Quiz 16: Financial Statement Analysis

the two major types of financial statement analysis discussed in this chapter.

examining Luke Company's current period income statement, you notice that Research and Development expenses are 62% of sales revenue. Luke has most likely provided A) a horizontal analysis. B) a vertical analysis using sales as the base. C) a horizontal analysis using sales as the base. D) a vertical analysis using net income as the base. E) none of the above.

is horizontal analysis? Vertical analysis? Should both horizontal and vertical analyses be done? Why?

advantage of common-size analysis is that A) the size of dollar amounts impact the analysis. B) larger companies will have higher common-size percentages. C) it focuses only on vertical analysis. D) the effects of size are eliminated. E) it focuses only on horizontal analysis.

Explain how creditors, investors, and managers can use common-size analysis as an aid in decision making.

Fractions or percentages computed by dividing one account or line-item amount by another are called A) returns. B) industry averages. C) common-size statements. D) dividend yields. E) ratios.

are liquidity ratios? Leverage ratios? Profitability ratios?

measures of the ability of a company to meet its current obligations are called A) ratios. B) liquidity ratios. C) leverage ratios. D) profitability ratios. E) percentage changes.

Identify two types of standards used in ratio analysis. Explain why it is desirable to use both types.1. Name the two major types of financial statement analysis discussed in this chapter.

Pedee Company's inventory turnover in days is 80 days. Which of the following actions could help to improve that ratio? A) Increase sales price. B) Increase manufacturing costs. C) Reduce cost of goods sold. D) Reduce average inventory. E) All of these.

information does the quick ratio supply that the current ratio does not?

Etchey Company shows that 46% of its assets are financed by creditors. Which of the following shows this result? A) Current ratio B) Times-interest-earned ratio C) Debt ratio D) Inventory turnover in days E) Return on sales

Suppose that the accounts receivable turnover ratio of a company is low when compared with other firms within its industry. How would this information be useful to the managers of a company?

Profitability ratios are used by which of the following groups? A) Company managers B) Creditors C) Lenders D) Investors E) All of these.

high inventory turnover ratio provides evidence that a company is having problems with stockouts and disgruntled customers. Do you agree? Explain.

and Torrie Jones are a retired couple looking for income. They are currently rebalancing their portfolio of stocks to include more with high dividends. Fred and Torrie will be most interested in which of the following? A) Current ratio B) Dividend payout ratio C) Return on assets D) Price-earnings ratio E) Dividend yield

loan agreement between a bank and a customer specified that the debt ratio could not exceed 60%. Explain the purpose of this restrictive agreement.

small pizza restaurant, founded and owned by the Martinelli sisters, would be expected to have which of the following? A) Low inventory turnover and high gross margin B) Low accounts receivable turnover and low gross margin C) High price-earnings ratio D) High inventory turnover and low gross margin E) All of these.

manager decided to acquire some expensive equipment through the use of an operating lease even though a capital budgeting analysis showed that it was more profitable to buy than to lease. However, the purchase alternative would have required the issuance of some bonds. Offer some reasons that would explain the manager's choice.

after-tax cost of interest expense is used in calculating which of the following? A) Times-interest-earned B) Return on assets C) Debt ratio D) Inventory turnover ratio E) All of these.

Preparing Common-Size Income Statements by Using Base Period Horizontal Analysis Scherer Company provided the following income statements for its first 3 years of operation: Refer to the information for Scherer Company on the previous page.

Explain why an investor would be interested in a company's debt ratio.

Preparing Income Statements by Using Net Sales as the Base: Vertical Analysis Scherer Company provided the following income statements for its first 3 years of operation: Refer to the information for Scherer Company on the previous page.

Assume that you have been given the responsibility to invest some funds in the stock market to provide an annuity to an individual who has just retired. Explain how you might use the dividend yield and the dividend payout ratio to help you with this investment decision.

Explain how an investor might use the price-earnings ratio to value the stock of a company.

Calculate the Average Accounts Receivable, the Accounts eceivable Turnover Ratio, and the Accounts Receivable Turnover in Days Last year, Nikkola Company had net sales of $2,299,500,000 and cost of goods sold of $1,755,000,000. Nikkola had the following balances: Refer to the information for Nikkola Company above.

would investors and creditors be interested in knowing the dilutive effects of convertible securities on earnings per share?

Calculating the Average Inventory, the Inventory Turnover Ratio, and the Inventory Turnover in Days Last year, Nikkola Company had net sales of $2,299,500,000 and cost of goods sold of $1,755,000,000. Nikkola had the following balances: Refer to the information for Nikkola Company above.

Explain the significance of the inventory turnover ratio in a JIT manufacturing environment.

Calculating the Times-Interest-Earned Ratio Paxton Company provided the following income statement for last year:

a JIT manufacturing environment, the current ratio and the quick ratio are virtually the same. Do you agree? Why?

