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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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This is a study tool. The 3 wrong answers for each question are randomly chosen from answers to other questions. So, you might find at times the answers obvious, but you will see it re-enforces your understanding as you take the test each time.

1. Norman Bates Corporation has total assets of $500000. Its equity is $200000. What is the company's debt to total asset ratio?
Debt = $500000 assets - $200000 equity = $300000 $300000 debt
Current assets - inventory = $50000 - (.5
Return on Equity = Earnings Available to Common Stockholders / Common Equity
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.

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

3. 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
Industry 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
Cross-sectional analysis

4. What do market value ratios measure?

5. The ____________________________measures the average return on the firm's capital contributions from its owners.
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.
Current liabilities = $200000 total assets - $180000 LTD & CS = $20000 $50000 current assets
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
Return on equity

6. In the modified Du Pont equation - ROE is the product of net profit margin - total asset turnover - and the ________________________.
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
Equity multiplier
Net profit margin
Trend analysis

7. Explain the difference between the current and the quick 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
Current Ratio = Current Assets / Current Liabilities
Current assets - inventory = $50000 - (.5
The quick ratio is similar to the current ratio but is a more rigorous measure of liquidity because it excludes inventory from current assets.

8. 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?
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
Inventory Turnover = 5000000/3000000 = 1.67
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
Industry analysis

9. Explain trend analysis.

10. Why do analysts calculate financial ratios?
Return on Equity = Earnings Available to Common Stockholders / Common Equity
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
Quick Ratio = Current Assets Less Inventory / Current Liabilities

11. What is a mixed ratio?
Debt to equity ratio
A mixed ratio is a ratio that uses both income statement and balance sheet variables as inputs.
Going concern value
Current Ratio = Current Assets / Current Liabilities

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

13. How do you calculate operating profit margin? (This is a Profitability Ratio)
Operating Profit Margin = Earnings before Interest and Taxes / Sales
Debt = $500000 assets - $200000 equity = $300000 $300000 debt
Trend analysis
The Du Pont System of ratio analysis examines the relationships between ratios.

14. How do you calculate times interest earned? (This is a Debt Ratio)
Times Interest Earned = EBIT / Interest Expense
Current Ratio = Current Assets / Current Liabilities
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
Current assets - inventory = $50000 - (.5

15. How do you calculate EVA?

16. How do you calculate the average collection period? (This is an Asset Activity Ratio)
Average Collection Period = Accounts Receivable / Average Daily Credit Sales
Operating Profit Margin = Earnings before Interest and Taxes / Sales
Market to book value ratio
Current Ratio = Current Assets / Current Liabilities

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

18. What does the du pont system of ratio analysis examine?
Going concern value
The Du Pont System of ratio analysis examines the relationships between ratios.
M/B = Market Price per Share / Book Value per Share
Inventory Turnover = Sales / Inventory

19. 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?
Gross Profit Margin = Gross Profit / Sales
Current liabilities = $200000 total assets - $180000 LTD & CS = $20000 $50000 current assets
P/E = Market Price per Share / Earnings per Share
X/2044000 = .3390 x(debt) = 692 -916 - Debt/Equity = 692 -916/1351000 = 51%.

20. Why are M/B and MVA highly correlated?
Return on Assets = Earnings Available to Common Stockholders / Total Assets
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.
Current Ratio = Current Assets / Current Liabilities
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

21. What are ratios used to compare?

22. How do you calculate the modified du pont equation?
X/2044000 = .3390 x(debt) = 692 -916 - Debt/Equity = 692 -916/1351000 = 51%.
Modified Du Pont Equation: ROE = Net Profit Margin x Total Asset Turnover x Equity Multiplier
Inventory Turnover = 5000000/3000000 = 1.67
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

23. The difference between the firm's future earnings and liquidation value is the _____________________ of the firm.
Average Collection Period = Accounts Receivable / Average Daily Credit Sales
The leverage effect is a result of debt on the balance sheet. By using borrowed funds - the firm can increase its ROE.
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

24. Why is the EVA an important new tool in financial 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
Current assets - inventory = $50000 - (.5
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
P/E = Market Price per Share / Earnings per Share

25. What do liquidity ratios measure?
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
P/E = Market Price per Share / Earnings per Share
Liquidity Ratios measure the ability of a firm to meet its short-term obligations.
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

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

27. If one-half the current assets in ST-2 consist of inventory - What is the value of the quick ratio?
Current assets - inventory = $50000 - (.5
Gross Profit Margin = Gross Profit / Sales
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 Debt = 0.30 X $20000000 = $6000000 - Debt to Equity ratio = $6000000/$14000000 = 0.43

28. 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?
Modified Du Pont Equation: ROE = Net Profit Margin x Total Asset Turnover x Equity Multiplier
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
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
Sales

