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Analysis Of Financial Statements

Instructions:

Answer 50 questions in 15 minutes.
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Match each statement with the correct term.
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1. ________ uses computed ratio values for several time periods and compares them.
Times Interest Earned = EBIT / Interest Expense
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.
Total Asset Turnover = Sales / Total Assets
Trend analysis

2. Explain how financial ratio analysis helps financial managers assess the health of a company.
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
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
Net profit margin
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.

3. How do you calculate return on equity? (This is a Profitability Ratio)
The quick ratio is similar to the current ratio but is a more rigorous measure of liquidity because it excludes inventory from current assets.
Return on Equity = Earnings Available to Common Stockholders / Common Equity
Current Ratio = Current Assets / Current Liabilities
Debt to Total Assets = Total Debt / Total Assets

4. The ___________________________measures how efficiently a firm utilizes its 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
Current Ratio = Current Assets / Current Liabilities
Total asset turnover Ratio
A mixed ratio is a ratio that uses both income statement and balance sheet variables as inputs.

5. Given $20 million in total assets - $14 million in total stockholders' equity - and a debt to total asset ratio of 30 percent for Folson Corporation - what will be the debt to equity ratio?
Total Debt = 0.30 X $20000000 = $6000000 - Debt to Equity ratio = $6000000/$14000000 = 0.43
Net profit margin
Return on equity
Times Interest Earned = EBIT / Interest Expense

6. How do you calculate M/B (market to book ratio)? (This is a Market Value Ratio)
Trend analysis
M/B = Market Price per Share / Book Value per Share
Going concern value
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

7. What does economic value added (EVA) measure?

8. How do you calculate total asset turnover? (This is an Asset Activity Ratio)
Current ratio
Inventory Turnover = Sales / Inventory
Total Asset Turnover = Sales / Total Assets
M/B = Market Price per Share / Book Value per Share

9. How do you calculate the debt to total assets? (This is a Debt Ratio)
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
Debt to Total Assets = Total Debt / Total Assets
Market to book value ratio
Quick Ratio = Current Assets Less Inventory / Current Liabilities

10. In the modified Du Pont equation - ROE is the product of net profit margin - total asset turnover - and the ________________________.
The Du Pont System of ratio analysis examines the relationships between ratios.
Modified Du Pont Equation: ROE = Net Profit Margin x Total Asset Turnover x Equity Multiplier
Current Ratio = Current Assets / Current Liabilities
Equity multiplier

11. The ____________________________measures how much profit out of each sales dollar is left after all expenses are subtracted.
Net profit margin
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.
Quick Ratio = Current Assets Less Inventory / Current Liabilities
Total asset turnover Ratio

12. Explain the difference between the current and the quick ratio.
The quick ratio is similar to the current ratio but is a more rigorous measure of liquidity because it excludes inventory from current assets.
Industry analysis
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.

13. If the net profit margin of Dobie's Dog Hotel is maintained at 20 percent and total asset turnover ratio is .25 - calculate return on assets.
Going concern value
Equity multiplier
Return on Assets = 0.20 X 0.25 = 0.05 = 5%
Debt = $500000 assets - $200000 equity = $300000 $300000 debt

14. Explain trend analysis.

15. 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.
X/2044000 = .3390 x(debt) = 692 -916 - Debt/Equity = 692 -916/1351000 = 51%.
Debt to Total Assets = Total Debt / Total Assets
Debt to Equity = Total Debt / Equity
Times Interest Earned = EBIT / Interest Expense

16. How do you calculate the average collection period? (This is an Asset Activity Ratio)
Net profit margin
Total Debt = 0.30 X $20000000 = $6000000 - Debt to Equity ratio = $6000000/$14000000 = 0.43
Average Collection Period = Accounts Receivable / Average Daily Credit Sales
Return on Assets = 0.20 X 0.25 = 0.05 = 5%

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

18. Which ratios would a potential long-term bond investor be most interested in? Explain.

19. How do you calculate net profit margin? (This is a Profitability Ratio)
Total asset turnover Ratio
Net Profit Margin = Earnings Available to Common Stockholders / Sales
Current Ratio = Current Assets / Current Liabilities
The leverage effect is a result of debt on the balance sheet. By using borrowed funds - the firm can increase its ROE.

20. 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
M/B = Market Price per Share / Book Value per Share
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.

21. The ___________________________measures how many days - on average - the company's credit customers take to pay their accounts.
Return on Assets = 0.20 X 0.25 = 0.05 = 5%
Market Value Ratios measure the market's perception of the future earning power of a company as reflected in the stock share price.
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.
Average collection period

22. How do you calculate EVA?

23. Norman Bates Corporation has total assets of $500000. Its equity is $200000. What is the company's debt to total asset 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.
Debt = $500000 assets - $200000 equity = $300000 $300000 debt
Debt to Equity = Total Debt / 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

24. The ___________________________is the percentage of debt relative to the amount of equity of the firm.
Du Pont Equation: Return on Assets = Net Profit Margin x Total Asset Turnover
Debt to equity ratio
Equity multiplier
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

25. The difference between the firm's future earnings and liquidation value is the _____________________ of the firm.
Going concern value
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
Debt Ratios assess the relative size of a firm's debt load and the firm's ability to pay off the debt.
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

26. What do profitability ratios measure?

27. The ___________________________is the market price per share of a company's common stock divided by the accounting book-value-per-share ratio.
The leverage effect is a result of debt on the balance sheet. By using borrowed funds - the firm can increase its ROE.
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
Market to book value ratio
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

28. Why are M/B and MVA highly correlated?
Return on Assets = 0.20 X 0.25 = 0.05 = 5%
Going concern value
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.
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

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

30. 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.
Credit sales = $4000000
Debt Ratios assess the relative size of a firm's debt load and the firm's ability to pay off the debt.
Current ratio
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.

