Ch.2 financial statements
Which of the following is the balance sheet equation?
Assets equal liabilities plus stockholders' equity.
Which of the following is NOT a component of cash flow from assets?
Financing expenses
Tremonti, Inc., is obligated to pay its creditors $8,900 during the year. a.What is the value of the shareholders' equity if assets equal $10,300? b.What is the value of the shareholders' equity if assets equal $7,900?
a) (10,300 - 8,900) = $1,400 b) (7,900 - 8,900)= $0
The cash flow identity states that cash flows from ______ should equal cash flows to creditors and equity investors.
assets
Shareholders' equity equals ________________.
assets minus liabilities
Cash flow to stockholders equals ____.
dividends paid minus net new equity raised
The last item (or "bottom line") on the income statement is typically the _________.
net income
Stockholders' equity is always shown on the ______ of the balance sheet.
right side
Financial leverage refers to a firm's _________.
use of debt in its capital structure
True or false: Free cash flow is also known as cash flow from assets.
true
Interest paid _____ (Plus/Minus) net new borrowing equals cash flow to creditors.
minus
Net working capital will be negative when current assets ______ current liabilities.
are less than
Long-term liabilities represent obligations of the firm lasting more than _____.
1 year
What does shareholders' equity represent?
A residual claim against the firm's total assets
Which one of these is considered to be the most liquid?
Accounts receivable
Which of the following is shown on the left hand side of the balance sheet?
Assets
The December 31, 2018, balance sheet of Justin's Golf Shop, Inc., showed current assets of $1,035 and current liabilities of $880. The December 31, 2019, balance sheet showed current assets of $1,250 and current liabilities of $925. What was the company's 2019 change in net working capital, or NWC?
Change in NWC = NWC end - NWC beg Change in NWC = (CA end - CL end) - (CAbeg - CLbeg) Change in NWC = ($1,250 - 925) - ($1,035 - 880) Change in NWC = $170
Which one of the following is true?
Cash flows can be derived from financial statements.
Which of the following is an example of a non-cash item on an income statement?
Depreciation
______ paid minus net new equity raised equals cash flow to stockholders.
Dividend
True or false: Current assets plus current liabilities equals net working capital.
False
The common set of standards and procedures by which audited financial statements are prepared are called:
Generally Accepted Accounting Principles (GAAP)
Benson, Inc., has sales of $39,930, costs of $13,110, depreciation expense of $2,710, and interest expense of $1,970. The tax rate is 24 percent. What is the operating cash flow, or OCF?
Income Statement Sales$39,930 - Costs 13,110 - Depreciation 2,710 ----------------------- EBIT $24,110 - Interest 1,970 ------------------------ Taxable income $22,140 Taxes rate *(24%) =5,314 $22,140-$5,314 --------------------------- Net income $16,826 OCF = EBIT + Depreciation - Taxes OCF = $24,110 + 2,710 - 5,314 OCF = $21,506
Which of the following are classified as liabilities on a firm's balance sheet?
Long-term debt Accounts payable
Which of the following are components of cash flow from assets?
Operating cash flow Change in net working capital Capital spending
Who is entitled to the residual value of a firm's cash flows?
Shareholders
Duela Dent is single and had $187,200 in taxable income. Use the rates from Table 2.3. a.What is the average tax rate? b.What is the marginal tax rate?
Taxes = .10($9,525) + .12($38,700) + .22($82,500) + .24(157,500) + .32($187,200 - 157,500) Taxes = $37300.50 Avg Tax Rate = Total Tax/Taxable Income Avg Tax Rate = $37300.50/$187,200 =0.1649=16.49% Marginal tax rate = 32% (the tax rate on the next dollar of income)
On which side of the balance sheet do liabilities appear?
The right side
What is the purpose of the income statement?
To measure performance over a set period of time
Long-term liabilities are not due in the current year (from the date of the balance sheet).
True
True or false: Dividends paid minus net new equity raised equals cash flow to stockholders.
True
True or false: Interest paid minus net new borrowing equals cash flow to creditors.
