Financial Statement Analysis

Multiple Choice Questions 1. A firm has a higher quick (or acid test) ratio than the industry average, which implies. A. the firm has a higher P/ ratio than other firms in the industry. !. the firm is more likely to avoid insolvency in short run than other firms in the industry. ". the firm may #e less profita#le than other firms in the industry. $. A and !. E. ! and ". "urrent assets earn less than fi%ed assets& thus, a firm with a relatively high level of current assets may #e less profita#le than other firms. 'owever, its high level of current assets makes it more liquid.

Difficulty: Easy

(. A firm has a lower quick (or acid test) ratio than the industry average, which implies. A. the firm has a lower P/ ratio than other firms in the industry. !. the firm is less likely to avoid insolvency in short run than other firms in the industry. ". the firm may #e more profita#le than other firms in the industry. $. A and !. E. ! and ". "urrent assets earn less than fi%ed assets& thus, a firm with a relatively low level of current assets may #e more profita#le than other firms. 'owever, its low level of current assets makes it less liquid.

Difficulty: Easy

1)*1

+. An e%ample of a liquidity ratio is ,,,,,,,. A. fi%ed asset turnover !. current ratio ". acid test or quick ratio $. A and " E. ! and " !oth ! and " are measures of liquidity& A relates to fi%ed assets.

Difficulty: Easy

-. ,,,,,,,,,, a snapshot of the financial condition of the firm at a particular time. A. .he #alance sheet provides !. .he income statement provides ". .he statement of cash flows provides $. All of the a#ove provide . /one of the a#ove provides .he #alance sheet is statement of assets, lia#ilities, and equity at one point in time.

Difficulty: Easy

0. ,,,,,,,,,, of the cash flow generated #y the firm1s operations, investments and financial activities. A. .he #alance sheet is a report !. .he income statement is a report C. .he statement of cash flows is a report $. the auditor1s statement of financial condition . /one of the a#ove is a report 2nly statement " is correct& the #alance sheet reports assets, lia#ilities, and equity at a point in time& the income statement is a summary of earnings over a period of time.

Difficulty: Easy

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3. A firm has a higher asset turnover ratio than the industry average, which implies A. the firm has a higher P/ ratio than other firms in the industry. !. the firm is more likely to avoid insolvency in the short run than other firms in the industry. ". the firm is more profita#le than other firms in the industry. D. the firm is utili4ing assets more efficiently than other firms in the industry. . the firm has higher spending on new fi%ed assets than other firms in the industry. .he higher the asset turnover ratio the more efficiently the firm is using assets.

Difficulty: Easy

5. A firm has a lower asset turnover ratio than the industry average, which implies A. the firm has a lower P/ ratio than other firms in the industry. !. the firm is less likely to avoid insolvency in the short run than other firms in the industry. ". the firm is less profita#le than other firms in the industry. D. the firm is utili4ing assets less efficiently than other firms in the industry. . the firm has lower spending on new fi%ed assets than other firms in the industry. .he lower the asset turnover ratio the less efficiently the firm is using assets.

Difficulty: Easy

6. 7f you wish to compute economic earnings and are trying to decide how to account for inventory, ,,,,,,,. A. 8782 is #etter than 9782 B. 9782 is #etter than 8782 ". 8782 and 9782 are equally good $. 8782 and 9782 are equally #ad . none of the a#ove 9782 reflects the current cost of goods sold, and thus is a #etter determinant of economic earnings.

Difficulty: Easy

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). ,,,,,,,,,, of the profita#ility of the firm over a period of time such as a year. A. .he #alance sheet is a summary B. .he income statement is a summary ". .hat statement of cash flows is a summary $. .he audit report is a summary . /one of the a#ove is a summary .he income statement summari4es revenues and e%penses over a period of time.

Difficulty: Easy

1:. ;iven the results of the study #y "layman, you would ,,,,,,,,,, the stocks of firms with high <2 s and ,,,,,,,,,, the stocks of firms with low <2 s. A. want to #uy, want to #uy !. want to #uy, not want to #uy C. not want to #uy, want to #uy $. not want to #uy, not want to #uy . #e una#le to #uy, want to #uy "layman found that investing in firms with high <2 s produced results inferior to those o#tained #y investing in stocks with lower <2 s.

Difficulty: Moderate

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11. 2ver a period of thirty*odd years in managing investment funds, !en=amin ;raham used the approach of investing in the stocks of companies where the stocks were trading at less than their working capital value. .he average return from using this strategy was appro%imately ,,,,,,. A. 0> !. 1:> ". 10> D. (:> . none of the a#ove Although ;raham said in 1)53 that markets were so efficient that one could not e%pect to identify undervalued securities consistently as he had done throughout his career, he continued to find this one varia#le useful.

Difficulty: Moderate

1(. A study #y ?peidell and !avishi (1))() found that when accounting statements of foreign firms were restated on a common accounting #asis, A. the original and restated P/ ratios were quite similar. B. the original and restated P/ ratios varied considera#ly. ". most variation was e%plained #y ta% differences. $. most firms were consistent in their treatment of goodwill. . none of the a#ove. .his study found that restated P/ ratios varied considera#ly from those originally reported.

