current liabilities C. Current assets-current liabilities D. None of the above

10. Earnings before interest and taxes is calculated as: A. Total revenues-costs B. Total revenues-costs-depreciation C. Total revenues-costs-depreciation-taxes D. None of the above

11. Total uses of funds are calculated as: A. investments in net working capital + investments in fixed assets B. investments in fixed assets + dividend paid to shareholders C. investments in net working capital + investments in fixed assets + dividend paid to shareholders D. investments in net working capital + investments in fixed assets-dividend paid to shareholders

12. Total sources of funds are calculated as: A. operating cash flows + new issues of equity B. operating cash flows + new issues of equity + new issues of long-term debt C. operating cash flows + new issues of equity-new issues of long-term debt D. operating cash flows + new issues of equity-dividend paid to shareholders

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13. If the debt ratio is 0.5 what is the debt-equity ratio? (assume no leases) A. 0.5 B. 1.0 C. 2.0 D. 4.0

14. Which of the following is an example of leverage ratios? A. Debt-Equity ratio B. Quick ratio C. Payout ratio D. Return on equity

15. Given the following data: Long term debt = 100; Value of leases = 20; Book value of equity = 80; Market value of equity = 100, calculate the debt ratio. A. 0.56 B. 0.50 C. 0.55 D. 0.60

16. Given the following data: Long term debt = 100; Value of leases = 20; Book value of equity = 80; Market value of equity = 100, calculate the debt-equity ratio. A. 0.50 B. 0.60 C. 1.50 D. 1.0

17. Given the following data: EBIT = 100; Depreciation = 40; Interest = 20; Dividends = 10; calculate the Times Interest Earned (TIE) ratio. A. 7.0 B. 5.0 C. 4.7 D. 14.0

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18. Which of the following is an example of liquidity ratios? A. Times interest earned (TIE) B. P/E ratio C. Return on equity D. Quick ratio

19. Given the following data: Current assets = 500; Current liabilities = 250; Inventory = 200; Account receivables = 200; calculate the current ratio: A. 2.0 B. 1.0 C. 1.5 D. None of the above

20. Given the following data: Current assets = 500; Current liabilities = 250; Inventory = 200; Account receivables = 200; calculate the quick ratio: A. 1.0 B. 2.0 C. 1.2 D. None of the above

21. Given the following data: Current assets = 500; Current liabilities = 250; Inventory = 200; Account receivables = 200; calculate the cash ratio: (assume that the firm has no marketable securities) A. 0.4 B. 2.0 C. 1.5 D. None of the above

22. Given the following data: Sales = 3200; Cost of goods sold = 1600; Average total assets = 1600; Average inventory = 200, calculate the asset turnover ratio: A. 2.0 B. 0.9375 C. 1.33 D. None of the above

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23. Given the following data: Sales = 3200; Cost of goods sold = 1600; Average total assets = 1600; Average inventory = 200, calculate the days in inventory: A. 18.3 B. 45.6 C. 22.8 D. None of the above

24. Given the following data: Sales = 3200; Cost of good sold = 1600; Average receivables = 200, calculate the average collection period: A. 24.3 B. 22.8 C. 137 D. None of the above

25. When a firm improves (lowers) its days in inventories it generally: A. Requires additional cash investment in inventory B. Releases cash locked up in inventory C. Does not alter its cash position D. A firm cannot reduce its inventories

26. When a firm improves (lowers) its average collection period it generally: A. Requires additional cash investment in inventory B. Releases cash locked up in accounts receivables C. Does not alter its cash position D. A firm cannot reduce its inventories

27. Given the following data: EBIT = 400; Tax = 100; Sales = 3000; Average Total Assets = 1500, calculate net profit margin: A. 10% B. 18.3% C. 7.5% D. None of the above

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28. Given the following data: EBIT = 400; Tax = 100; Sales = 3000; Average Total Assets = 1500, calculate the ROA (Return on Assets): A. 10% B. 20% C. 7.5% D. None of the above

