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Analysis Of Financial Statements

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Answer 50 questions in 15 minutes.
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Match each statement with the correct term.
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1. Umbrella Company has total sales of $4 million. One-fourth of these are credit sales. The amount of accounts receivable is $100000. What is the average collection period for the company? Use a 365-day year.
Debt to Equity = Total Debt / Equity
Debt
Credit sales = $4000000
Quick Ratio = Current Assets Less Inventory / Current Liabilities

2. What do profitability ratios measure?

3. How do you calculate the average collection period? (This is an Asset Activity Ratio)
Market Value Ratios measure the market's perception of the future earning power of a company as reflected in the stock share price.
Average Collection Period = Accounts Receivable / Average Daily Credit Sales
Both focus on the value of the stock: MVA focuses on total market value while M/B focuses on per share stock price and both focus on total invested capital.
Trend analysis

4. What is market value added (MVA)?
Market Value Added (MVA) is the market value of the firm - debt plus equity - minus the total amount of capital invested in the firm and is similar to the market to book (M/B) ratio. MVA - however focuses on total market value and total invested capi
Asset Activity Ratios measure how efficiently a firm uses its assets.
Net Profit Margin = Earnings Available to Common Stockholders / Sales
Inventory turnover ratio

5. What is meant by the leverage effect?
One ratio to a related ratio - The firm's performance to management's goals - The firm's past and present performance - The firm's performance to that of similar firms.
The leverage effect is a result of debt on the balance sheet. By using borrowed funds - the firm can increase its ROE.
Total asset turnover Ratio
EVA = EBIT(1-TR) - (IC x Ka) - Where: EBIT = earnings before interest and taxes - TR = the effective or average income tax rate - IC = invested capital - Ka = investors' required rate of return on their investment.

6. _________ (Cross-Sectional analysis) judges whether a firm's ratio is too high or too low in comparison with other firms in the industry.
Net profit margin
Economic Value Added (EVA) measures the amount of profit remaining after accounting for the return expected by the firm's investors and is said to be an ?estimate of the true economic profit.
Industry analysis
Total Asset Turnover = Sales / Total Assets

7. Umbrella Corporation has total assets of $5 million and an asset turnover ratio of 4. If net income is $2 million - What is the value of the net profit margin?
Return on equity
Total asset turnover Ratio
Total Debt = 0.30 X $20000000 = $6000000 - Debt to Equity ratio = $6000000/$14000000 = 0.43
Sales

8. What is a mixed ratio?
($100000 current assets - inventory)
A mixed ratio is a ratio that uses both income statement and balance sheet variables as inputs.
Current and potential lenders of long-term funds - such as banks and bondholders - are interested in debt ratios. When a business's debt ratios increase significantly - bondholder and lender risk increases because more creditors compete for that firm
Profitability ratios measure how much company revenue is eaten up by expenses - how much a company earns relative to sales generated - and the amount earned relative to the value of the firm's assets and equity.

9. What do asset activity ratios measure?
Market Value Ratios measure the market's perception of the future earning power of a company as reflected in the stock share price.
Asset Activity Ratios measure how efficiently a firm uses its assets.
Current assets - inventory = $50000 - (.5
Times Interest Earned = EBIT / Interest Expense

10. What are ratios used to compare?

11. The difference between the firm's future earnings and liquidation value is the _____________________ of the firm.
Going concern value
Net profit margin
Debt
Return on Assets = Earnings Available to Common Stockholders / Total Assets

12. What do market value ratios measure?

13. Why is the EVA an important new tool in financial analysis?
Total Asset Turnover = Sales / Total Assets
Cross-sectional analysis
It enables the investors to see whether the income earned was sufficient to cover their expected return. It is an estimate of the amount that earnings exceed or fall short of the required minimum rate of return investors could get investing in other
Operating Profit Margin = Earnings before Interest and Taxes / Sales

14. How do you calculate gross profit margin? (This is a Profitability Ratio)
A mixed ratio is a ratio that uses both income statement and balance sheet variables as inputs.
Profitability ratios measure how much company revenue is eaten up by expenses - how much a company earns relative to sales generated - and the amount earned relative to the value of the firm's assets and equity.
Liquidity Ratios measure the ability of a firm to meet its short-term obligations.
Gross Profit Margin = Gross Profit / Sales

15. Why would an analyst use the Modified Du Pont system to calculate ROE when ROE may be calculated more simply? Explain.

16. Norman Bates Corporation has total assets of $500000. Its equity is $200000. What is the company's debt to total asset ratio?
Debt to equity ratio
Debt = $500000 assets - $200000 equity = $300000 $300000 debt
Liquidity Ratios measure the ability of a firm to meet its short-term obligations.
A mixed ratio is a ratio that uses both income statement and balance sheet variables as inputs.

