Finance Unit 4
If the Federal marginal tax bracket is 34%, teh state marginal tax bracket is 5%, and the local marginal tax bracket is 1%, how much money will a corporation keep if it makes another $1,000,000 in taxable income?
$600,000 (1-0.34-0.05-0.01) * $1mil
Suppose Pharrell, Inc. paid out $43,000 in cash dividends. What is the addition to retained earnings?
$83,750
Which of the following is the correct representation of the cash coverate ratio? - (Ebit + depreciation)/ interest expense - total intereset expense / total cash - EBIT / interest expense - total cash/ total interest expense
(Ebit + depreciation)/ interest expense
Which of the following are traditional financial ration categories? - competition rations - profitability ratios - financial leverage rations - turnover ratios - real options ratios
- profitability ratios - financial leverage rations - turnover ratios
Which of the following create problems with financial statment analysis? - the firm and its competitors operate under different regulatory environments - the firm or its competitors are conglomerates - the firm or its competitors are global companies - the firm and its competitors are approximately the same size
- the firm and its competitors operate under different regulatory environments - the firm or its competitors are conglomerates - the firm or its competitors are global companies
The debt equity ratio for a company with $1 million in total debt and $2million in equity is
0.50
What are the 5 categories financial ratios are traditionally grouped into?
1. Short- term solvency, or liquidity, ratios 2. long-term solvency, or financial leverage, ratios 3. Asset management, or turnover, ratios 4. profitability ratios 5. market value ratios
Vera's has earnings per share of $3 and dividends per share of $1.20. The stock sells for $30 a share. What is the PE ratio
10 times $30/$3 = 10 times
A firm has an operating profit (EBIT) of $600 on sales of $1000. Interest expense is $250 and taxes are $120. What is the times interest earned ratio?
2.40 $6000/$250 = 2.40
What is depreciation?
A systematic expensing of an asset based on the asset's estimated life
Which term is on the left hand side of the balance sheet?
Assets
4 examples of short-term assets
Cash Marketable Securities Inventory Accounts Receivable
What does equity comprise of on the balance sheet?
Common stock Retained earnings ______________________ Total equity
Net working capital equals
Current assets minus current liabilities
generally large investments are not liquid, in that they cannot easily be disposed of at full value
Long-term Asset
How is the price-earnings (PE) ratio computed?
Market price per share / Earnings per share
_______ Stock - has a higher/preferred claim on the companys profits before common stock
Preferred Stock
What goes on the LEFT side of the balance sheet for Long-term assets & claims?
Property plant, equipment (less accumulative depreciation) Intangibles _________________ Total Fixed Assets
T/F - Accountants record inventory, a short-term asset, at its cost. Once an item is sold, it is moved from the inventory account to the accounts receivable account.
T
T/F - common stock may be paid out in dividends or retained and reinvested in the company
TRUE
T/F - operating cash flow does not include depreciation or interest
TRUE
Total Assets =
Total Current assets + Total Fixed assets
Total Assets =
Total Liabilities + Total Stockholder equity
Net working capital will be negative when current assets _____ current liabilities
are less than
Non-cash items do not affect
cash flow
In Finance, the value of a firm depends on its ability to generate ______
cash flows
Interest payment =
debt value * interest rate
When a firms smooths earnings to please investors, it is called
earnings management
Short-term assets are listed by their ___________ —the ease with which they can be converted into cash
liquidity
Whenever ____ information is available, it should be used instead of accounting data
market
Which of the following items is added back to EBIT while calculating the cash coverage ratio, but not while calculating the time interest earned ratio?
non-cash expenses
Return on equity (ROE) is a measure of ______ - leverage - profitability - liquidity - utilization
profitability
Short-term assets and claims have a life of one year or less.
