414 Chapter 7
Economic analysis is concerned with how the general state of the economy will impact the performance of a particular company within a particular industry.
true
Financial ratios can reveal a lot about a company's liquidity, activity, and profitability.
true
Fundamental analysis can only be profitable if some securities are at least temporarily mispriced.
true
Fundamental analysis is based on the presumption that the value of a stock is influenced by the financial performance of the issuing company.
true
Historical comparisons will reveal whether a company's performance is improving or deteriorating.
true
In addition to company reports, Value Line also publishes industry analyses.
true
In seeking potential stock investments, most analysts look for companies that have PEG ratios that are equal to or less than one.
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Markets can only be efficient if many competent analysts are performing fundamental analysis.
true
Most firms tend to be more profitable and have higher stock values when the economy is strong.
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Ratio analysis is the study of the relationships between various financial statement accounts.
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Return on assets is a very important analytical tool because it measures how effectively management is using a firm's assets to generate profits.
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Return on equity can be expressed mathematically as "(net profit margin)(total asset turnover)(equity multiplier)."
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The economy will expand more slowly if consumers decided to save more and reduce their debt levels.
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The income statement indicates how successfully a company has utilized its assets.
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The purpose of economic analysis is to gain an insight into the underlying health or vitality of the economy and to formulate expectations about future security prices.
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The statement of cash flows is less influenced than the income statement by choices of accounting methods.
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To predict the demand for an industrial sector, it is essential to understand the economic forces that affect the industry.
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When comparing companies in the same industry but of different sizes, net profit margin is more meaningful than net profit as a dollar amount.
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The measure that indicates how efficiently assets are being used to support sales is called the A) total asset turnover. B) current ratio. C) book value. D) net profit margin.
A) total asset turnover.
41) JJ Industries has a P/E ratio of 18 and an EPS of $0.93. This means that JJ's stock is currently selling for A) $16.74 per share. B) $17.07 per share. C) $18.00 per share. D) $19.35 per share.
A) $16.74 per share.
On September 30, the Simpson Company reported the following information on its financial statements. What is the amount of the stockholder's equity in the Simpson Company? A) $243,000 B) $277,000 C) $927,000 D) $3,217,000
A) $243,000
On March 31, Adolpha, Inc. reported the following information on its financial statements. What is the available net working capital for Adolpha, Inc.? A) -$253,844 B) -$132,366 C) $121,578 D) $1,873,020
A) -$253,844
On December 31, the Gold Standard Company reported the following information on its financial statements. According to this information, the company's current ratio is approximately A) 1.39. B) 1.68. C) 1.73. D) 1.90.
A) 1.39.
A company has sales of $640,000, net profit after taxes of $23,000, a total asset turnover of 4.17 and an equity multiplier of 1.67. What is the return on equity? A) 24% B) 9.0% C) 8.1% D) 4.5%
A) 24%
Quick Cement has a return on assets of 8%. If it has $1.5 million in total assets and a total asset turnover of 2, it follows that the firm must have a net profit margin of A) 4%. B) 6%. C) 8%. D) 12%.
A) 4%.
Which of the following are characteristics of an expansionary fiscal policy? I.Increased government spending on infrastructure projects. II.Reduction in defense and education budgets. III.Reduction in employment taxes. IV.Reduction in government borrowing. A) I and III only B) II and III only C) I, II and IV only D) I, II, III and IV
A) I and III only
Which of the following are measures of liquidity? I. net working capital II. accounts receivable turnover III. current ratio IV. times interest earned A) I and III only B) I, II and III only C) I, II and IV only D) I, III and IV only
A) I and III only
Marco's just reported an EPS of $1.80 on revenues of $440 million. The company has 13 million shares outstanding. Total assets are $380 million, current liabilities equal $78 million, and long-term debt is $122 million. Net fixed assets are worth $230 million. Given this information, which one of the following statements is correct? A) Marco's net working capital is $72 million. B) Marco's current ratio is 1.75. C) Marco's total asset turnover is 3.67. D) .Marco's debt-equity ratio is 0.75.
A) Marco's net working capital is $72 million.
Which of the following is most likely to increase in value as the result of a weakening dollar? A) an ADR for a foreign telecommunications company B) stock in a firm that depends heavily on imported raw materials C) stock in a firm with many accounts payable in foreign currencies D) stock in a foreign company that depends heavily on exports to the U.S.