Difficulty: Moderate

1)*0

1+. 7f the interest rate on de#t is higher than <2A, then a firm will ,,,,,,,,,, #y increasing the use of de#t in the capital structure. A. increase the <2 !. not change the <2 C. decrease the <2 $. change the <2 in an indetermina#le manner . none of the a#ove 7f <2A is less than the interest rate, then <2 will decline #y an amount that depends on the de#t to equity ratio.

Difficulty: Moderate

1-. 7f the interest rate on de#t is lower than <2A, then a firm will ,,,,,,,,,, #y increasing the use of de#t in the capital structure. A. increase the <2 !. not change the <2 ". decrease the <2 $. change the <2 in an indetermina#le manner . none of the a#ove 7f <2A is higher than the interest rate, then <2 will increase #y an amount that depends on the de#t to equity ratio.

Difficulty: Moderate

10. A firm has a market to #ook value ratio that is equivalent to the industry average and an <2 that is less than the industry average, which implies ,,,,,,,. A. the firm has a higher P/ ratio than other firms in the industry !. the firm is more likely to avoid insolvency in the short run than other firms in the industry ". the firm is more profita#le than other firms in the industry $. the firm is utili4ing its assets more efficiently than other firms in the industry . none of the a#ove .he relationship P/ @ (P/!) / <2 indicates that A is possi#le.

Difficulty: Moderate

1)*3

13. 7n periods of inflation, accounting depreciation is ,,,,,,,,,, relative to replacement cost and real economic income is ,,,,,,,,. A. overstated, overstated !. overstated, understated C. understated, overstated $. understated, understated . correctly, correctly 8i%ed assets are depreciated #ased on historical costs and, as a result, are understated relative to replacement costs during periods of inflation& as a result, real economic income is overstated.

Difficulty: Moderate

15. 7f a firm has a positive ta% rate, a positive <2A, and the interest rate on de#t is the same as <2A, then <2A will #e ,,,,,,,,. A. greater than the <2 !. equal to the <2 ". less than the <2 $. greater than 4ero #ut it is impossi#le to determine how <2A will compare to <2 . negative in all cases 7f interest rate @ <2A& <2 @ (1 * ta% rate)<2A& <2A A <2 .

Difficulty: Moderate

16. A firm has a P/ ratio of 1( and a <2 of 1+> and a market to #ook value of ,,,,,,,,,,. A. :.3!. :.)( ". 1.:6 D. 1.03 . none of the a#ove /P @ <2 / (P/!)& 1/1( @ (:.1+) P/!& :.:6++ @ :.1+/(P/!)& :.:6++(P/!) @ :.1+& P/! @ 1.03.

Difficulty: Moderate

1)*5

.he financial statements of !lack !arn "ompany are given #elow.

1)*6

1). <efer to the financial statements of !lack !arn "ompany. .he firm1s current ratio for (::5 is ,,,,,. A. (.+1 !. 1.65 ". (.(( $. (.-3 . none of the a#ove B+,(-:,:::/B1,-::,::: @ (.+1.

Difficulty: Moderate

(:. <efer to the financial statements of !lack !arn "ompany. .he firm1s quick ratio for (::5 is ,,,,,. A. 1.3) !. 1.0( ". 1.(+ $. 1.:5 E. 1.:: (B+,(-:,::: * B1,6-:,:::)/B1,-::,::: @ 1.::.

Difficulty: Moderate

(1. <efer to the financial statements of !lack !arn "ompany. .he firm1s leverage ratio for (::5 is ,,,,,. A. 1.30 !. 1.6) ". (.3$. 1.+1 E. 1.03 B3,--:,:::/B-,1-:,::: @ 1.03.

Difficulty: Moderate

1)*)

((. <efer to the financial statements of !lack !arn "ompany. .he firm1s times interest earned ratio for (::5 is ,,,,,. A. 6.63 !. 5.15 ". ).33 $. 3.63 . none of the a#ove B1,(-:,:::/B1-:,::: @ 6.63.

Difficulty: Moderate

(+. <efer to the financial statements of !lack !arn "ompany. .he firm1s average collection period for (::5 is ,,,,,. A. 0).+1 !. 00.:0 ". 31.+1 D. -).:0 . none of the a#ove A< .urnover @ B6,:::,::: / C(B1,(::,::: D B)0:,:::) / (E @ 5.--& A"P @ +30 / 5.-- @ -).:0 days

Difficulty: Moderate

(-. <efer to the financial statements of !lack !arn "ompany. .he firm1s inventory turnover ratio for (::5 is ,,,,,. A. +.10 !. +.3+ ". +.3) $. (.06 . -.(: B0,(3:,:::/C(B1,6-:,::: D B1,0::,:::) / (E @ +.10.

Difficulty: Moderate

1)*1:

(0. <efer to the financial statements of !lack !arn "ompany. .he firm1s fi%ed asset turnover ratio for (::5 is ,,,,,. A. (.:B. (.06 ". (.)5 $. 1.06 . none of the a#ove B6,:::,:::/C(B+,(::,::: D B+,:::,:::) / (E @ (.06.

Difficulty: Moderate

(3. <efer to the financial statements of !lack !arn "ompany. .he firm1s asset turnover ratio for (::5 is ,,,,,. A. 1.5) !. 1.3+ C. 1.+$. (.06 . none of the a#ove B6,:::,:::/C(B3,--:,::: D B0,0::,:::) / (E @ 1.+-.

