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Exam 13: Financial Statement Analysis

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Question 61

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Current financial reporting standards assume that users of accounting information:

A) Have an expert's understanding of economic and financial events and conditions.
B) Have a reasonably informed knowledge of business.
C) Have widely differing levels of knowledge about business, and that financial reporting must meet these differing needs.
D) Have only minimal knowledge of business.

E) A) and B)
F) A) and C)

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Question 62

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Working capital is current assets minus current liabilities.

A) True
B) False

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Question 63

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The following balance sheet information was provided by O'Connor Company: Assuming that net credit sales for Year 2 totaled $270,000, what is the company's most recent accounts receivable turnover? $\begin{array} { | l | r r | r r | } \hline \text { Assets } & & 2014 & 2013 \\\hline \text { Cash } & \$ & 4,000 & \$ & 2,000 \\\hline \text { Accounts receivable } & & 15,000 & & 12,000 \\\hline \text { Inventory } & \$ & 35,000 & \$ 38,000 \\\hline\end{array}$

What is a primary drawback with examining and comparing absolute amounts from two businesses' financial statements?

Which of the following is not included in the computation of the quick ratio?

Working capital is defined as:

Which ratio measures the percentage of company's assets that are financed by debt?

The Phibbs Company paid total cash dividends of $200,000 on 25,000 outstanding common shares. On the most recent trading day, the common shares sold at $80. What is this company's dividend yield?

Indicate whether each of the following statements about financial statement analysis is true or false.Vertical analysis of a company's balance sheet is useful in assessing its liquidity.Common size financial statements are a form of vertical analysis, but the common size statements for two or more years may usefully be compared.Vertical analysis of a balance sheet involves converting each component to a percentage of stockholders' equity.Small percentage changes resulting from vertical analysis may still represent large dollar amounts; therefore, changes in both absolute dollar amounts and percentages should be examined.A common size income statement is prepared by converting each component to a percentage of net income.

Financial analysis typically involves some form of comparison such as changes in the same item over a number of years.

Ratios can be used for different purposes. For example, a variety of ratios have been developed to assess a firm's liquidity. Similarly, ratios have been developed to assess solvency, profitability, and stock market strength. A sample of commonly used ratios for these purposes is provided in the table below.Required: In the middle column of the table, provide the formula to compute the specified ratio. In the final column, indicate the purpose (Liquidity, Solvency, Profitability, and Stock market strength) for which the ratio is most commonly used. The first item is completed as an example. $\begin{array} { | l | l | l | l | } \hline & & & \\\hline & { \text { Ratio } } & { \text { Computation } } & \text { Purpose } \\\hline \text { 1. } & \text { Accounts receivable tumover } & \text { Net credit sales/average receivables } & \text { Liquidity } \\\hline \text { 2. } & \text { Asset turnover } & & \\\hline \text { 3. } & \text { Current ratio } & & \\\hline \text { 4. } & \text { Debt to equity ratio } & & \\\hline \text { 5. } & \text { Dividend yield } & & \\\hline \text { 6. } & \text { Earnings per share } & & \\\hline \text { 7. } & \text { Inventory turnover } & & \\\hline \text { 8. } & \text { Net margin } & & \\\hline \text { 9. } & \text { Price-eamings ratio } & & \\\hline \text { 10. } & \text { Return on equity } & & \\\hline \text { 11. } & \text { Return on investment } & & \\\hline\end{array}$

The following balance sheet information is provided for Santana Company for Year 2: What is the company's debt to equity ratio (rounded to nearest whole percent) ? $\begin{array}{|l|r|}\hline \text { Assets }\\\hline \text { Cash } & \$ 5,400 \\\hline \text { Accounts receivable } & 15,500 \\\hline \text { Inventory } & 18,000 \\\hline \text { Prepaid expenses } & 1,600 \\\hline \text { Plant and equipment, net of depreciation } & 20,200 \\\hline \text { Land } & 19,950 \\\hline \text { Total assets } & \$ 80,650 \\\hline\\\hline\text { Liabilities and Stockholders' Equity }\\\hline \text { Accounts payable } & \$ 4,500 \\\hline \text { Salaries payable } & 11,500 \\\hline \text { Bonds payable (Due in 2020) } & 19,000 \\\hline \text { Conmon stock, no par } & 30,000 \\\hline \text { Retained earnings } & 15,650 \\\hline \text { Total liabilities and stockholder' equity } & \$ 80,650 \\\hline\end{array}$

While horizontal analysis examines one item over many time periods, vertical analysis examines many items in the same interval of time.

The only requirement involved in communicating useful information is that the information be accurate.

In vertical analysis, each item is expressed as a percentage of:

The Miller Company reported gross sales of $850,000, sales returns and allowances of $15,000 and sales discounts of $5,000. The company has average total assets of $500,000, of which $250,000 is property, plant, and equipment. What is the company's asset turnover ratio?

Indicate whether each of the following statements about financial statement analysis is true or false.The value of a corporation's price-earnings ratio indicates how optimistic investors are about a company's growth potential.The dividend yield ratio indicates the percentage of a company's net income that it paid out in dividends.Conservatism produces a positive bias in a company's financial statements and thus in the ratios calculated from the financial statements.Changes in general economic conditions (such as rate of inflation) can cause the values for a company's financial statement ratios to change from one year to the next.Comparing financial statement ratios of companies in different industries can give misleading results.

As of December 31, Year 1, Gant Corporation had a current ratio of 1.29, quick ratio of 1.05, and working capital of $18,000. The company uses a perpetual inventory system and sells merchandise for more than it cost. On January 1, Year 2 Gant paid $3,600 on accounts payable. Which of the following statements is incorrect?

Which of the following is a potential limitation of financial statement analysis?

Indicate whether each of the following statements about financial statement analysis is true or false.The ratio, plant assets to long-term liabilities, is a measure of a company's ability to obtain additional long-term financing.Generally, a company's current assets should be purchased using long-term financing such as bonds payable.Ratios that measure a company's profitability provide some measure of the effectiveness of the company's management.Net margin indicates the amount remaining from each sales dollar after cost of goods sold has been subtracted out.Net margin is also sometimes called the return on assets ratio.