17. The ___________________compares all the current assets of the firm to all the company's current liabilities.
Current ratio
Both focus on the value of the stock: MVA focuses on total market value while M/B focuses on per share stock price and both focus on total invested capital.
Return on Equity = Earnings Available to Common Stockholders / Common Equity
Average Collection Period = Accounts Receivable / Average Daily Credit Sales

18. Given $2 -044000 in total assets - $1 -351000 in total stockholders' equity - and debt-to-total-asset ratio of 33.90% - calculate the debt to equity ratio.
Debt to Total Assets = Total Debt / Total Assets
Return on Equity = Earnings Available to Common Stockholders / Common Equity
X/2044000 = .3390 x(debt) = 692 -916 - Debt/Equity = 692 -916/1351000 = 51%.
It enables the investors to see whether the income earned was sufficient to cover their expected return. It is an estimate of the amount that earnings exceed or fall short of the required minimum rate of return investors could get investing in other

19. What does the du pont system of ratio analysis examine?
The Du Pont System of ratio analysis examines the relationships between ratios.
Times Interest Earned = EBIT / Interest Expense
Average Collection Period = Accounts Receivable / Average Daily Credit Sales
Debt = $500000 assets - $200000 equity = $300000 $300000 debt

20. How do you calculate the debt to total assets? (This is a Debt Ratio)
Debt to Total Assets = Total Debt / Total Assets
Current Ratio = Current Assets / Current Liabilities
Return on Assets = 0.20 X 0.25 = 0.05 = 5%
Debt Ratios assess the relative size of a firm's debt load and the firm's ability to pay off the debt.

21. How do you calculate the current ratio? (This is a Liquidity Ratio)
Market Value Added (MVA) is the market value of the firm - debt plus equity - minus the total amount of capital invested in the firm and is similar to the market to book (M/B) ratio. MVA - however focuses on total market value and total invested capi
Return on Assets = 0.20 X 0.25 = 0.05 = 5%
Current Ratio = Current Assets / Current Liabilities
Net Profit Margin = Earnings Available to Common Stockholders / Sales

22. The ____________________________measures how much profit out of each sales dollar is left after all expenses are subtracted.
Bankers and other lenders use liquidity ratios to see whether to extend short-term credit to a firm. Liquidity ratios measure the ability of a firm to meet its short-term obligations. These ratios are important because failure to pay such obligations
It enables the investors to see whether the income earned was sufficient to cover their expected return. It is an estimate of the amount that earnings exceed or fall short of the required minimum rate of return investors could get investing in other
Net profit margin
Total asset turnover Ratio

23. ________ uses computed ratio values for several time periods and compares them.
Trend analysis
Debt to equity ratio
Economic Value Added (EVA) measures the amount of profit remaining after accounting for the return expected by the firm's investors and is said to be an ?estimate of the true economic profit.
Current liabilities = $200000 total assets - $180000 LTD & CS = $20000 $50000 current assets

24. How do you calculate net profit margin? (This is a Profitability Ratio)
Net Profit Margin = Earnings Available to Common Stockholders / Sales
Average collection period
Market Value Ratios measure the market's perception of the future earning power of a company as reflected in the stock share price.
P/E = Market Price per Share / Earnings per Share

25. How do you calculate the du pont system of ratio analysis?
Economic Value Added (EVA) measures the amount of profit remaining after accounting for the return expected by the firm's investors and is said to be an ?estimate of the true economic profit.
Du Pont Equation: Return on Assets = Net Profit Margin x Total Asset Turnover
It enables the investors to see whether the income earned was sufficient to cover their expected return. It is an estimate of the amount that earnings exceed or fall short of the required minimum rate of return investors could get investing in other
Debt = $500000 assets - $200000 equity = $300000 $300000 debt

26. One way to judge whether a firm's ratio is too high or too low is to compare it to the ratios of other firms in the industry. This is sometimes called ____________.
Debt to Equity = Total Debt / Equity
Actually - an analyst would not use the Modified Du Pont equation to calculate ROE for precisely the reason stated above. What an analyst would use the Modified Du Pont equation for is to help analyze the factors that contribute to a firm's ROE. In o
Cross-sectional analysis
Du Pont Equation: Return on Assets = Net Profit Margin x Total Asset Turnover

27. Jumbo Corp has a quick ratio value of 1.5. It has total current assets of $100000 and total current liabilities of $25000. If sales are $200000 - What is the value of the inventory turnover ratio?
M/B = Market Price per Share / Book Value per Share
($100000 current assets - inventory)
Economic Value Added (EVA) measures the amount of profit remaining after accounting for the return expected by the firm's investors and is said to be an ?estimate of the true economic profit.
Profitability ratios measure how much company revenue is eaten up by expenses - how much a company earns relative to sales generated - and the amount earned relative to the value of the firm's assets and equity.