Difficulty: Moderate

(5. <efer to the financial statements of !lack !arn "ompany. .he firm1s return on sales ratio for (::5 is ,,,,, percent. A. 10.0 !. 1-.3 ". 1-.: $. 10.: . 13.0 B1,(-:,:::/B6,:::,::: @ :.100 or 10.0>.

Difficulty: Moderate

1)*11

(6. <efer to the financial statements of !lack !arn "ompany. .he firm1s return on equity ratio for (::5 is ,,,,,. A. 13.):> !. 10.3+> ". 1-.::> $. 10.::> . 13.(-> B33:,:::/C(B-,1-:,::: D B+,36:,:::) / (E @ .13).

Difficulty: Moderate

(). <efer to the financial statements of !lack !arn "ompany. .he firm1s P/ ratio for (::5 is ,,,,,. A. 6.66 !. 5.3+ C. 5.66 $. 5.+( . none of the a#ove P? @ B33:,:::/1+:,::: @ B0.:6& B-:/B0.:6 @ 5.66.

Difficulty: Moderate

+:. <efer to the financial statements of !lack !arn "ompany. .he firm1s market to #ook value for (::5 is ,,,,,. A. 1.1+ !. 1.3( ". 1.:: D. 1.(3 . none of the a#ove B-:/B+1.60 @ 1.(3.

Difficulty: Moderate

1)*1(

+1. A firm has a (net profit / preta% profit ratio) of :.3(0, a leverage ratio of 1.(, a (preta% profit / !7.) of :.), an <2 of 15.6(>, a current ratio of 6, and a return on sales ratio of 6>. .he firm1s asset turnover is ,,,,,,,,,. A. :.+ !. 1.+ ". (.+ D. +.+ . none of the a#ove 15.6(> @ :.3(0 F :.) F 6> F asset turnover F 1.(& asset turnover @ +.+.

Difficulty: Difficult

+(. A firm has an <2A of 1->, a de#t/equity ratio of :.6, a ta% rate of +0>, and the interest rate on the de#t is 1:>. .he firm1s <2 is ,,,,,,,,,. A. 11.16> !. 6.)5> ". 11.0-> $. 1(.3(> . none of the a#ove <2 @ (1 * :.+0)C1-> D (1-> * 1:>):.6E @ 11.16>.

Difficulty: Difficult

++. A firm has an <2 of *(>, a de#t/equity ratio of 1.:, a ta% rate of :>, and an interest rate on de#t of 1:>. .he firm1s <2A is ,,,,,,,,. A. (> B. -> ". 3> $. 6> . none of the a#ove *(> @ (1)C<2A D (<2A * 1:>)1E @ ->.

Difficulty: Difficult

1)*1+

+-. A firm has a (net profit/preta% profit) ratio of :.3, a leverage ratio of (, a (preta% profit/ !7.) of :.3, an asset turnover ratio of (.0, a current ratio of 1.0, and a return on sales ratio of ->. .he firm1s <2 is ,,,,,,,,,. A. -.(> !. 0.(> ". 3.(> D. 5.(> . none of the a#ove <2 @ :.3 F :.3 F -> F (.0 F ( @ 5.(>.

Difficulty: Difficult

+0. A measure of asset utili4ation is ,,,,,,,,. A. sales divided #y working capital B. return on total assets ". return on equity capital $. operating profit divided #y sales . none of the a#ove ! measures how efficiently the firm is utili4ing assets to generate returns.

Difficulty: Easy

+3. $uring periods of inflation, the use of 8782 (rather than 9782) as the method of accounting for inventories causes ,,,,,,,,. A. higher inventory turnover B. higher incomes ta%es ". lower ending inventory $. higher reported sales . none of the a#ove 7n inflationary periods, the use of 8782 causes overstated earnings, which result in higher ta%es.

Difficulty: Moderate

1)*1-

+5. <eturn on total assets is a function of ,,,,,,,. A. interest rates and pre*ta% profits !. the de#t*equity ratio C. the after*ta% profit margin and the asset turnover ratio $. sales and fi%ed assets . none of the a#ove <2A @ /et profit margin F .otal asset turnover.

Difficulty: Moderate

+6. 82F "ompany has a ratio of (total de#t/total assets) that is a#ove the industry average, and a ratio of (long term de#t/equity) that is #elow the industry average. .hese ratios suggest that the firm ,,,,,,,,,. A. utili4es assets effectively !. has too much equity in the capital structure C. has relatively high current lia#ilities $. has a relatively low dividend payout ratio . none of the a#ove .otal de#t includes #oth current and long term de#t& the a#ove relationships could occur only if 82F "ompany has a higher than average level of current lia#ilities.

Difficulty: Moderate

+). A firm1s current ratio is a#ove the industry average& however, the firm1s quick ratio is #elow the industry average. .hese ratios suggest that the firm ,,,,,,,,,. A. has relatively more total current assets and even more inventory than other firms in the industry !. is very efficient at managing inventories ". has liquidity that is superior to the average firm in the industry $. is near technical insolvency . none of the a#ove A is the only possi#le answer& total current assets are high, and inventory is a very large portion of total current assets, relative to other firms in the industry.