Calculating the Debt Ratio and the Debt-to-Equity Ratio Ernst Company's balance sheet shows total liabilities of $32,500,000, total stockholders' equity of $8,125,000, and total assets of $40,625,000.

Calculating the Return on Sales Refer to the information for Somerville Company above.

Calculating the Average Total Assets and the Return on Assets Refer to the information for Somerville Company above. Assume a tax rate of 40%.

Calculating the Average Common Stockholders' Equity and the Return on Stockholders' Equity Refer to the information for Somerville Company above.

Computing Earnings per Share Refer to the information for Somerville Company on the previous page.

Computing the Price-Earnings Ratio Refer to the information for Somerville Company on the previous page. Also, assume that the price per common share for Somerville is $8.10.

Computing the Dividend Yield and the Dividend Payout Ratio Refer to the information for Somerville Company on the previous page. Also, assume that the market price per common share is $8.10.

Horizontal Analysis Sundahl Company's income statements for the past 2 years are as follows: Refer to the information for Sundahl Company above.

Vertical Analysis Sundahl Company's income statements for the past 2 years are as follows: Refer to the information for Sundahl Company on the previous page.

Horizontal Analysis Cuneo Company's income statements for the last 3 years are as follows: Refer to the information for Cuneo Company above.

Vertical Analysis Cuneo Company's income statements for the last 3 years are as follows: Refer to the information for Cuneo Company above.

Current Ratio and Quick (Acid-Test) Ratio Jordan Company provided the following information:

Current Ratio and Quick (Acid-Test) Ratio Upton Company has current assets equal to $3,600,000. Of these, $1,100,000 is cash, $1,300,000 is accounts receivable, and the remainder is inventories. Current liabilities total $3,000,000.

Average Accounts Receivable, Accounts Receivable Turnover Ratio, Accounts Receivable Turnover in Days Knowlton Company had net sales of $3,906,000. Knowlton had the following balances:

Average Accounts Receivable, Accounts Receivable Turnover Ratio, Accounts Receivable Turnover in Days Whalen Company had net sales of $6,500,300. Whalen had the following balances:

Average Inventory, Inventory Turnover Ratio, Inventory Turnover in Days Belt Company had net sales of $2,225,500,000 and cost of goods sold of $1,557,850,000. Belt had the following balances:

Average Inventory, Inventory Turnover Ratio, Inventory Turnover in Days Delater Company had sales of $3,948,340 and a gross margin of $1,859,260. Delater had beginning inventory of $53,420 and ending inventory of $62,640.

Profitability Ratios Bryce Company manufactures pet supplies. However, Bryce's electronic accounting system recently crashed and, unfortunately, only a partial recovery of the company's year-end accounting records (which included several profitability ratios) was possible. As a result, Bryce's controller, a bright young CMA named Jeanette, must compute various lost financial account balances using the recovered information listed below: • Long-term liabilities: $1,500,000 • Ending inventory is the same as beginning inventory. • Gross margin: $3,000,000 • Net sales: $8,000,000 • Accounts receivable turnover: 50 • Ending accounts receivable is the same as beginning accounts receivable. • Total liabilities: $2,000,000 • Current ratio: 2.5 •. Cash: $600,000 • Quick ratio: 2.0 • Inventory turnover in days: 3.65

Times-Interest-Earned Tsao Company provided the following income statement for last year:

Ratio, Debt-to-Equity Ratio Busch Company's balance sheet shows total liabilities of $510,900, total equity of $126,000, and total assets of $636,900.

Times-Interest-Earned Ratio, Debt Ratio, Debt-to-Equity Ratio Juroe Company provided the following income statement for last year: Juroe's balance sheet as of December 31 last year showed total liabilities of $10,250,000, total equity of $6,150,000, and total assets of $16,400,000. Refer to the information for Juroe Company above.

Return on Sales Juroe Company provided the following income statement for last year: Juroe's balance sheet as of December 31 last year showed total liabilities of $10,250,000, total equity of $6,150,000, and total assets of $16,400,000. Refer to the information for Juroe Company above.

Average Total Assets, Return on Assets Juroe Company provided the following income statement for last year: Juroe's balance sheet as of December 31 last year showed total liabilities of $10,250,000, total equity of $6,150,000, and total assets of $16,400,000. Refer to the information for Juroe Company above. Also, assume that Juroe's total assets at the beginning of last year equaled $17,350,000 and that the tax rate applicable to Juroe is 40%.

Average Common Stockholders' Equity, Return on Stockholders' Equity Rebert Inc. showed the following balances for last year: Rebert's net income for last year was $3,182,000. Refer to the information for Rebert Inc. above.

Earnings per Share, Price-Earnings Ratio Rebert Inc. showed the following balances for last year: Rebert's net income for last year was $3,182,000. Refer to the information for Rebert Inc. above. Also, assume that the market price per share for Rebert is $51.50.