True
______ changes as the output of the firm changes.
Variable cost
Net earnings refers to income earned ______.
after interest and taxes
In the long-run, costs may be considered as ________.
all variable
The short run is ______.
an imprecise period of time
On the balance sheet, assets are listed at their _____ value.
book
The short run is a period when there are ______ costs.
both fixed and variable
In finance, the value of a firm depends on its ability to generate ______.
cash flows
Tax rates for propietorships, partnerships, and LLCs __________ with the passage of the Tax Cuts and Jobs Act of 2017.
changed
Product costs are usually shown on the income statement under the heading of _________________ .
cost of goods sold
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
When a firm smooths earnings to please investors, it is called ________.
earnings management
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
The GAAP matching principle requires revenues to be matched with:
expenses
Non-cash items are ______ that ____ cash flow.
expenses; do not directly affect
True or false: For financial analysis, financial statements and accounting numbers are more important than cash flows.
false
True or false: With the passage of the Tax Cuts and Jobs Act of 2017, corporate tax rates went up.
false
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
Costs that do not change in the short run arise because of ______.
fixed commitments
Under GAAP, assets are generally carried on a firm's balance sheet at ________.
historical cost book value
Cash flow to creditors equals:
interest paid minus net new borrowing
Period costs are the costs that are allocated to a specific ______.
interval of time
Current assets are classified as relatively _______; these assets can be converted to cash within the next 12 months.
liquid
The price at which willing buyers and sellers would trade is called ______ value.
market
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
Current assets _______ (plus/minus) current liabilities equals NWC.
minus
Non-cash items are expenses that directly affect _____ but do not directly affect ______.
net income; cash flow
A primary reason that accounting income differs from cash flow is that an income statement contains ______.
noncash items
The cash flow that results from the firm's day-to-day activities of producing and selling is called:
operating cash flow
Costs incurred during a particular time period that might be reported as selling, general, and administrative expenses are also known as:
period costs
Ending net fixed assets minus beginning net fixed assets ______ depreciation equals net investment in fixed assets.
plus
Ending net fixed assets minus beginning net fixed assets _______ depreciation equals net investment in fixed assets.
plus
In practice, accountants tend to classify costs as either ______ costs or _______ costs.
product; period
Physical assets are termed ______________ assets.
tangible
Operating cash flow (Select all that apply.)
tells us whether or not a firm's cash inflows from its operations are sufficient to cover its everyday cash outflows is a sign of trouble if negative over a long period of time
The market value of an item is:
the cash value you'd get if you sold it
Cash flow refers to _____.
the difference between the number of dollars that came in and the number that went out
Changes in capital spending can be negative if
the firm sold more fixed assets than it purchased
How is the average income tax rate computed?
Total tax bill / Total taxable income
Which of these questions can be answered by reviewing a firm's balance sheet?
What is the total amount of assets the firm owns? How much debt is used to finance the firm?
According to GAAP, when is income reported?
When it is earned or accrued
A balance sheet reflects a firm's:
accounting value on a specific date
Amounts not yet collected from customers on sales already made are called:
accounts receivable
Liquidity refers to the ease of changing _____.
assets to cash
A company's ______ tax rate is its tax bill divided by its total taxable income, and its ______ tax rate is the tax rate it pays on the next dollar of income.
average; marginal
Non-cash items do not affect:
cash flow
Assets can be categorized as (select all that are appropriate)
current and fixed assets tangible and intangible assets
On a balance sheet, total assets must always equal total liabilities plus:
shareholders' equity
U.S. corporations pay tax at a rate of _____ percent. (number only.)
21
According to the current U.S. corporate tax code, the corporate tax rate in effect for 2019 is:
21%
What is depreciation?
A systematic expensing of an asset based on the asset's estimated life
Prepare a balance sheet for Alaskan Peach Corp. as of December 31, 2019, based on the following information: cash = $208,000; patents and copyrights = $862,000; accounts payable = $281,000; accounts receivable = $268,000; tangible net fixed assets = $5,250,000; inventory = $553,000; notes payable = $174,000; accumulated retained earnings = $4,736,000; long-term debt = $1,100,000.
Balance Sheet: Assets Cash $208,000 accounts receivable $268,000 Inventory $553,000 Current assets $1,029,000 Tangible net fixed assets $5,250,000 Intangible net fixed assets (patents and copyrights) $862,000 Total assets $7,141,000 Liabilities Accounts payable $281,000 Notes payable $174,000 Current liabilities $455,000 Long-term debt $1,100,000 Total liabilities $1,555,000 common stock $ accumulated retained earnings $4,736,000 total liabilities & owners' equity $7,141,000
What should you keep in mind when examining an income statement?