29. Net profit margin is calculated as: A. (EBIT-tax)/Sales B. Net income/sales C. Net income/Cost of goods sold D. none of the above

30. Given the following data: EBIT = 400; NI = 100; Average Equity = 1000, calculate the ROE (Return on Equity): A. 10% B. 12% C. 7.5% D. None of the above

31. Given the following data: Earnings per share = $5; Dividends per share = $3; Price per share = $50. calculate the dividend yield: A. 10% B. 5% C. 60% D. None of the above

32. Given the following data: Earnings per share = $6; Dividends per share = $3; Price per share = $60, calculate the P/E ratio: A. 16.7 B. 10 C. 25 D. None of the above

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33. Given the following data: Earnings per share = $5; Dividends per share = $3; Price per share = $50. Calculate the payout ratio: A. 10% B. 5% C. 60% D. None of the above

34. Which measure would be most useful in comparing the operating profitability of two firms in different industries? A. Net profit margin B. Return on equity C. Sales to total assets D. Return on assets

35. Efficiency ratios indicate: I) How productively is the firm utilizing its assets. II) How liquid is the firm. III) How profitable is the firm. IV) How highly is the firm valued by investors. A. I only B. II only C. III only D. III and IV only

36. Profitability ratios indicate: I) How productively is the firm utilizing its assets. II) How liquid is the firm. III) How profitable is the firm. IV) How highly is the firm valued by the investors. A. I only B. II only C. III only D. III and IV only

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37. Market value ratios indicate: I) How productively is the firm utilizing its assets. II) How liquid is the firm. III) How profitable is the firm. IV) How highly is the firm valued by the investors. A. I only B. II only C. II and III only D. IV only

38. Which of the following factors would be influential in a typical financial plan? I) how a firm can generate superior long-term returns II) choice of industry III) position within the industry A. I only B. I and II only C. II and III only D. I, II and III

39. Given a book value per share of $10 and a market value of $24, what is the market capitalization of a firm with 2,000,000 outstanding shares? A. $2,000,000 B. $20,000,000 C. $28,000,000 D. $48,000,000

40. Given a book value per share of $5 and a market value of $12, what is the market value added of a firm with 2,000,000 outstanding shares? A. $1,000,000 B. $10,000,000 C. $14,000,000 D. $24,000,000

True / False Questions

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41. Net working capital is equal to total assets minus total liabilities. True False

42. Total uses of funds is equal to investments in net working capital plus investments in fixed assets plus dividends paid to shareholders. True False

43. Leverage ratios show how heavily the company is in debt. True False

44. Ratios can help you to ask the right questions, they rarely answer these questions. True False

45. Efficiency ratios indicate how productively the company is using its assets to generate profits. True False

46. Market value ratios indicate how highly the firm is valued by the managers. True False

47. P/E ratio measures the price that investors are prepared to for each dollar of earnings. True False

48. According to the Du Pont system: True False

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49. The calculation of market value added for a firm requires the use of the book value per share. True False

50. ROA can be increased by increasing asset turnover.

True False

Short Answer Questions

51. Briefly explain the relationship between accounting standards and the legal traditions.

52. What are the three basic financial statements?

53. How are "uses and sources" of funds are calculated?

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54. What are the common ratios used to measure liquidity of a firm?

55. Briefly explain the different categories of financial ratios.

56. What are the primary reasons for a company to use debt in its capital structure?

57. Discuss the DuPont system.

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58. Why is liquidity relevant?