A) an ADR for a foreign telecommunications company
Rising corporate profits are likely to have the greatest effect on which of the following industrial sectors? A) business equipment B) defense C) food and agriculture D) consumer durables
A) business equipment
Rising interest rates tend to A) contract the level of economic activity. B) increase the level of business investment. C) indicate governmental expansion of the economy. D) signal the trough of a recessionary market.
A) contract the level of economic activity.
The consumer electronics industry would be most significantly affected by A) developments in technology. B) interest rates and inflation. C) labor relations. D) government regulations.
A) developments in technology.
15) Investment analysts who believe that a thorough investigation of a company's financial condition, product development, management and other intrinsic factors can discover stocks that are priced above or below their intrinsic value are advocates of A) fundamental analysis. B) behavioral analysis. C) the efficient market hypothesis. D) technical analysis.
A) fundamental analysis.
Cash flow from operations includes all of the following adjustments to net income EXCEPT A) purchases of new equipment. B) depreciation. C) increase or decrease in current liabilities. D) increase or decrease in current inventory.
A) purchases of new equipment.
Which one of the following is a leverage measure? A) times interest earned B) net working capital C) return on equity D) net profit margin
A) times interest earned
Kim has gathered the following information on a company. What is the amount of the earnings per share? A) $0.14 B) $0.25 C) $0.28 D) $0.30
B) $0.25
Developing a general economic outlook assists in the identification of industries and firms that might be good investment opportunities.
true
A company has a net loss for the year of $(10,000,000) and a deficit (negative equity) of $(1,000,000). ROE will be A) 1000% indicating an exceptional opportunity. B) 1000% and meaningless. C) -1000% indicating that the company is in dire straits. D) 10.
B) 1000% and meaningless.
To determine whether a pharmaceutical company's profitability ratios indicate strength or weakness, we should I. compare them to others in the same industry. II. compare them to companies in unrelated industries such as energy or banking. III. compare them to previous years. IV. compare them to absolute standards established by the CFA Institute. A) I and II only B) I and III only C) III and IV only D) IV only
B) I and III only
Which of the following is a readily available source of industry comparisons? I. Standard & Poor's II. MSN Money, Yahoo Finance and other financial portals III. Mergent (Moody's) IV. The Wall Street Journal A) I and II only B) I, II and III only C) III and IV only D) II, III and IV only
B) I, II and III only
Which of the following are considered in the ratio analysis of a firm? I. profitability II. market share III. liquidity IV. leverage A) I and II only B) I, III and IV only C) II and IV only D) I, II, III and IV
B) I, III and IV only
Generally, the market price of a stock is A) below its book value. B) above its book value. C) equal to its par value. D) equal to its book value.
B) above its book value.
Company X and Company Y are in the same industry and have the following ratios. Based on the information above, we can conclude that A) company X is using leverage more aggressively than company Y. B) company X is more liquid than company Y. C) company X is using assets more efficiently than company Y. D) company X is reinvesting a higher percentage of its earnings in the business than company Y.
B) company X is more liquid than company Y.
The PEG ratio A) preferred by investors is equal to 2.0 or higher. B) compares the price/earnings ratio to the rate of growth of the company's earnings. C) is a measure of a firm's liquidity. D) measures the ability of a firm's assets to generate growth for the firm.
B) compares the price/earnings ratio to the rate of growth of the company's earnings.
14) Fundamental analysis involves the in-depth study of the A) role of nondiversifiable risk in an investor's portfolio. B) financial condition and operating results of a given firm. C) pattern of security prices as revealed in chart formations. D) role of diversifiable risk in an investor's portfolio.
B) financial condition and operating results of a given firm.
If a firm has an ROA of 10% and an ROE of 10%, then the A) operating results of the firm are improving. B) firm has no financial leverage. C) firm must have enough cash on hand to pay some extra dividends. D) firm is losing money.
B) firm has no financial leverage.
Top-down security analysis A) starts with the fundamental analysis of a firm. B) includes economic, industry, and fundamental analysis. C) concentrates on the competency of the senior management of a firm. D) centers on the past performance of a firm.
B) includes economic, industry, and fundamental analysis.