Dividend Yield Ratio, Dividend Payout Ratio Rebert Inc. showed the following balances for last year: Rebert's net income for last year was $3,182,000. Refer to the information for Rebert Inc. above. Also, assume that the dividends paid to common stockholders for last year were $2,600,000 and that the market price per share of common stock is $51.50.

Liquidity Analysis The following selected information is taken from the financial statements of Arnn Company for its most recent year of operations: During the year, Arnn had net sales of $2.45 million. The cost of goods sold was $1.3 million.

Leverage Ratios Grammatico Company has just completed its third year of operations. The income statement is as follows: Selected information from the balance sheet is as follows:

Profitability Ratios The following information has been gathered for Malette Manufacturing: Assume that the firm has no common stock equivalents. The tax rate is 34%.

Horizontal Analysis Mike Sanders is considering the purchase of Kepler Company, a firm specializing in the manufacture of office supplies. To be able to assess the financial capabilities of the company, Mike has been given the company's financial statements for the 2 most recent years. Refer to the information for Kepler Company above.

Vertical Analysis Mike Sanders is considering the purchase of Kepler Company, a firm specializing in the manufacture of office supplies. To be able to assess the financial capabilities of the company, Mike has been given the company's financial statements for the 2 most recent years. Refer to the information for Kepler Company above.

Liquidity Ratios Mike Sanders is considering the purchase of Kepler Company, a firm specializing in the manufacture of office supplies. To be able to assess the financial capabilities of the company, Mike has been given the company's financial statements for the 2 most recent years. Mike Sanders is considering the purchase of Kepler Company, a firm specializing in the manufacture of office supplies. To be able to assess the financial capabilities of the company, Mike has been given the company's financial statements for the 2 most recent years. Refer to the information for Kepler Company above.

Analysis of Accounts Receivable and Credit Policy Based on customer feedback, Ted Pendleton, manager of Gray Company, which produces photo supplies, decided to grant more liberal credit terms. Ted chose to allow customers to have 60 days before full payment of the account was required. From 2010 through 2012, Gray's credit policy for sales on account was 2/10, n/30. In 2013, the policy of 2/10, n/60 became effective. By the end of 2014, Gray was beginning to experience cash flow problems. Although sales were strong, collections were sluggish, and the company was having a difficult time meeting its shortterm obligations. Ted noted that the cash flow problems materialized after the credit policy was changed and wondered if there was a connection. To help assess the situation, he gathered the following data pertaining to the collection of accounts receivable (balances are end-of-year balances; the 2010 balance was the same as that in 2009):

Profitability Analysis for an Investment Decision Suppose that you are considering investing in one of two companies, each in the same industry. The most recent income statements for each company and other relevant information are as follows:

Manipulation of Ratios and Ethical Behavior Pete Donaldson, president and owner of Donaldson Mining Supplies, was concerned about the firm's liquidity. He had an easy time selling supplies to the local coal mines but had a difficult time collecting the receivables. He had even tried offering discounts for prompt payment. The outcome wasn't as expected. The coal mines still took as long to pay as before but took the discount as well. Although he had complained about the practice, he was told that other suppliers would provide the supplies for the same terms. Collections were so slow that he was unable to pay his own payables on time and was receiving considerable pressure from his own creditors. The solution was a line of credit that could be used to smooth his payment patterns. Getting the line of credit was another matter, however. One bank had turned him down, indicating that he already had too much debt and that his short-term liquidity ratios were marginal. Pete had begun the business with $5,000 of his own capital and a $30,000 loan from his father-in-law. He was making interest payments of $3,000 per year to his father-in-law with a promise to pay the principal back in 5 years (3 years from now). While mulling over his problem, Pete suddenly saw the solution. By changing accountants, he could tell the next accountant that the $30,000 had been donated to the business and therefore would be reclassified into the equity section. This would dramatically improve the debt ratio. He would simply not disclose the $3,000 annual payment-or he could call it a dividend. Additionally, he would not tell the next accountant about the $6,000 of safety gear that was now obsolete. That gear could be added back, and the current ratio would also improve. With an improved financial statement, the next bank would be more likely to grant the needed line of credit.

Interpreting the Meaning of Ratios from the Financial Statements Using the Internet, locate the most recent financial statements for two companies from the same industry. Find (or calculate) the ratios listed below, and compare the two companies. (If you cannot calculate a particular ratio, explain why.) Which company do you think is performing better? Why? Ratios: a. Current ratio b. Quick ratio c. Accounts receivable turnover ratio d. Inventory turnover ratio e. Turnover in days f. Times-interest-earned ratio g. Debt ratio h. Debt-to-equity ratio i. Return on sales j. Return on assets k. Return on stockholders' equity l. Earnings per share m. Price-earnings ratio n. Dividend yield o. Dividend payout ratio