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Chapter 28 Financial Analysis Answer Key

Multiple Choice Questions

1. The following groups are stakeholders of a public company: I) Shareholders II) The government III) Suppliers IV) Employees V) Bondholders VI) Management A. I and II only B. I, II, and III only C. I, II, III, and IV only D. I, II, III, IV, V, and VI

Type: Easy

2. In the U.S.A. and the U.K. laws and accounting procedures are designed, generally, to benefit the: A. Shareholders B. Managers C. Creditors D. Employees

Type: Medium

3. German laws and accounting procedures are designed, generally, to protect interests of the: A. Shareholders B. Managers C. Creditors D. Employees

Type: Medium

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4. Assets are listed on the balance sheet in order of: I) Decreasing liquidity II) Decreasing size III) Increasing size IV) Relative life A. I only B. III and IV only C. II only D. IV only

Type: Easy

5. The following are known as current assets: I) Cash II) Marketable securities III) Receivables IV) Inventories V) Payables A. I, II and III only B. I, II, III and IV only C. II, III, IV and V only D. III, IV and V only

Type: Easy

6. The difference between Total Assets of a firm and its Total Liabilities is called. A. Net working capital B. Net current assets C. Net worth D. None of the above

Type: Easy

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7. Inventory consists of: A. finished goods B. raw material and finished goods C. raw material, work in process, and finished goods D. none of the above

Type: Easy

8. The difference between Current Assets of a firm and its Current Liabilities is called. A. Net worth B. Net working capital C. Gross working capital D. None of the above

Type: Easy

9. Net working capital (NWC) is calculated as: A. Total assets-total liabilities B. Current assets + current liabilities C. Current assets-current liabilities D. None of the above

Type: Medium

10. Earnings before interest and taxes is calculated as: A. Total revenues-costs B. Total revenues-costs-depreciation C. Total revenues-costs-depreciation-taxes D. None of the above

Type: Easy

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11. Total uses of funds are calculated as: A. investments in net working capital + investments in fixed assets B. investments in fixed assets + dividend paid to shareholders C. investments in net working capital + investments in fixed assets + dividend paid to shareholders D. investments in net working capital + investments in fixed assets-dividend paid to shareholders

Type: Medium

12. Total sources of funds are calculated as: A. operating cash flows + new issues of equity B. operating cash flows + new issues of equity + new issues of long-term debt C. operating cash flows + new issues of equity-new issues of long-term debt D. operating cash flows + new issues of equity-dividend paid to shareholders

Type: Medium

13. If the debt ratio is 0.5 what is the debt-equity ratio? (assume no leases) A. 0.5 B. 1.0 C. 2.0 D. 4.0 Debt ratio = D/(D + E) = 0.5, D/E = 1

Type: Medium

14. Which of the following is an example of leverage ratios? A. Debt-Equity ratio B. Quick ratio C. Payout ratio D. Return on equity

Type: Easy

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15. Given the following data: Long term debt = 100; Value of leases = 20; Book value of equity = 80; Market value of equity = 100, calculate the debt ratio. A. 0.56 B. 0.50 C. 0.55 D. 0.60 Debt ratio = (100 + 20)/(100 + 20 + 80) = 0.6

Type: Medium

16. Given the following data: Long term debt = 100; Value of leases = 20; Book value of equity = 80; Market value of equity = 100, calculate the debt-equity ratio. A. 0.50 B. 0.60 C. 1.50 D. 1.0 D/E = 120/80 = 1.5

Type: Medium

17. Given the following data: EBIT = 100; Depreciation = 40; Interest = 20; Dividends = 10; calculate the Times Interest Earned (TIE) ratio. A. 7.0 B. 5.0 C. 4.7 D. 14.0 TIE = (100 + 40)/20 = 7

Type: Medium

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18. Which of the following is an example of liquidity ratios? A. Times interest earned (TIE) B. P/E ratio C. Return on equity D. Quick ratio

Type: Easy

19. Given the following data: Current assets = 500; Current liabilities = 250; Inventory = 200; Account receivables = 200; calculate the current ratio: A. 2.0 B. 1.0 C. 1.5 D. None of the above Current Ratio = 500/250 = 2.0

Type: Medium

20. Given the following data: Current assets = 500; Current liabilities = 250; Inventory = 200; Account receivables = 200; calculate the quick ratio: A. 1.0 B. 2.0 C. 1.2 D. None of the above Quick ratio = (500 - 200)/250 = 1.2