GAAP cash versus non-cash items time and costs
True or false: Operating cash flow does not include depreciation or interest.
True
According to GAAP, when is revenue recognized on an income statement?
When the earnings process is virtually completed When the value of an exchange of goods or services is known or reliably determined
Net capital spending is negative when:
a firm sold off more assets than it purchased
Grey Wolf, Inc., has current assets of $2,190, net fixed assets of $9,500, current liabilities of $1,360, and long-term debt of $4,000. a.What is the value of the shareholders' equity account for this firm? b.How much is the company's net working capital?
a)$6330 (current assets+net fixed assets)-(current liabilities+long-term debt) b)$830 (Current assets-current liabilities)
Rank the ease (from easiest to hardest) of turning the following assets into cash.
cash equivalents accounts receivable inventory plant and equipment
The cash flow identity states that cash flow from assets equals cash flows to ____.
creditors and stockholders
Liabilities can be classified as _______ or long-term.
current
For financial decision-making purposes, the most important tax rate is the ______ tax rate.
marginal
Earnings management is a controversial practice in which corporations ________ or ___________ their earnings to "smooth out" dips and surges and keep investors calm.
overstate; understate
A positive operating cash flow indicates that the firm is generating enough cash to:
pay everyday cash outflows.
Liquidity has two dimensions which are the ability to:
quickly convert assets into cash without significant loss in value
Common stockholders are entitled to the difference between ______ and ________.
total assets; total liabilities
Free cash flow is better described as ____.
total distributable cash flow
Current assets are defined as assets that can be turned into cash within ______ months.
twelve
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
Sidewinder, Inc., has sales of $690,000, costs of $342,000, depreciation expense of $87,000, interest expense of $52,000, and a tax rate of 24 percent. The firm paid out $82,000 in cash dividends.
Addition to retained earnings: Income Statement Sales$690,000 - Costs 342,000 - Depreciation 87,000 ------------------------ EBIT $261,000 - Interest $52,000 ---------------------- Taxable income $209,000 Tax rate *(24%) Taxes = $50,160 ------------------------- Net income $158,840 The dividends paid plus the addition to retained earnings must equal net income, so: Net income = Dividends + Addition to retained earnings $158,840 = $82,000 + Addition to retained earnings Addition to retained earnings = $158,840 - 82,000 Addition to retained earnings = $76,840
True or false: Ending net fixed assets plus beginning net fixed assets minus depreciation equals net investment in fixed assets.
False
The purpose of a(n) ______ is to measure performance over a set period of time.
income statement
The three most important items to keep in mind when reviewing an income statement are:
GAAP, cash versus noncash items, and time and costs
Assets 2018 2019 Current assets $3,034 $3,224 net fixed assets $13,917 $ 14,498 Liabilities & owners' equity current liabilities $1,321 $1,948 long-term debt $7,221 $8,276 2019 income statement Sales $44,805 Cost $22,457 Depreciation $3,807 Interest paid $1,021
a)What is owners' equity for 2018 and 2019? for 2018: (3,034+13,917)-(1,321+7,221) =$8409 For 2019: (3,224+14,498)-(1,948+14,498) =$7,498 b)What is the change in net working capital for 2019? c)In 2019, the company purchased $7,921 in new fixed assets. The tax rate is 25 percent. How much in fixed assets did the company sell? 14,498 - 13,917 +3,807 = $4,388 7,921-4,388 = $3,533 in fixed assets d)What is the cash flow from assets for the year? Income Statement Sales $44,805 Costs 22,457 Depreciation expense 3,807 EBIT $ 18,541 Interest expense 1,021 EBT $ 17,520 Taxes (25%) $4,380 Net income $13,140 So, the operating cash flow is: OCF = EBIT + Depreciation - Taxes = $18,541 + 3,807 - 4,380 = $17,968 And the cash flow from assets is: Cash flow from assets = OCF - Change in NWC - Net capital spending. = $17,968 - ? - 4,388 = $ d)During 2019, the company raised $2,401 in new long-term debt. What is the cash flow to creditors? 8,276-7,221= $1,055 $,1021-$1,055= $-34 Debt retired $2,401-$1,055= $1,346