Current Assets
3 primary categories of short-term claim accounts
accounts payable notes payable accrued expenses payable
Shareholders' equity equals
assets minus liabilities
What are the two types of stock
common and preffered
The cash flow identity states that cash flow from assets equals cash flows to ______
creditors and stockholders
The current ratio computes the relationship between ______
current assets and current liabilities
The cash ratio is found by dividing cash by:
current liabilities
Cash flow to stockholders is defined as:
dividends paid minus net new equity raised
The marginal tax rate is adjusted on a marginal basis, meaning that______
if you earn more, you pay more taxes at a higher tax rate.
Cash flow to creditors equals
interest paid minus net new borrowing
The price-earnings (PE) ratio is a _____ ratio. - leverage - liquidity - turnover - market value
market value
How is the market-to-book ratio measured?
market value per share / book value per share
The ____________ principle of GAAP states that costs associated with a good or service should be recorded at the same time as the revenue from selling that good or service
matching
The corporate tax structure in the U.S. is based on a
modified flat-rate tax
Shareholders equity is equal to
net fixed assets minus long-term debt plus net working capital
The last item (or "bottom line") on the income statement is typically the
net income
What are the two ways investors can measure performance
net income net cash flow
What are the three major questions a manager must make
• the product question • the production decision • the financial decision
If ending net fixed assets are $100, beginning net fixed assets are $60, and depreciation is $10 then the change in capital spendin is?
$50
Which of the following would help a company take action to improve its ratios? - Comparing to aspirant companies - comparing to DOW 30 companies - Comparing to its own historical ratios - Comparing to peer companies - Comparing to major competitors
- Comparing to its own historical ratios - Comparing to peer companies - Comparing to major competitors - Comparing to aspirant companies
Which of the following represent the receivables turnover ratio? - Accounts receivable/Costs of goods sold - Costs of goods sold/Accounts receivable - Accounts receivables/Sales - Sales/Accounts Receivable
- Sales/Accounts Receivable
AD corporation had sales of $750,000 and costs of goods sold of $350,000. Inventory at year end was $87,500. The firms inventory turnover is ______
4.00 4.00 = $350,000/87,500
Better Life Corporation has sales of $500,000 on assets of $2 million. At year end accounts receivable were still 5% assets. The firms receivable turnover is _____ times
5
What goes on the RIGHT side of the balance sheet for SHORT-TERM ASSETS & CLAIMS?
Accounts payable Notes payable Accrued expenses payable Taxes payable ______________________________________ Total Current LIabilities
involves assets and claims at a certain point in time and is often split into short term and long term items
Balance Sheet
Four primary categories of short-term assets
Cash Marketable Securities Inventory Accounts Receivable
What goes on the LEFT side of the balance sheet for SHORT-TERM ASSETS & CLAIMS?
Cash Marketable securities Accounts recievable Inventory ____________________________ Total current assets
The alloacation of cost that represents the wear and tear on the production asset
Depreciation
_____ means allocating a capital asset's expense over the projected life of the asset.
Depreciation
In comparing accounting net income and operating cash flow, what two items do you find in net income that are not in operating cash flow? Explain what each is and why it is excluded in operating cash flow.
Depreciation: the wearing out of an asset over time, which means it loses value. In comparing accounting net income and operating cash flow, what two items do you find in net income that are not in operating cash flow? Explain what each is and why it is excluded in operating cash flow. Interest expense: Financial expenses involve paying interest on borrowed funds. This interest payment is recognized as an accounting expense and as a cash outlay, but it's a financing cost, not an operating cost.
businesses may store some of their liquid purchasing power in short-term investments. These earn interest, but can be quickly liquidated. EX Treasury Bills, commercial paper, certificates of deposits and bankers'
Marketable Securities
Which of the following is the balance sheet equation? Stockholders' equity equals assets plus liabilities Assets equal stockholders' equity minus liabilities assets equal liabiliites plus stockholders' equity liabilities equal asset plush stockholers' equity
assets equal liabiliites plus stockholders' equity
The financial statement that summarizes a firm's accounting value as a particular date is called the
balance sheet
On the balance sheet, assets are listed at their
book value
Under GAAP, assets are generally carried on a firms balance sheet at book value salvage value historical cost market value
book value historical cost
The short run is a period when there are __________ costs
both fixed and variable
Cash flow to stockholders equals
dividends paid minus net new equity raised
Interest payments are considered a ____ which are tax deductible
business expense
Highly liquid assets
can be sold quickly at close to full value
A positive operating cash flow indicates that the firm is generating enough cash to: - pay out a dividend - repurchase stock - pay operating costs -create valueable projects
pay operating costs
Return on assets (ROA) is a measure of ______ - leverage - profitability - liquidity - utilization
profitability
Liquidity has two dimensions which are the ability to
quickly convert assets into cash without significant loss in value
The average income tax rate is
the average tax rate you pay on total income.