29. How do you calculate net profit margin? (This is a Profitability Ratio)
Operating Profit Margin = Earnings before Interest and Taxes / Sales
Net Profit Margin = Earnings Available to Common Stockholders / Sales
Inventory Turnover = Sales / Inventory
Return on Assets = Earnings Available to Common Stockholders / Total Assets

30. What are debt ratios?

31. The ____________________________measures how much profit out of each sales dollar is left after all expenses are subtracted.
Liquidity Ratios measure the ability of a firm to meet its short-term obligations.
Net Profit Margin = Earnings Available to Common Stockholders / Sales
Total Asset Turnover = Sales / Total Assets
Net profit margin

32. Which ratios would a banker be most interested in when considering whether to approve an application for a short-term business loan? Explain.
Going concern value
Debt to Total Assets = Total Debt / Total Assets
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
M/B = Market Price per Share / Book Value per Share

33. The ___________________________tells us how efficiently the firm converts inventory to sales.
Inventory turnover ratio
X/2044000 = .3390 x(debt) = 692 -916 - Debt/Equity = 692 -916/1351000 = 51%.
Inventory Turnover = 5000000/3000000 = 1.67
Average collection period

34. What is meant by the leverage effect?
Current assets - inventory = $50000 - (.5
The leverage effect is a result of debt on the balance sheet. By using borrowed funds - the firm can increase its ROE.
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
Trend analysis

35. The ___________________compares all the current assets of the firm to all the company's current liabilities.
Current liabilities = $200000 total assets - $180000 LTD & CS = $20000 $50000 current assets
Current ratio
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
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.

36. How do you calculate the debt to equity? (This is a Debt Ratio)
Total Asset Turnover = Sales / Total Assets
Debt to Equity = Total Debt / Equity
Current assets - inventory = $50000 - (.5
Trend analysis

37. The ___________________________is the market price per share of a company's common stock divided by the accounting book-value-per-share ratio.
Return on equity
Total Asset Turnover = Sales / Total Assets
Equity multiplier
Market to book value ratio

38. How do you calculate the quick ratio? (This is a Liquidity Ratio)
Quick Ratio = Current Assets Less Inventory / Current Liabilities
Gross Profit Margin = Gross Profit / Sales
The Du Pont System of ratio analysis examines the relationships between ratios.
Times Interest Earned = EBIT / Interest Expense

39. 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.
Total Asset Turnover = Sales / Total Assets
X/2044000 = .3390 x(debt) = 692 -916 - Debt/Equity = 692 -916/1351000 = 51%.
Modified Du Pont Equation: ROE = Net Profit Margin x Total Asset Turnover x Equity Multiplier
Inventory turnover ratio

40. How do you calculate inventory turnover? (This is an Asset Activity 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
Current Ratio = Current Assets / Current Liabilities
Inventory Turnover = Sales / Inventory
Return on Assets = Earnings Available to Common Stockholders / Total Assets

41. How do you calculate P/E? (This is a Market Value Ratio)
P/E = Market Price per Share / Earnings per Share
Asset Activity Ratios measure how efficiently a firm uses its assets.
Liquidity Ratios measure the ability of a firm to meet its short-term obligations.
Inventory Turnover = Sales / Inventory

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 ____________.
Credit sales = $4000000
Cross-sectional analysis
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.

43. 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.
Du Pont Equation: Return on Assets = Net Profit Margin x Total Asset Turnover
Return on Assets = 0.20 X 0.25 = 0.05 = 5%
Total asset turnover Ratio
Inventory Turnover = 5000000/3000000 = 1.67

44. How do you calculate M/B (market to book ratio)? (This is a Market Value Ratio)
Inventory Turnover = 5000000/3000000 = 1.67
Trend analysis uses ratios to compare a firm's past and present performance.
Going concern value
M/B = Market Price per Share / Book Value per Share

45. What do asset activity ratios measure?
Asset Activity Ratios measure how efficiently a firm uses its assets.
Modified Du Pont Equation: ROE = Net Profit Margin x Total Asset Turnover x Equity Multiplier
Gross Profit Margin = Gross Profit / Sales
Debt to equity ratio

46. 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
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 assets - inventory = $50000 - (.5
Debt to Total Assets = Total Debt / Total Assets

47. How do you calculate return on assets? (This is a Profitability Ratio)
Return on Assets = Earnings Available to Common Stockholders / Total Assets
Inventory Turnover = Sales / Inventory
Du Pont Equation: Return on Assets = Net Profit Margin x Total Asset Turnover
Quick Ratio = Current Assets Less Inventory / Current Liabilities

48. How do you calculate the du pont system of ratio analysis?
Average collection period
Quick Ratio = Current Assets Less Inventory / Current Liabilities
Du Pont Equation: Return on Assets = Net Profit Margin x Total Asset Turnover
Net profit margin

49. What do profitability ratios measure?

50. Under what circumstances would market to book value ratios be misleading? Explain.
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
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
Industry analysis
Debt to equity ratio