Type: Medium

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21. Given the following data: Current assets = 500; Current liabilities = 250; Inventory = 200; Account receivables = 200; calculate the cash ratio: (assume that the firm has no marketable securities) A. 0.4 B. 2.0 C. 1.5 D. None of the above Cash ratio = (500 - 200 - 200)/250 = 0.4

Type: Medium

22. Given the following data: Sales = 3200; Cost of goods sold = 1600; Average total assets = 1600; Average inventory = 200, calculate the asset turnover ratio: A. 2.0 B. 0.9375 C. 1.33 D. None of the above Asset turnover ratio = 3200/1600 = 2.0

Type: Medium

23. Given the following data: Sales = 3200; Cost of goods sold = 1600; Average total assets = 1600; Average inventory = 200, calculate the days in inventory: A. 18.3 B. 45.6 C. 22.8 D. None of the above Days in inventory = 200/(1600/365) = 45.6 days

Type: Medium

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24. Given the following data: Sales = 3200; Cost of good sold = 1600; Average receivables = 200, calculate the average collection period: A. 24.3 B. 22.8 C. 137 D. None of the above Average collection period = 200/(3200/365) = 22.8 days

Type: Medium

25. When a firm improves (lowers) its days in inventories it generally: A. Requires additional cash investment in inventory B. Releases cash locked up in inventory C. Does not alter its cash position D. A firm cannot reduce its inventories

Type: Medium

26. When a firm improves (lowers) its average collection period it generally: A. Requires additional cash investment in inventory B. Releases cash locked up in accounts receivables C. Does not alter its cash position D. A firm cannot reduce its inventories

Type: Medium

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27. Given the following data: EBIT = 400; Tax = 100; Sales = 3000; Average Total Assets = 1500, calculate net profit margin: A. 10% B. 18.3% C. 7.5% D. None of the above Net profit margin = (400 - 100)/3000 = 0.1 = 10%

Type: Medium

28. Given the following data: EBIT = 400; Tax = 100; Sales = 3000; Average Total Assets = 1500, calculate the ROA (Return on Assets): A. 10% B. 20% C. 7.5% D. None of the above ROA = (400 - 100)/1500 = 20%

Type: Medium

29. Net profit margin is calculated as: A. (EBIT-tax)/Sales B. Net income/sales C. Net income/Cost of goods sold D. none of the above

Type: Medium

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30. Given the following data: EBIT = 400; NI = 100; Average Equity = 1000, calculate the ROE (Return on Equity): A. 10% B. 12% C. 7.5% D. None of the above ROE = NI/Average Equity = 100/1000 = 10%

Type: Medium

31. Given the following data: Earnings per share = $5; Dividends per share = $3; Price per share = $50. calculate the dividend yield: A. 10% B. 5% C. 60% D. None of the above Dividend yield = 3/60 = 5%

Type: Easy

32. Given the following data: Earnings per share = $6; Dividends per share = $3; Price per share = $60, calculate the P/E ratio: A. 16.7 B. 10 C. 25 D. None of the above P/E ratio = 60/6 = 10

Type: Easy

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33. Given the following data: Earnings per share = $5; Dividends per share = $3; Price per share = $50. Calculate the payout ratio: A. 10% B. 5% C. 60% D. None of the above Dividend yield = 3/5 = 60%

Type: Easy

34. Which measure would be most useful in comparing the operating profitability of two firms in different industries? A. Net profit margin B. Return on equity C. Sales to total assets D. Return on assets

Type: Difficult

35. Efficiency ratios indicate: I) How productively is the firm utilizing its assets. II) How liquid is the firm. III) How profitable is the firm. IV) How highly is the firm valued by investors. A. I only B. II only C. III only D. III and IV only

Type: Easy

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36. Profitability ratios indicate: I) How productively is the firm utilizing its assets. II) How liquid is the firm. III) How profitable is the firm. IV) How highly is the firm valued by the investors. A. I only B. II only C. III only D. III and IV only