Common stockholders are entitled to the difference between
total assets and total liabilities
Total liability & stockholder equity =
total current liabilities + total long-term liabilities + total equity
Free cash flow is better described as
total distributable cash flow
Long-term solvency ratios are also known as
financial leverage ratios
Costs that do not change in the short run arise because of
fixed commitments
In preparing a balance sheet, why do you think standard accounting practices focuses on historic costs rather than market values?
historical costs, which can be measured and reflect market values at the time the asset is obtained, are considered more objective and not subjective to estimation errors, or inflate by managers to make them look better. estimated market values for many assets are uncertain.
Describe a progressive tax system
income is divided into brackets higher income facing higher tax rates. So the extra income generated from a project will be taxed at the highest marginal tax rate faced by the company (marginal tax rate)
The purpose of an ______ is to measure performance over a set period of time
income statement
managers must decide what a company produces for its customers, how the company will produce what it offers to customers, and how it obtains capital to support the organization. These decisions are recorded in the _______
income statement
The difference between accounting revenues and accounting expenses recorded using GAAP and accrual method
Net income
The taxable income
Net profit before tax (NPBT)
measures the difference between assets that will turn into cash within a year and claims that must be paid with cash within a year.
Net working Capital (NWC)
The more debt a firm has, the greater its
Degree of financial leverage
Net capital spending is equal to the change in net fixed assets plus:
Depreciation
If dividends are $100, stock sold is $10, and stock repurchased is $25, what is the cash flow to stockholders?
$115
Pharrell, Inc. has sales of $634,000, costs of$328,888, depreciation expense of $73,000, interest expense of $38,000, and a tax rate of 35 percent. What is the net income for this firm?
$126,750
Andre's Dog House had current assets of $67,200 and current liabilities of $71,100 last year. This year, the current assets are $82,600 and the current liabilities are $85,100. The depreciation expense for the past year is $9,600 and the interest paid is $8,700. What is the amount of the change in net working capital?
$1400
Pharrell, Inc., has sales of $591,000, costs of $267,000, depreciation expense of $68,000, interest expense of $35,000, and a tax rate of 30 percent. What is the net income for this firm?
$154700
Hailey, Inc., has sales of $38,530, cost of $12,750, depreciation expense of $2,550, and interest expense of $1,850. If the tax rate is 35%, what is the operating cash flow, or OCF?
$18,297
ast year, The Pizza Joint added $6,230 to retained earnings from sales of $104,650. The company had costs of $87,300, dividends of $2,500, and interest paid of $1,620. Given a tax rate of 34 percent, what was the amount of the depreciation expense?
$2503
Wes Motors has total assets of $98,300, net working capital of $11,300, owners' equity of $41,600, and long-term debt of $38,600. What is the value of the current assets?
$29400
AV Sales has net revenue of $513,000 and costs of $406,800. The depreciation expense is $43,800,interest paid is $11,200, and dividends for the year are$4,500. The tax rate is 33 percent. What is the addition to retained earnings?
$29804
Rotweiler Obedience school's December 31, 2015, balance sheet showed net fixed assets of $1,975,000, and the December 31, 2016, balance sheet showed net fixed assets of $2,134,000. The company's 2016 income statement showed a depreciation expense of $325,000. What was the company's net capital spending for 2016?
$484000
ANC Plastics has net working capital of $15,400, current assets of $39,200, equity of $46,600, and long-term debt of $22,100. What is the amount of the net fixed assets?