Difficulty: Moderate

1)*10

-:. Ghich of the following ratios gives information on the amount of profits reinvested in the firm over the yearsH A. ?ales/total assets !. $e#t/total assets ". $e#t/equity D. <etained earnings/total assets . /one of the a#ove 2nly retained earnings reflect profits reinvested over the years.

Difficulty: Moderate

-1. 8erris "orp. wants to increase its current ratio from the present level of 1.0 when it closes the #ooks ne%t week. .he action of ,,,,,,,,,, will have the desired effect. A. payment of current paya#les from cash !. sales of current marketa#le securities for cash ". write down of impaired assets $. delay of ne%t payroll . none of the a#ove %ampleH "A @ B10:& "9 @ B1::& current ratio @ 1.0& Pay B0: of "9 with cash& "A @ B1::& "9 @ B0:& current ratio @ (. ! has no effect on ratio ("A remain same)& " does not affect current account& $ would decrease ratio.

Difficulty: Moderate

1)*13

-(. Assuming continued inflation, a firm that uses 9782 will tend to have a(n) ,,,,,,,, current ratio than a firm using 8782, and the difference will tend to ,,,,,,,,,, as time passes. A. higher, increase !. higher, decrease ". lower, decrease D. lower, increase . identical, remain the same A firm using 9782 will have lower priced inventory, thus resulting in a lower current ratio. 7f inflation continues, these differences will increase over time.

Difficulty: Moderate

-+. 8undamental analysis uses ,,,,,,,,,,. A. earnings and dividends prospects !. relative strength ". price momentum $. A and ! . A and " <elative strength and price momentum are technical, not fundamental, tools.

Difficulty: Easy

--. ,,,,,,,,,, is a true statement. A. $uring periods of inflation, 9782 makes the #alance sheet less representative of the actual inventory values than if 8782 were used !. $uring periods of inflation, 8782 makes the #alance sheet less representative of actual inventory values than if 9782 were used ". After inflation ends, distortion due to 9782 will disappear as inventory is sold $. $uring periods of inflation, 9782 overstates earnings relative to 8782 . /one of the a#ove $uring periods of inflation, the use of 9782 results in lower priced inventory remaining in stock& thus the #alance sheet understates the actual inventory values.

Difficulty: Moderate

1)*15

-0. ,,,,,,,,,, is a false statement. A. $uring periods of inflation, 9782 makes the #alance sheet less representative of the actual inventory values than if 8782 were used !. $uring periods of inflation, 8782 makes the #alance sheet less representative of actual inventory values than if 9782 were used ". After inflation ends, distortion due to 9782 will disappear as inventory is sold $. $uring periods of inflation, 9782 overstates earnings relative to 8782 E. !, ", and $ $uring periods of inflation, the use of 9782 results in lower priced inventory remaining in stock& thus the #alance sheet understates the actual inventory values.

Difficulty: Moderate

-3. .he level of real income of a firm can #e distorted #y the reporting of depreciation and interest e%pense. $uring periods of high inflation, the level of reported depreciation tends to ,,,,,,,,,, income, and the level of interest e%pense reported tends to ,,,,,,,,,, income. A. understate, overstate !. understate, understate C. overstate, understate $. overstate, overstate . .here is no discerna#le pattern. $epreciation is #ased on historic costs& thus during periods of inflation depreciation is understated, which results in the overstatement of income. 7n periods of inflation, interest rates are high, and thus result in the understatement of the firm1s long term earning capacity.

Difficulty: Moderate

1)*16

-5. Ghich of the following would #est e%plain a situation where the ratio of (net income/total equity) of a firm is higher than the industry average, while the ratio of (net income/total assets) is lower than the industry averageI A. .he firm1s net profit margin is higher than the industry average. !. .he firm1s asset turnover is higher than the industry average. ". .he firm1s equity multiplier must #e lower than the industry average. D. .he firm1s de#t ratio is higher than the industry average. . /one of the a#ove. Assets are financed either #y de#t or equity. .he situation descri#ed a#ove could occur only if the firm is financing more assets with de#t than are industry competitors.

Difficulty: Moderate

-6. 7f a firm1s ratio of (total lia#ilities/total assets) is higher than the industry average while the total capitali4ation of the firm1s stockholders1 equity) is lower than the industry average, the most likely assumption is that the firm ,,,,,,,,. A. has more current lia#ilities than the industry average !. has more leased assets than the industry average ". will #e more profita#le than the industry average $. has more current assets than the industry average . none of the a#ove .he total capitali4ation of the firm reflects long*term capital& which is used to purchase fi%ed assets, not current assets. .hus, the firm appears to have more current lia#ilities than the industry average.

Difficulty: Moderate

1)*1)

-). Ghat #est e%plains why a firm1s ratio of (long*term de#t/total capital) is lower than the industry average, while the ratio of (income #efore interest and ta%es/de#t interest charges) is lower than the industry average. A. .he firm pays lower interest on long*term de#t than the average firm B. .he firm has more short*term de#t than average ". .he firm has a high ratio of (current assets/current lia#ilities) $. .he firm has a high ratio of (total cash flow/long term de#t) . none of the a#ove .he firm is using more short*term de#t, possi#ly to finance fi%ed assets, than the average firm. .he coverage ratio includes only interest on long*term de#t.