The government has an expansionary economic policy when it A) increases taxes. B) increases government spending. C) promotes rising interest rates. D) limits exports of goods and services.
B) increases government spending.
Substituting EBITDA for EBIT when computing the times interest earned ratio will make the company appear A) more leveraged. B) less leveraged. C) more profitable. D) less efficient.
B) less leveraged.
Which stage of an industry's growth cycle is interesting only for potentially high dividend payouts? A) initial development B) stability or decline C) mature growth D) rapid expansion
B) stability or decline
Well managed companies rarely reach the decline stage because A) the world's population is growing. B) they continuously develop new products to meet the needs of changing markets. C) consumers remain loyal to established brands. D) all of the above.
B) they continuously develop new products to meet the needs of changing markets.
The three steps in determining a stock's intrinsic value are I. estimating the stock's future cash flows. II. estimating the risk associated with future cash flows. III. careful analysis of patterns in the stock's recent price history. IV. estimating an appropriate discount rate to apply to future cash flows. A) II, III and IV only B) I, II and IV only C) I, III and IV only
B)I, II and IV only
Which of the following tend to signal that stock prices are likely to rise in the future? I.Employment increases after several months of recession. II.Interest rates are low compared to the recent past. III.Major market indexes have just reached record highs. IV.Housing starts increase after several months of decline. A) I and II only B) II and III only C) I, II and IV only D) I, II, III and IV
C) I, II and IV only
Nadine Enterprises has total assets of $240,000, a debt-equity ratio of 0.60, and a return on assets of 9%. What is the return on equity? A) 5.4% B) 5.6% C) 14.4% D) 15.0%
C) 14.4%
Over the last 5 years, Spencer Inc.'s earnings have grown at an annual average rate of 9%. Current EPS are $1.80 and the company's stock recently sold for $36 per share. Spencer's PEG ratio is A) .05 B) 20 C) 2.22 D) 222.22
C) 2.22
Which of the following would be typical of a Statement of Cash Flows for a healthy firm in a sustainable business? A) Cash flow from operations is negative, cash flows from investment activities and financing activities are positive. B) Cash flow from operations , investment activities and financing activities must all be positive. C) Cash flow from operations is positive, cash flows from investment activities and financing activities are negative. D) If the Statement shows a net increase in cash, the source is unimportant.
C) Cash flow from operations is positive, cash flows from investment activities and financing activities are negative.
Which of the following may be signs of future problems for a company? I.Inventories growing faster than sales. II.Rapidly increasing debt to equity ratio. III.Cash flow from operations is higher than net income. IV.Current liabilities increasing faster than current assets. A) I and III only B) II and IV only C) I, II and IV only D) I, II and III only
C) I, II and IV only
Which of the following would be found on a company's income statement? I. cost of goods sold II. interest expense III. cash flow from operations IV. earnings before taxes A) I an IV only B) I, II and III only C) I, II and IV only D) I, II, III and IV
C) I, II and IV only
Worcester Corporation has a P/E ratio of 15. Natick Corporation is in the same industry as Worcester, but has a P/E ratio of 20. Possible interpretations of this discrepancy include A) Worcester Corporation is overpriced. B) Natick Corporation has higher earnings per share. C) Investors expect Natick to grow faster than Worcester. D) Natick's stock price is higher than Worcester's.
C) Investors expect Natick to grow faster than Worcester.
Which one of the following statements is correct? A) Stock prices are independent of the economic cycle. B) Stock prices change simultaneously with the economy. C) Stock prices are often start to rise before the end of a recession. D) Changes in stock prices generally lag changes in the economy.
C) Stock prices are often start to rise before the end of a recession.
Which one of the following statements concerning accounting reports is correct? A) The income statement reflects the position of a firm as of a single point in time. B) The total equity of a firm is equal to the total assets plus the total liabilities. C) The statement of cash flows identifies both the sources and the uses of cash. D) The income statement reflects the amount of cash available for investment and financing activities.
C) The statement of cash flows identifies both the sources and the uses of cash.
One of the basic premises of security analysis, and in particular fundamental analysis, is that A) a stock's price is based on its past cash flows rather than on anticipated future cash flows. B) market sectors do not move in concert with business cycles. C) all securities have an intrinsic value that their market value will approach over time. D) a security's risk has relatively little effect on the security's return.