$53300
The December 31, 2015, balance sheet of Schism, Inc., showed long-term debt of $1,440,000, $148,000 in the common stock account, and $2,730,000 in the additional paid-in surplus account. The December 31, 2016, balance sheet showed long-term debt of $1,660,000, $158,000 in the common stock account, and $3,030,000 in the additional paid-in surplus account. The 2016 income statement showed an interest expense of $98,000 and the company paid out $153,000 in cash dividends during 2016. The firm's net capital spending for 2016 was $1,040,000, and the firm reduced its net working capital investment by $133,000. What was the firm's 2016 operating cash flow, or OCF?
$628000
For the year, Movers United has net income of $31,800, net new equity of $7,500, and an addition to retained earnings of $24,200. What is the amount of the dividends paid?
$7600
If interest paid is $100 and net new borrowing is $150, then cash flow to creditors equals?
- $50
Which of the following is (are) true of financial ratios? -Always reflect market values - are developed from a firms financial information - are used for comparison purposes - use only balance sheet data - are computed in the same manner by all firms
- are developed from a firms financial information - are used for comparison purposes
Marginal tax rates are the most important tax rates because: - financial decisions are usually based on new cash flows - incremental cash flows are taxed at marginal tax rates -financial decisions are usually based on previous changes in cash flows - because the IRS says so
- financial decisions are usually based on new cash flows - incremental cash flows are taxed at marginal tax rates
The inventory turnover ratios for PRoctor and Gamble over the past three years are 5.09, 5.72, and 5.92 times respectively. Explaining the upward trend in the inventory turnover ratio requires: - A congressional investigation - redundant safety measures - Examination of whether the increase is due to declining inventory or increaseing sales - an audit by a CPA - further investigation
- further investigation - Examination of whether the increase is due to declining inventory or increaseing sales
For a mature firm, operating cash flow: - is usually negative - cannot be positive for long periods - is usually positive - isa sign of trouble if negative over a long period of time
- is usually positive - isa sign of trouble if negative over a long period of time
The Three most guiding principles of accounting are
1) The accrual method/matching principle 2) The realization principle 3) The cost principle
What questions do you ask when making the production decision
1) What costs do you face? - are there vairable costs 2) What are the fixed costs? 3) Is there depreciation?
BC Toys has total equity of $584,000. There are 35,000 shares outsdanding at a market price of $54 per share. What is the market- to book ratio
3.24 $54/($584000/35000) = 3.24
BC Corproation has 1,800 shares outstanding and earned $2,700 last year on assets of $2 million and equity of $1.5 million. What is the PE ratio if the stock is currently selling at $18 per share?
12 times PE ratio = Price per share/ Earnings per share $18/ ($2700/1800))
According to the originators of the current US corporate tax code, the only rates are:
15%, 25%, 34%, 35%
Nestor's has income of $315,000, total sales of $3.52 million, total assets of $4.4 million, and total equity of $1.98 million. What is the return on equity?
15.91% (315,000 / 1.98 million)
AD Corproation has net income of $425,000 and total sales of $2.5 million. The firms profit margin is ____ %
17 $425000/$2.5 milion
A firm had operating profit (EBIT) of $300,000 on sales of $500,000. Interest expense was $125,000 and taxes were $60,000. The company has a ties interest earned ratio of
2.40 TIE ratio = $300,000/$125,000 = 2.40
Omega CO. has annual sales of $250,000, costs of goods sold of $168,000, and assets of $322,000. Accounts receivable are $86,200. What is the recievables turnover
2.90 $250,000/ $86,200
AC motors has net income of $51,750, total assets of $523,400, total debt of $267,000 and total sales of $491,300. What is the return on equity?
20.18% ROE = NI/Equity Equity = assets-debt
Alder Inc. has net income of $403,000 operating earnings of $640,000 sales of $1.23 million and total assets of $1.48 million. What is the return on assets?