28. Explain the difference between the current and the quick ratio.
Operating Profit Margin = Earnings before Interest and Taxes / Sales
A financial ratio is a number that expresses the value of one financial variable relative to another. Put more simply - a financial ratio is the result you get when you divide one financial number by another. Calculating an individual ratio is simple
Average Collection Period = Accounts Receivable / Average Daily Credit Sales
The quick ratio is similar to the current ratio but is a more rigorous measure of liquidity because it excludes inventory from current assets.

29. How do you calculate total asset turnover? (This is an Asset Activity Ratio)
The leverage effect is a result of debt on the balance sheet. By using borrowed funds - the firm can increase its ROE.
Total Asset Turnover = Sales / Total Assets
Return on Assets = Earnings Available to Common Stockholders / Total Assets
Debt to Total Assets = Total Debt / Total Assets

30. How do you calculate P/E? (This is a Market Value Ratio)
Ratios are comparative measures. Because the ratios show relative value - they allow financial analysts to compare information that could not be compared in its raw form. For example - ratios may be used to compare one ratio to a related ratio - a fi
Times Interest Earned = EBIT / Interest Expense
P/E = Market Price per Share / Earnings per Share
Going concern value

31. The ___________________________measures how efficiently a firm utilizes its assets.
Equity multiplier
Total asset turnover Ratio
Debt to Total Assets = Total Debt / Total Assets
Current and potential lenders of long-term funds - such as banks and bondholders - are interested in debt ratios. When a business's debt ratios increase significantly - bondholder and lender risk increases because more creditors compete for that firm

32. Boca Corporation has a return on assets ratio of 6 percent. If the debt to total assets ratio is .5 - What is the firm's return on equity?
Debt
Trend analysis helps financial managers and analysts see whether a company's current financial situation is improving or deteriorating. - Cross-sectional analysis - or industry comparison - allows analysts to put the value of a firm's ratios in the c
Debt to Equity = Total Debt / Equity
EVA = EBIT(1-TR) - (IC x Ka) - Where: EBIT = earnings before interest and taxes - TR = the effective or average income tax rate - IC = invested capital - Ka = investors' required rate of return on their investment.

33. Explain how financial ratio analysis helps financial managers assess the health of a company.
It enables the investors to see whether the income earned was sufficient to cover their expected return. It is an estimate of the amount that earnings exceed or fall short of the required minimum rate of return investors could get investing in other
Debt
Financial ratios are numbers that express the value of one financial variable relative to another. They are comparative measures because they show relative value and allow the financial analysts to compare information that could not be compared in it
Total asset turnover Ratio

34. Why are M/B and MVA highly correlated?
M/B = Market Price per Share / Book Value per Share
Both focus on the value of the stock: MVA focuses on total market value while M/B focuses on per share stock price and both focus on total invested capital.
Quick Ratio = Current Assets Less Inventory / Current Liabilities
Cross-sectional analysis

35. The ___________________________is the market price per share of a company's common stock divided by the accounting book-value-per-share ratio.
Asset Activity Ratios measure how efficiently a firm uses its assets.
Market to book value ratio
Sales
Quick Ratio = Current Assets Less Inventory / Current Liabilities

36. The ___________________________is the percentage of debt relative to the amount of equity of the firm.
Going concern value
Return on Equity = Earnings Available to Common Stockholders / Common Equity
Market Value Added (MVA) is the market value of the firm - debt plus equity - minus the total amount of capital invested in the firm and is similar to the market to book (M/B) ratio. MVA - however focuses on total market value and total invested capi
Debt to equity ratio

37. What do liquidity ratios measure?
A mixed ratio is a ratio that uses both income statement and balance sheet variables as inputs.
Financial ratios are numbers that express the value of one financial variable relative to another. They are comparative measures because they show relative value and allow the financial analysts to compare information that could not be compared in it
Current liabilities = $200000 total assets - $180000 LTD & CS = $20000 $50000 current assets
Liquidity Ratios measure the ability of a firm to meet its short-term obligations.