Difficulty: Moderate

0:. ,,,,,,,,,, #est e%plains a ratio of (sales/average net fi%ed assets) that e%ceeds the industry average. A. .he firm e%panded plant and equipment in the past few years !. .he firm makes less efficient use of assets than competing firms C. .he firm has a su#stantial amount of old plant and equipment. $. .he firm uses straight*line depreciation . /one of the a#ove 7f the firm has more old plant and equipment than competing firms, the denominator is deflated thus producing a higher than average ratio.

Difficulty: Moderate

1)*(:

01. ;iven the following firm and market information, determine the value of the firm.

A. B(6.-( B. B16.-( ". B6.-( $. B+6.-( . none of the a#ove <2 @ + F 1.0 F 1.0 @ 3.50>& g @ :.0 F 3.50> @ +.+50>& k @ 0> D 1.((6>) @ 1-.3>& ( (1.:++50) / (.1-3 * .:++50) @ B16.-(

Difficulty: Difficult

0(. 8irms will not have #oth relatively high profit margins and total asset turnover for long periods of time #ecause A. if #oth varia#les are relatively high, more firms will #e attracted into the industry, which will result in lower profit margins. !. e%cess economic profits will result (until equili#rium is restored). ". high profit margins result in inefficiency. D. A and !. . A and ". .he e%cess profits will attract more firms into the industry, which will eliminate e%cess profits.

Difficulty: Moderate

1)*(1

0+. "ompara#ility pro#lems arise #ecause A. firms may use different generally accepted accounting principles. !. inflation may affect firms differently due to accounting conventions used. ". financial analysts do not know how to compare financial statements. D. A and !. . A and ". 8irms often select specific generally accepted accounting principles for the desired effect on the financial statements. .he analyst must make ad=ustments in order to compare firms using different account techniques. 2ften firms adopt specific techniques to offset the negative effects of inflation on the firm.

Difficulty: Moderate

0-. 2ne pro#lem with comparing financial ratios prepared #y different reporting agencies is A. some agencies receive financial information later than others. B. agencies vary in their policies as to what is included in specific calculations. ". some agencies are careless in their reporting. $. some firms are more conservative in their accounting practices. . none of the a#ove. 2ne pro#lem with comparing financial ratios prepared #y different reporting agencies is agencies vary in their policies as to what is included in specific calculations.

Difficulty: Easy

00. 2ne reason that capital markets are not truly glo#al is A. e%change rates are too volatile. !. investors are too timid. ". some firms are not allowed to sell their shares in other countries. $. there is not a glo#al standard for international financial reporting. E. #oth " and $ are true. 2ne reason that capital markets are not truly glo#al is some firms are not allowed to sell their shares in other countries.

Difficulty: Moderate

1)*((

.he financial statements of Jidwest .ours are given #elow.

1)*(+

03. <efer to the financial statements of Jidwest .ours. .he firm1s current ratio for (::5 is ,,,,,. A. 1.6( !. 1.:+ C. 1.+: $. 1.30 . none of the a#ove B63:,:::/B33:,::: @ 1.+:.

Difficulty: Moderate

05. <efer to the financial statements of Jidwest .ours. .he firm1s quick ratio for (::5 is ,,,,,,,,,,. A. 1.51 !. :.56 C. :.60 $. 1.03 . none of the a#ove (B63:,::: * B+::,:::)/B33:,::: @ :.60.

Difficulty: Moderate

06. <efer to the financial statements of Jidwest .ours. .he firm1s leverage ratio for (::5 is ,,,,,,,,,,. A. 1.3( !. 1.03 C. (.:: $. (.-( . (.15 B+,:-:,:::/B1,0(:,::: @ (.::.

Difficulty: Moderate

1)*(-

0). <efer to the financial statements of Jidwest .ours. .he firm1s times interest earned ratio for (::5 is ,,,,,,,,,,. A. (.6)5 !. (.51) C. +.+50 $. +.-3( . none of the a#ove B0-:,::: / 13:,::: @ +.+50.

Difficulty: Moderate

3:. <efer to the financial statements of Jidwest .ours. .he firm1s average collection period for (::5 is ,,,,,,,,,,. A. 3).+0 !. 3).5+ ". 36.0+ $. 35.55 . 36.0( A< .urnover @ B(,0::,::: / C(B0::,::: D B-0:,:::)) (E @ 0.(3& A"P @ +30 / 0.(3 @ 3).+0 days

Difficulty: Moderate

31. <efer to the financial statements of Jidwest .ours. .he firm1s inventory turnover ratio for (::5 is ,,,,,,,,,,. A. (.63 !. 1.(+ ". 0.)3 D. -.-( . -.63 B1,(3:,:::/C(B+::,::: D B(5:,:::)) (E @ -.-(.

Difficulty: Moderate

1)*(0

3(. <efer to the financial statements of Jidwest .ours. .he firm1s fi%ed asset turnover ratio for (::5 is ,,,,,,,,,,. A. 1.-0 !. 1.3+ C. 1.(: $. 1.06 . none of the a#ove B(,0::,:::/C(B(,16:,::: D B(,:::,:::)) (E @ 1.(:.