27.23% 403,000/1.48 mill = 27.23
Days' sales in receivables is given by what ratio:
365/Receivables turnover
Dividends are considered a distribution of profits to shareholders and (ARE/ARENOT) a tax-deductible business expense, meaning the income statement ends up as this
ARENOT
Companies establish accounts with their suppliers. it's a short-term credit for resources
Accounts Payable
Examples of Short-Term Claims
Accounts Payable Notes Payable Working for an employer, you don't get paid everyday
A customer has yet to pay the bill for products purchased from Firm A on credit. This customer's trade credit is recorded in which of Firm A's balance sheet accounts?
Accounts Receivable
short-term credit to their customers, called trade credit.
Accounts Receivable
What are the two tax rates involved with income?
Average tax rates and marginal tax rates
Rank the ease (from easiest to harest) of turning the following assets into cash Cash equivalents accounts receivable inventory plant and equipment
Cash equivalents accounts receivable inventory plant and equipment
What should you keep in mind when examining an income statement? Cash versus non-cash items time and costs asset composition GAAP
Cash versus non-cash items time and costs GAAP
________ stock common shareholders have the right to all profits after the other claimants have been satisfied
Common
A company supports its operations by taking on claims against its assets. These are claims that must be paid within a year.
Current Claims
Assets can be categorized as Current and fixed assets tangible and intangible assets fixed and variable assets short-term and long-term equity
Current and fixed assets tangible and intangible assets
What goes on the Right side of the balance sheet for Long-term assets & claims?
Defered taxes Long-term debt _____________- Total long-term liabilities
Suppose Pharell, Inc. had 35,000 shares of common stock outstanding. What is the earnings per share, or EPS, figure? What is the dividends per share figure?
EPS = $3.62 per share DPS = $1.23 per share
the firm's income prior to interest payments and taxes
Earning Before Interest and Taxes (EBIT)
Which of the following are classified as fixed assets on the balance sheet? Cash Equipment Building Land
Equipment Building Land
Depreciation is the accountant's estimate of the cost of _____ used in the production process matched with the benefits produced from owning it
Equipment & fixed assets
represented by shares of stock, is how much the owners of the company actually won, taking into account not only the assets of the company but also the claims against those assets
Equity
T/F - Stockholders get interest on the funds they lend to the company. Bondholders get no promised payment, but do have the right to receive all income, profits, after all other obligations of the company have been satisfied.
FALSE - bondholders get interest on the funds they lend to the company
T/F - Depreciation is recognized as an accounting expense, and thus is NOT tax-deductible
FALSE - is tax-deductible
T/F - Equity is liability, not ownership, of the company
FALSE - ownership not liability
T/F - Common stockholders receive dividends before preffered stockholders
FALSE - preferred receive dividends before common
T/F - for financial analysis, financial statements and accounting numbers are more important than cash flows
False - financial analysis relies on cash flows, not accounting or book numbers
_____________ are the prime source of information about a firms financial health
Financial statements
involves answering how a firm will obtain the capital for the product it wants to produce
Financing decision
Which of the following is NOT a component of cash flow from assets? - financing expenses - operating cash flow - capital spending - change in net working capital
Financing expenses
costs that do not vary with output, such as the staff and the fixed lease payment
Fixed Costs
Suppose a company's cash flow from assets was negative for a particular period. is this necessarily a good sign or a bad sign?
For a successful company that is rapidly expanding, capital outlays would typically be large, possibly leading to negative cash flow from assets. In general, what matters is whether the money is spent wisely, not whether cash flow from assets is positive or negative
a formal, standardized framework for presenting business information
Generally Accepted Accounting Principles (GAAP)
What does GAAP stand for?
Generally accepted accounting principles
What is "The Protocol Society" about?
How a protocol economy has different properties than a physical stuff economy. The success of an economy depends on its ability to invent and embrace new protocols . Economic change is fomenting intellectual change. When the economy was about stuff, economics resembled physics. When it's about ideas, economics comes to resemble psychology
Could a company's cash flow to stockholders be negative in a given year? (Hint: Yes.) Explain how this might come about. What about cash flow to creditors?