38. How do you calculate inventory turnover? (This is an Asset Activity Ratio)
Debt to Equity = Total Debt / Equity
A mixed ratio is a ratio that uses both income statement and balance sheet variables as inputs.
Inventory Turnover = Sales / Inventory
Modified Du Pont Equation: ROE = Net Profit Margin x Total Asset Turnover x Equity Multiplier

39. Why are trend analysis and industry comparison important to financial ratio analysis?

40. What is a financial ratio?
Actually - an analyst would not use the Modified Du Pont equation to calculate ROE for precisely the reason stated above. What an analyst would use the Modified Du Pont equation for is to help analyze the factors that contribute to a firm's ROE. In o
Gross Profit Margin = Gross Profit / Sales
A financial ratio is a number that expresses the value of one financial variable relative to another. Put more simply - a financial ratio is the result you get when you divide one financial number by another. Calculating an individual ratio is simple
Inventory Turnover = Sales / Inventory

41. The ____________________________measures the average return on the firm's capital contributions from its owners.
Total Asset Turnover = Sales / Total Assets
Modified Du Pont Equation: ROE = Net Profit Margin x Total Asset Turnover x Equity Multiplier
Inventory Turnover = 5000000/3000000 = 1.67
Return on equity

42. Under what circumstances would market to book value ratios be misleading? Explain.
Economic Value Added (EVA) measures the amount of profit remaining after accounting for the return expected by the firm's investors and is said to be an ?estimate of the true economic profit.
The Market to Book ratio is useful - but it is only a rough approximation of how liquidation and going concern values compare. This is because the Market to Book ratio uses accounting-based book values. The actual liquidation value of a firm is likel
Debt
Debt = $500000 assets - $200000 equity = $300000 $300000 debt

43. How do you calculate the debt to equity? (This is a Debt Ratio)
Debt to Equity = Total Debt / Equity
Trend analysis uses ratios to compare a firm's past and present performance.
Sales
A mixed ratio is a ratio that uses both income statement and balance sheet variables as inputs.

44. The ___________________________measures how many days - on average - the company's credit customers take to pay their accounts.
Debt to Equity = Total Debt / Equity
The quick ratio is similar to the current ratio but is a more rigorous measure of liquidity because it excludes inventory from current assets.
Average collection period
Financial ratios are numbers that express the value of one financial variable relative to another. They are comparative measures because they show relative value and allow the financial analysts to compare information that could not be compared in it

45. If total assets are $20 million - noncurrent assets are $2 million - inventory is $3 million - and sales are $5 million for Toronto Brewing Company - what is the inventory turnover ratio?
Times Interest Earned = EBIT / Interest Expense
Inventory Turnover = 5000000/3000000 = 1.67
Total Asset Turnover = Sales / Total Assets
Trend analysis uses ratios to compare a firm's past and present performance.

46. How do you calculate the quick ratio? (This is a Liquidity Ratio)
Quick Ratio = Current Assets Less Inventory / Current Liabilities
Debt
Current Ratio = Current Assets / Current Liabilities
Net profit margin

47. How do you calculate return on assets? (This is a Profitability Ratio)
Market Value Ratios measure the market's perception of the future earning power of a company as reflected in the stock share price.
The Du Pont System of ratio analysis examines the relationships between ratios.
Return on Assets = Earnings Available to Common Stockholders / Total Assets
Modified Du Pont Equation: ROE = Net Profit Margin x Total Asset Turnover x Equity Multiplier

48. If one-half the current assets in ST-2 consist of inventory - What is the value of the quick ratio?
EVA = EBIT(1-TR) - (IC x Ka) - Where: EBIT = earnings before interest and taxes - TR = the effective or average income tax rate - IC = invested capital - Ka = investors' required rate of return on their investment.
The leverage effect is a result of debt on the balance sheet. By using borrowed funds - the firm can increase its ROE.
Current assets - inventory = $50000 - (.5
Operating Profit Margin = Earnings before Interest and Taxes / Sales

49. Why do analysts calculate financial ratios?
Ratios are comparative measures. Because the ratios show relative value - they allow financial analysts to compare information that could not be compared in its raw form. For example - ratios may be used to compare one ratio to a related ratio - a fi
Trend analysis
Bankers and other lenders use liquidity ratios to see whether to extend short-term credit to a firm. Liquidity ratios measure the ability of a firm to meet its short-term obligations. These ratios are important because failure to pay such obligations
Current assets - inventory = $50000 - (.5

50. Malpaso Company has current assets of $50000. Total assets are $200000; and longterm liabilities and common stock collectively total $180000. What is the value of the current ratio?
Debt
Actually - an analyst would not use the Modified Du Pont equation to calculate ROE for precisely the reason stated above. What an analyst would use the Modified Du Pont equation for is to help analyze the factors that contribute to a firm's ROE. In o
Current liabilities = $200000 total assets - $180000 LTD & CS = $20000 $50000 current assets
One ratio to a related ratio - The firm's performance to management's goals - The firm's past and present performance - The firm's performance to that of similar firms.