Difficulty: Moderate

3+. <efer to the financial statements of Jidwest .ours. .he firm1s asset turnover ratio for (::5 is ,,,,,,,,,,. A. 1.63 !. :.3+ C. :.63 $. 1.3+ . none of the a#ove B(,0::,:::/C(B+,:-:,::: D B(,55:,:::)) (E @ :.63.

Difficulty: Moderate

3-. <efer to the financial statements of Jidwest .ours. .he firm1s return on sales ratio for (::5 is ,,,,,,,,,, percent. A. (:.( B. (1.3 ". ((.$. 16.: . none of the a#ove B0-:,:::/B(,0::,::: @ :.(13 or (1.3>.

Difficulty: Moderate

1)*(3

30. <efer to the financial statements of Jidwest .ours. .he firm1s return on equity ratio for (::5 is ,,,,,,,,,,. A. 1(.(-> !. 1-.3+> C. 10.0:> $. 1-.0:> . 13.)> B((6,:::/C(B1,0(:,::: D B1,-(:,:::)) (E @ .100.

Difficulty: Moderate

33. <efer to the financial statements of Jidwest .ours. .he firm1s P/ ratio for (::5 is ,,,,,,,,,,. A. -.5!. 3.3+ ". 0.(1 $. 0.:: . none of the a#ove P? @ B((6,:::/+:,::: @ B5.3:& B+3/B5.3: @ -.5-.

Difficulty: Moderate

35. <efer to the financial statements of Jidwest .ours. .he firm1s market to #ook value for (::5 is ,,,,,,,,,,. A. :.(!. :.)0 C. :.51 $. 1.1( . none of the a#ove B+3/CB1,0(:,:::/+:,:::E @ :.51.

Difficulty: Moderate

1)*(5

.he financial statements of ?napit "ompany are given #elow.

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36. <efer to the financial statements for ?napit "ompany. .he firm1s current ratio for (::5 is ,,,,,,,,,,,. A. 1.)6 !. (.-5 ". :.30 D. 1.0+ . none of the a#ove B1,+::,:::/B60:,::: @ 1.0+.

Difficulty: Easy

3). <efer to the financial statements of ?napit "ompany. .he firm1s quick ratio for (::5 is ,,,,,,,. A. 1.36 !. 1.1( C. :.5( $. 1.)( . none of the a#ove (B1,+::,::: * B3):,:::)/B60:,::: @ :.5(.

Difficulty: Moderate

5:. <efer to the financial statements of ?napit "ompany. .he firm1s leverage ratio for (::5 is ,,,,,,,,,. A. (.(0 !. +.0+ ". (.31 D. +.:3 . none of the a#ove B(,3::,:::/B60:,::: @ +.:3.

Difficulty: Moderate

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51. <efer to the financial statements of ?napit "ompany. .he firm1s times interest earned ratio for (::5 is ,,,,,,,,,,. A. (.(3 !. +.13 ". +.6D. +.+1 . none of the a#ove B0+:,:::/B13:,::: @ +.+1.

Difficulty: Moderate

5(. <efer to the financial statements of ?napit "ompany. .he firm1s average collection period for (::5 is ,,,,,,, days. A. -5.): !. -6.0+ ". -3.:3 $. -5.30 . none of the a#ove (0(0,::: / -,:::,:::) (+30) @ -5.):.

Difficulty: Moderate

5+. <efer to the financial statements of ?napit "ompany. .he firm1s inventory turnover ratio for (::5 is ,,,,,,,,. A. -.3!. -.13 ". -.-1 $. -.65 . none of the a#ove B+,:-:,:::/C(B3(:,::: D B3):,:::) / (E @ -.3-.

Difficulty: Moderate

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5-. <efer to the financial statements of ?napit "ompany. .he firm1s fi%ed asset turnover ratio for (::5 is ,,,,,. A. -.3: !. +.31 C. +.13 $. 0.-3 . none of the a#ove B-,:::,:::/C(B1,+::,::: D B1,(+:,:::) / (E @ +.13.

Difficulty: Moderate

50. <efer to the financial statements of ?napit "ompany. .he firm1s asset turnover ratio for (::5 is ,,,,,. A. 1.3: !. +.13 ". +.+1 $. -.3. none of the a#ove B-,:::,:::/C(B(,3::,::: D B(,-::,:::) / (E @ 1.3:.

53. <efer to the financial statements of ?napit "ompany. .he firm1s return on sales ratio for (::5 is ,,,,,,,,. A. :.:1++ B. :.1+(0 ". 1.+(0 $. 1.(3: . none of the a#ove B0+:,:::/B-,:::,::: @ :.1+(0.

Difficulty: Moderate

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55. <efer to the financial statements of ?napit "ompany. .he firm1s return on equity ratio for (::5 is ,,,,,,,,. A. :.1(+0 !. :.:()3 C. :.()3: $. (.()3: . none of the a#ove B(((,:::/C(B60:,::: D B30:,:::) / (E @ :.()3:.

Difficulty: Moderate

56. <efer to the financial statements of ?napit "ompany. .he firm1s market to #ook value for (::5 is ,,,,,. A. :.5(03 !. 1.0()C. (.)-:: $. +.31-( . none of the a#ove B1::/C(B60:,::: / (0,:::)E @ (.)-::.