If a company raises more money from selling stock than it pays in dividends in a particular period, its cash flow to stockholders will be negative. If a company borrows more than it pays in interest, its cash flow to creditors will be negative.
The information needed to compute the profit margin can be found on the _______
Income statment because profit margin = net income/sales
Materials and products in the manufacturing process are assets of the company and recorded as inventory. It changes forms from raw materials to work-in-progress, to finished goods ready for sale. Inventory is the least-liquid of the current assets (there is no assurance that an item in inventory will actually be sold)
Inventory
Suppose a company's operating cash flow was negative for several years running. Is this necessarily a good sign or a bad sign?
It's probably not a good sign for an established company. As cash balances go down, the company faces insolvency, where it does not have the underlying value to continue operations. A company that has several years of negative cash flow would eventually run out of cash and cease to exist. On the other hand, a start-up would likely face negative cash flow for several years. The negative cash flow would be a sign of growth as the company develops its concepts into a viable product.
Which of the following are classified as liabilities on a firms balance sheet? Long-term debt Accounts Payable accounts receivable marketbale securities
Long-term debt Accounts Payable
Under standard accounting rules, it is possible for a company's liabilities to exceed its assets. When this occurs, the owners' equity is negative. Can this happen with market values? Why or why not?
Market values can never be negative. because of corporate and individual bankruptcy laws, net worth for a person or a corporation cannot be negative, implying that liabilities cannot exceed assets in market value
The difference between cash received and cash paid out
Net Cash Flow
the profit the company will make from a project
Net Income (NI)
income produced by selling units. It reflects the operating effectiveness of the managers in trunning the business
Net Operating Income (NOI
Could a company's change in NWC be negative in a given year? (Hint: Yes.) Explain how this might come about. What about net capital spending?
Net Working Capital (NWC) measures the difference between these short-term and long-term items, and should be positive. A reduction in NWC in given year could be beneficial. if a company were to become more efficient in inventory management, the amount of inventory needed would decline. or if it gets better at collecting its receivables. BUT it could be bad and reflect a decline in cash due to a decline in sales, or an increase in labor costs not matched by an increase in sales. Negative net capital spending would mean more long-lived assets were liquidated than purchased. This could be a good decision in that cash is freed up by the sale and available for other capital investments. It might also be a bad sign. The company may be in distress and selling off its productive assets to generate cash to handle current obligations. Thus, for both short-term and long-term assets, the increase or decrease in investment is not as important as the reason for it
short-term line of credit with a bank. Set up with a given limit
Notes Payable
Bear Tracks, Inc. has current assets of $2,030, net fixed assets of $9,780, current liabilities of $1,640, and long-term debt of $4,490. What is the value of the shareholders' equity amount for this firm? How much is net working capital?
Owners equity = $5,680 Net Working Capital = $390
If a company has had negative earnings for several periods they might choose to use a ______
Price - sales ratio
This decision involves determining how a device will be produced.
Production decision
A firms long-term productive assets =
Property, plant & Equipment (adjusted for accumulated depreciation) + Intangible Long-term asset
Examples of long-term assets
Property, plant, and equipment intangibles
What does Gaap allow participants to do?
Record performance establish value report information to owners, stakeholders and the government
Which one of the following equations defines the total asset turnover ratio? -Total assets/Sales -Sales/Fixed Assets -Sales/ Total assets -Current Assets/Sales
Sales/ Total assets
Who is entitled to the residual value of the firm's cash flows?
Shareholders
ANC Plastics has net working capital of $15,400, current assets of $39,200, equity of $46,600, and long-term debt of $22,100. What is the amount of the net fixed assets? How much is the company's net working capital
Shareholders' equity = $7280 Net working capital = $880
T/F - While accounting rules provide excellent guidance, they are also limited and may not always produce results that are useful in economic, market based decisions
T
T/F - Depreciation lowers taxable income and thus taxes. However, it is not a cash flow.