Type: Easy

37. Market value ratios indicate: I) How productively is the firm utilizing its assets. II) How liquid is the firm. III) How profitable is the firm. IV) How highly is the firm valued by the investors. A. I only B. II only C. II and III only D. IV only

Type: Easy

38. Which of the following factors would be influential in a typical financial plan? I) how a firm can generate superior long-term returns II) choice of industry III) position within the industry A. I only B. I and II only C. II and III only D. I, II and III

Type: Medium

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39. Given a book value per share of $10 and a market value of $24, what is the market capitalization of a firm with 2,000,000 outstanding shares? A. $2,000,000 B. $20,000,000 C. $28,000,000 D. $48,000,000 24 x 2,000,000 = 48,000,000

Type: Medium

40. Given a book value per share of $5 and a market value of $12, what is the market value added of a firm with 2,000,000 outstanding shares? A. $1,000,000 B. $10,000,000 C. $14,000,000 D. $24,000,000 (12 - 5) x 2,000,000 = 14,000,000

Type: Medium

True / False Questions

41. Net working capital is equal to total assets minus total liabilities. FALSE

Type: Easy

42. Total uses of funds is equal to investments in net working capital plus investments in fixed assets plus dividends paid to shareholders. TRUE

Type: Medium

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43. Leverage ratios show how heavily the company is in debt. TRUE

Type: Easy

44. Ratios can help you to ask the right questions, they rarely answer these questions. TRUE

Type: Easy

45. Efficiency ratios indicate how productively the company is using its assets to generate profits. FALSE

Type: Difficult

46. Market value ratios indicate how highly the firm is valued by the managers. FALSE

Type: Medium

47. P/E ratio measures the price that investors are prepared to for each dollar of earnings. TRUE

Type: Medium

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48. According to the Du Pont system: TRUE ROE = (assets/equity) × (sales/assets) × [(EBIT - Tax)/sales] × [(EBIT - Tax - Interest)/(EBIT - Tax)]

Type: Medium

49. The calculation of market value added for a firm requires the use of the book value per share. TRUE

Type: Medium

50. ROA can be increased by increasing asset turnover.

TRUE

Type: Medium

Short Answer Questions

51. Briefly explain the relationship between accounting standards and the legal traditions. Generally, companies from countries with English or Scandinavian legal traditions provide more accounting information and have higher accounting standards than companies from countries with French or German legal traditions.

Type: Medium

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52. What are the three basic financial statements? The three basic financial statements are the balance sheet, the income statement, and the sources and uses of funds.

Type: Easy

53. How are "uses and sources" of funds are calculated? Sources and uses of funds are calculated as follows: Total uses of funds = Investment in net working capital + investment in fixed assets + dividends paid to shareholders Total sources of funds = operating cash flow + new issues of long-term debt + new issues of equity

Type: Medium

54. What are the common ratios used to measure liquidity of a firm? The ratios commonly used to measure liquidity are the current ratio, quick ratio, and cash ratio.

Type: Medium

55. Briefly explain the different categories of financial ratios. There are five categories of financial ratios. They are: leverage ratios, liquidity ratios, efficiency ratios, profitability ratios, and market value ratios.

Type: Easy

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56. What are the primary reasons for a company to use debt in its capital structure? Companies use debt for two main reasons: (a) debt is less expensive due to the taxdeductibility of interest charges, and (b) the use of debt does not dilute shareholders' equity position.

Type: Difficult

57. Discuss the DuPont system. The DuPont system is a quick way of looking at the performance of a firm or a division. ROA and ROE can be thought of as comprising of several ratios and hence provide some useful information about the interaction of these ratios.

Type: Medium

58. Why is liquidity relevant? Firms have a need to convert assets into cash quickly. This is necessary to meet short term obligations. Without liquidity, even the most short term loans could force a company into bankruptcy.

Type: Medium

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