Difficulty: Moderate

5). ,,,,,, is a measure of what the firm would have earned if it didn1t have any o#ligations to creditors or ta% authorities. A. /et ?ales !. 2perating 7ncome ". /et 7ncome $. /on*operating 7ncome E. arnings !efore 7nterest and .a%es .a%es and interest e%pense are su#tracted from !7. to find /et 7ncome. 7f there are no ta%es and no interest e%pense !7. would equal /et 7ncome.

Difficulty: Easy

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6:. Proceeds from a company1s sale of stock to the pu#lic are included in ,,,,,,,,. A. par value !. additional paid*in capital ". retained earnings D. A and ! . A, !, and " Ghen a stock is sold, the par value goes into the Par account and any amount a#ove the par value goes into the Additional Paid*in "apital account.

Difficulty: Easy

61. Ghich of the financial statements recogni4es only transactions in which cash changes handsI A. !alance ?heet !. 7ncome ?tatement C. ?tatement of "ash 8lows $. A and ! . A, !, and " .he !alance ?heet and 7ncome ?tatement are #ased on accrual accounting methods. <evenues and e%penses are recogni4ed when they are incurred regardless of whether cash is involved.

Difficulty: Easy

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6(. ?uppose that "hicken %press, 7nc. has a <2A of 5> and pays a 3> coupon on its de#t. "hicken %press has a capital structure that is 5:> equity and +:> de#t. <elative to a firm that is 1::> equity*financed, "hicken %press1s /et Profit will #e ,,,,,,,, and its <2 will #e ,,,,,,,,. A. lower, lower !. higher, higher ". higher, lower D. lower, higher . 7t is impossi#le to predict. "hicken %press1s /et Profit will #e lower #ecause it has to pay interest e%pense. !ut as long as "hicken %press1s <2A e%ceeds the cost of its de#t, leverage will have a positive impact on its <2 .

Difficulty: Difficult

6+. .he P/ ratio that is #ased on a firm1s financial statements and reported in the newspaper stock listings is different from the P/ ratio derived from the dividend discount model ($$J) #ecause A. the $$J uses a different price in the numerator. B. the $$J uses different earnings measures in the denominator. ". the prices reported are not accurate. $. the people who construct the ratio from financial statements have inside information. . .hey are not different * this is a KtrickK question. !oth ratios use the same numerator * the market price of the stock. !ut P/ s from financial statements use the most recent past accounting earnings, while the $$J uses e%pected future economic earnings.

Difficulty: Moderate

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6-. .he dollar value of a firm1s return in e%cess of its opportunity costs is called its A. profita#ility measure. !. e%cess return. C. economic value added. $. prospective capacity. . return margin. conomic value added measures the success of the firm relative to its return on pro=ects vs. the rate investors could earn themselves in the capital markets. LA @ <2A * kM"apital 7nvested.

Difficulty: Moderate

60. conomic value added ( LA) is also known as A. e%cess capacity. !. e%cess income. ". value of assets. $. accounting value added. E. residual income ?tern ?tewart, a consulting firm that works e%tensively with LA, introduced this term.

Difficulty: Easy

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63. Ghich of the following are issues when dealing with the financial statements of international firmsI 7) Jany countries allow firms to set aside larger contingency reserves than the amounts allowed for N.?. firms. 77) Jany firms outside the N.?. use accelerated depreciation methods for reporting purposes, whereas most N.?. firms use straight*line depreciation for reporting purposes. 777) 7ntangi#les such as goodwill may #e amorti4ed over different periods or may #e e%pensed rather than capitali4ed. 7L) .here is no way to reconcile the financial statements of non*N.?. firms to ;AAP. A. 7 and 77 !. 77 and 7L C. 7, 77, and 777 $. 7, 777, and 7L . 7, 77, 777, and 7L .he first three items are concerns. .he fourth is not a factor #ecause it is possi#le to reconcile the financial statements to ;AAP.

Difficulty: Moderate

65. .o create a common si4e income statement ,,,,,,,,,,,, all items on the income statement #y ,,,,,,,,,,,,. A. multiply& net income !. multiply& total revenue ". divide& net income D. divide& total revenue . multiply& "2;? .o create a common si4e income statement divide all items on the income statement #y total revenue.

Difficulty: Moderate

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66. .o create a common si4e #alance sheet ,,,,,,,,,,,, all items on the #alance sheet #y ,,,,,,,,,,,,. A. multiply& owners equity !. multiply& total assets ". divide& owners equity D. divide& total assets . multiply& de#t .o create a common si4e #alance sheet divide all items on the #alance sheet #y total assets.

Difficulty: Moderate

6). "ommon si4e financial statements make it easier to compare firms ,,,,,,,,,,,,. A. of different si4es !. in different industries ". with different degree of leverage $. that use different inventory valuation methods (8782 vs. 9782) . none of the a#ove "ommon si4e financial statements make it easier to compare firms of different si4es.

Difficulty: Easy

):. "ommon si4e income statements make it easier to compare firms ,,,,,,,,,,,,. A. that use different inventory valuation methods (8782 vs. 9782) !. in different industries ". with different degree of leverage D. of different si4es . none of the a#ove "ommon si4e income statements make it easier to compare firms of different si4es.