TRUE
T/F - While preferred shares have a fixed par value and pay dividends as a percent of that value, they do not share in any increase in firm value
TRUE
T/F -Most companies use borrowed investment capital to supplement the investment capital provided by the firms owners, the shareholders
TRUE
T/F Long-term liabilities are not due in the current year (From the date of the balance sheet
TRUE
T/F a way to establish a benchmark for ratio analysis is to identify a peer group
TRUE
the accountant records the purchase price of an asset and does not adjust this price to reflect changes in its market value (which may likely be quite variable)
The Cost Principle
Investors are interested in measuring performance which is
The ability of the managers to run the company so that there is profit/residual
The accountant matches expenses (outflows) with revenues (inflows)
The accrual method/matching principle
Referring back to the examples used at the beginning of the chapter, note that we suggested that stockholders probably didn't suffer as a result of the reported loss. What do you think was the basis for our conclusion?
The adjustments discussed were purely accounting changes; they had no cash flow or market value consequences unless the new accounting information caused stockholders to revalue the company.
What does a Times INterest Earned (TIE) Ratio of 3.5 times mean?
The companys interest obligations are covered 3.5 times by its EBIT
involves identifying the companys customers, identifying their needs, and designing products that will satisfy those needs. This decision is supported by the functional are of marketing
The product decision
The accountant recognizes revenues when a contractual obligation occurs, such as a formal sales contract where a customer purchases a product from the company
The realization Principle
What side of the balance sheet does equity go on?
The right hand side
costs vary with the level of output such as labor and energy
Variable costs
Which of these questions can be answered by reviewing a firm's balance sheet? How much net income has the firm earned this period? What is the total amount of assets the firm owns? how much debt is used to finance the firm? how much of the firms net income was paid out in dividends
What is the total amount of assets the firm owns? how much debt is used to finance the firm?
Accourding to GAAP, when is revenue recognized on an income statement? After the related expenses are paid in full When the value of an exchange of goods or services is known or reliably determined when the earnings process is virtually completed only when cash has been received for the sale
When the value of an exchange of goods or services is known or reliably determined when the earnings process is virtually completed
the quick ratio provides a more relaible measure of liquidity than the current ratio especially when the company's inventory takes ____ to sell
a long time
Why is it that the revenue and cost figures shown on a standard income statement may not be representative of the actual cash inflows and cash outflows that occurred during a period?
accounting follows the accrual/matching principles which calls for revenues and the costs associated with producing those revenues, to be "booked" when the revenue process is essentially complete, not necessarily whe the cash is collected. BC the firm is not likely to spend/invest money unless they expect to get revenue from the expidenture. It provides useful and objective information to decision makers
Firms that compile financial statements according to GAAP: - must record all expenses when incurred - record income and expenses at the time they affect the firms cash flows - record both income and expenses as soon as the amount for each can be ascertained - can still maniupluate their earnings to some degree - have no discretion over the timing of recording either revenue or expense items
can still manipulate their earnings to some degree
Non-cash items are expenses that directly affect net income but do not directly affect
cash flow
Period costs are the costs that are allocated to a specific
interval of time
What will happen to the current ratio if current assets increase, while everything else remains unchanged?
it will increase
If a company has inventory, the quick ration will always be _____ the current ratio
less than
What does liquidity measure? Explain the trade-off a firm faces between high-liquidity and low-liquidity levels.
liquidity measures how quickly and easily and asset can be converted to cash without significant loss of value. A firm needs to high high-liquidity so they can more safely met short-term creditor demands. however, it has an opportunity cost. firms need to invest in long-term, illiquid productive assets to satisfy their customers. These also reach higher returns than very liquid assets.
Examples of long-term claims
long-term debt deffered taxes
The ____ tax rate is the tax rate paid on the next dollar of income
marginal
The price at which willing buyers and sellers would trade is called
market value
The profit margin is equal to net income divided by _____
sales
The recognition principle states that:
sales should be recorded when the earnings process is virtually completed and the value of the sale can be determined
NWC =
short term assets - short term liabilities
A company supports its operations by
taking on claims against its assets. These are claims that must be paid within a year