31. 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
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
Debt Ratios assess the relative size of a firm's debt load and the firm's ability to pay off the debt.
Average collection period

32. How do you calculate P/E? (This is a Market Value Ratio)
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.
Return on Equity = Earnings Available to Common Stockholders / Common Equity
P/E = Market Price per Share / Earnings per Share
Trend analysis

33. How do you calculate the modified du pont equation?
The Du Pont System of ratio analysis examines the relationships between ratios.
Modified Du Pont Equation: ROE = Net Profit Margin x Total Asset Turnover x Equity Multiplier
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
Going concern value

34. 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?
Quick Ratio = Current Assets Less Inventory / Current Liabilities
Debt
Market Value Ratios measure the market's perception of the future earning power of a company as reflected in the stock share price.
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.

35. _________ (Cross-Sectional analysis) judges whether a firm's ratio is too high or too low in comparison with other firms in the industry.
Total Debt = 0.30 X $20000000 = $6000000 - Debt to Equity ratio = $6000000/$14000000 = 0.43
M/B = Market Price per Share / Book Value per Share
Industry analysis
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

36. What does the du pont system of ratio analysis examine?
Current assets - inventory = $50000 - (.5
P/E = Market Price per Share / Earnings per Share
Average collection period
The Du Pont System of ratio analysis examines the relationships between ratios.

37. How do you calculate the current ratio? (This is a Liquidity 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.
Current Ratio = Current Assets / Current Liabilities
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
Debt to Equity = Total Debt / Equity

38. The ___________________compares all the current assets of the firm to all the company's current liabilities.
Credit sales = $4000000
Times Interest Earned = EBIT / Interest Expense
Debt
Current ratio

39. How do you calculate return on assets? (This is a Profitability Ratio)
Return on Assets = Earnings Available to Common Stockholders / Total Assets
P/E = Market Price per Share / Earnings per Share
Asset Activity Ratios measure how efficiently a firm uses its assets.
Average collection period

40. What are debt ratios?

41. What is a mixed ratio?
Quick Ratio = Current Assets Less Inventory / Current Liabilities
Current assets - inventory = $50000 - (.5
A mixed ratio is a ratio that uses both income statement and balance sheet variables as inputs.
The quick ratio is similar to the current ratio but is a more rigorous measure of liquidity because it excludes inventory from current assets.

42. 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 ____________.
Cross-sectional analysis
Return on Assets = 0.20 X 0.25 = 0.05 = 5%
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
Times Interest Earned = EBIT / Interest Expense

43. How do you calculate the quick ratio? (This is a Liquidity Ratio)
Du Pont Equation: Return on Assets = Net Profit Margin x Total Asset Turnover
Quick Ratio = Current Assets Less Inventory / Current Liabilities
The quick ratio is similar to the current ratio but is a more rigorous measure of liquidity because it excludes inventory from current assets.
Modified Du Pont Equation: ROE = Net Profit Margin x Total Asset Turnover x Equity Multiplier

44. Why is the EVA an important new tool in financial analysis?
The quick ratio is similar to the current ratio but is a more rigorous measure of liquidity because it excludes inventory from current assets.
Total Asset Turnover = Sales / Total Assets
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

45. 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
P/E = Market Price per Share / Earnings per Share
Cross-sectional analysis

46. 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?
Return on Equity = Earnings Available to Common Stockholders / Common Equity
Du Pont Equation: Return on Assets = Net Profit Margin x Total Asset Turnover
Total Debt = 0.30 X $20000000 = $6000000 - Debt to Equity ratio = $6000000/$14000000 = 0.43
Current liabilities = $200000 total assets - $180000 LTD & CS = $20000 $50000 current assets

47. What are ratios used to compare?

48. 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?
Inventory Turnover = 5000000/3000000 = 1.67
Du Pont Equation: Return on Assets = Net Profit Margin x Total Asset Turnover
Debt
Debt to Equity = Total Debt / Equity

49. What is meant by the leverage effect?
M/B = Market Price per Share / Book Value per Share
Cross-sectional analysis
Current ratio
The leverage effect is a result of debt on the balance sheet. By using borrowed funds - the firm can increase its ROE.

50. The ____________________________measures the average return on the firm's capital contributions from its owners.
Return on equity
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.
Debt to Total Assets = Total Debt / Total Assets
X/2044000 = .3390 x(debt) = 692 -916 - Debt/Equity = 692 -916/1351000 = 51%.