Difficulty: Easy

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)1. "ommon si4e #alance sheets make it easier to compare firms ,,,,,,,,,,,,. A. with different degree of leverage B. of different si4es ". in different industries $. that use different inventory valuation methods (8782 vs. 9782) . none of the a#ove "ommon #alance sheets statements make it easier to compare firms of different si4es.

Difficulty: Easy

)(. 7f a firm has KgoodwillK recorded on its #alance sheet it must have ,,,,,,,,,,,,. A. donated to charity !. participated in a #enefit for a charita#le cause ". participated in a company*wide fund raising drive for a charity D. acquired another firm . none of the a#ove 7f a firm has KgoodwillK recorded on its #alance sheet it must have acquired another firm.

Difficulty: Easy

1)*+6

Short Answer Questions )+. Pu#licly traded firms must prepare audited financial statements according to generally accepted accounting principles (;AAP). 'ow do compara#ility pro#lems ariseI Jany accounts may #e valued #y more than one generally accepted accounting principle. As a result, firms often select the ;AAP that presents the firm in the most attractive position. .hus, the analyst trying to compare firms using different ;AAPs must #e aware of these differences and make his or her own ad=ustments of the financial statements in order to determine which firm is the more attractive investment alternative. ;enerally accepted accounting principles for inventory valuation and depreciation are two of the more common areas where compara#ility pro#lems may arise. 8eed#ackH .his question is designed to ascertain whether or not the student understands whether the analyst merely takes financial statements at Kface valueK or whether the analyst must perform considera#le additional work with the financial statements in order to value the firms.

Difficulty: Easy

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)-. 7n an increasingly glo#ali4ed investment environment, compara#ility pro#lems #ecome even greater. $iscuss some of the pro#lems for the investor who wishes to have an internationally diversified portfolio. 8irms in other countries are not required to prepare financial statement according to N.?. generally accepted accounting principles. Accounting practices in other countries vary from those of the N.?. 7n some countries, accounting standards may #e very la% or virtually none%istent. ?ome of the ma=or differences areH reserve practices, many countries allow more discretion in setting aside reserves for future contingencies than is typical in the N.?.& depreciation practices, in the N.?., firms often use accelerated depreciation for ta% purposes, and straight line depreciation for accounting purposes, while most other countries do not allow such dual accounts, and finally, the treatment of intangi#les varies considera#ly across countries. 8inally, the pro#lem of o#taining financial information may #e considera#le for some international investments, varying currency e%change rates present additional complications, translation of statements into nglish is another complication& potential government e%propriation of assets and political unrest may #e pro#lems in some countries. 7n general, for the individual investor, investing in glo#al or international mutual funds is a less risky way to add diversification to the portfolio than is attempting to value individual international securities. 8eed#ackH .his question is designed to insure that the student understands the compara#ility pro#lems and additional risks of international investing.

Difficulty: Easy

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)0. Jany different de#t, or financial leverage, ratios are reported. %plain the relationship #etween total assets/equity and de#t/equity. .otal assets/equity is the ratio used in computing the <2 in the KduPont #reakout formulaK. Assets may #e purchased with either de#t or equity or some com#ination thereof. .hus, the sum of de#t and equity financing equals total assets. 7f one is given the de#t/equity ratio and needs the total assets/equity ratio (for e%ample, for the a#ove cited calculation), one merely adds the amounts of de#t and equity in the capital structure in order to o#tain the amount of total assets. 8or e%ampleH $e#t @ B0:,:::& quity @ B0:,:::& $e#t/equity @ 1& B0:,::: D B0:,::: @ B1::,::: (total assets)& .otal assets/ quity @ B1::,:::/B0:,::: @ (& or 1 D 1 @ (. 8eed#ackH .his question is designed to see if the student understands the relationship #etween #asic #alance sheet financial ratios.

Difficulty: Easy

)3. $iscuss the differences #etween economic earnings and accounting earnings. Ghich is preferred in financial analysisI Ghich is most widely used, and whyI conomic earnings consist of the sustaina#le cash flow that can #e paid out to stockholders without impairing the productive capacity of the firm. .he focus is on the present value of e%pected cash flows. Accounting earnings are #ased on accrual methods and can #e manipulated to a certain e%tent. .hey are su#=ect to the firm1s decisions a#out its accounting methods such as inventory valuation and amorti4ation of capital e%penditures. /et 7ncome will #e different in each case. 8inancial analysis is #ased on economic earnings, which are often difficult to measure, whereas accounting earnings are widely availa#le. Annual and quarterly reports contain a firm1s financial statements. .hey do provide important information a#out the health and prospects of the firm. Accounting earnings are therefore most frequently used for analysis. 8eed#ackH .his question tests whether the student understands the differences #etween the two types of earnings, why they differ, and how the difference influences the choice of earnings used in financial analysis.

Difficulty: Easy

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)5. .he $uPont system decomposes <2 into the following componentsH

nter the formula that corresponds to the description of each ratio into the second column of the ta#le. .he third column gives a value for each ratio. Nse the fourth column to descri#e the meaning of the ratio1s value.

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Answers are shown in the ta#le #elow.

8eed#ackH .his question tests the students1 understanding of various financial ratios and whether they can identify the ratios #y their descriptive terms.

Difficulty: Difficult

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