C) all securities have an intrinsic value that their market value will approach over time.
The inventory turnover rate for a firm is 14.5 as compared to the relevant industry rate of 13.2. In this case, the firm is A) selling its inventory slower than the industry. B) underperforming the industry. C) averaging fewer days of sales in inventory than the industry. D) generating fewer sales per dollar of inventory.
C) averaging fewer days of sales in inventory than the industry.
Company X and Company Y are in the same industry and have the following ratios. Based on the information above, we can conclude that A) company Y is more financially conservative than company X. B) company Y is more liquid than company X. C) company Y is reinvesting a higher percentage of its earnings in the business than company X. D) company Y is using assets less efficiently than company X.
C) company Y is reinvesting a higher percentage of its earnings in the business than company X.
The normal sequence in performing top down analysis is A) competition, consumer demand, threat of substitute products. B) market conditions, risk, company fundamentals. C) economy, industry, company. D) profitability, efficiency, liquidity.
C) economy, industry, company.
Which of the following businesses will be negatively impacted by a strong dollar? A) retailing B) imports C) exports D) automotive
C) exports
Which of the following businesses will be positively impacted by a weak dollar? A) retailing B) imports C) exports D) personal services
C) exports
Which measure of the business cycle represents the market value of all goods and services produced in a country over a twelve-month period? A) industrial production index B) money supply C) gross domestic product D) productivity average
C) gross domestic product
If a company's ROA is high, then an investor can assume that the company A) is in danger of defaulting on its loans. B) pays a high dividend. C) is profitable. D) has more equity than debt in its capital structure.
C) is profitable.
Which one of the following is likely to have a negative effect on stock prices? A) falling interest rates B) a decrease in the money supply (M2) C) low inflation D) a decrease in the unemployment rate
C) low inflation
A lending institution would prefer that a firm have a ________ debt-equity ratio and a ________ times interest earned ratio. A) higher; higher B) higher; lower C) lower; higher D) lower; lower
C) lower; higher
Which stage of an industry's growth cycle is most influenced by economic events? A) initial development B) stability or decline C) mature growth D) rapid expansion
C) mature growth
A comparison of a firm's current financial ratios to those of prior years allows one to A) accurately predict the future performance of a firm. B) see how a firm's performance compares to that of a competitor. C) see trends that are developing. D) determine if the firm is performing better than the overall industry.
C) see trends that are developing.
The Federal Reserve through monetary policy can help expand the economy by A) lowering income taxes on individuals. B) reducing tariffs such that foreign exports can increase. C) supporting a moderate growth of the money supply. D) increasing government spending on the national infrastructure.
C) supporting a moderate growth of the money supply.
To determine whether a company is using leverage effectively, an analyst should consider A) the current ratio and net working capital. B) inventory, accounts receivable and total asset turnover ratios. C) the debt to equity and times interest earned ratios. D) ROA and the net profit margin.
C) the debt to equity and times interest earned ratios.
The rapid expansion phase of an industry is characterized by A) extreme sensitivity to interest rates and other economic factors. B) high returns and relatively low risks. C) willingness of investors to buy almost any stock associated with the industry. D) many decades of sustained above average growth.
C) willingness of investors to buy almost any stock associated with the industry.
A total asset turnover of 3 means that every A) $1 in sales is supported by $3 of assets. B) $3 in assets produces $1 in net earnings. C) $1 in total assets is replaced on average every 3 years. D) $1 in assets produces $3 in sales.
D) $1 in assets produces $3 in sales.
For their last fiscal year, the Short Company reported the following information. What is the accounts receivables turnover rate? A) 0.8 B) 2.8 C) 4.5 D) 7.3
D) 7.3
When dividend payout ratios are higher than ________, investors should investigate whether or not they are sustainable. A) 15% B) 25%. C) 40%. D) 75%.
D) 75%.
A company has sales of $640,000, net profit after taxes of $23,000, and a total asset turnover of 2.5. What is the return on assets? A) 3.6% B) 4.5% C) 8.1% D) 9.0%
D) 9.0%
Which of the following measures excludes non-cash charges against income? A) operating expenses B) EBIT C) net income before taxes D) EBITDA
D) EBITDA
Which of the following directly impact return on equity? I. net profit margin II. leverage III. return on assets IV. cash flow from investment activities A) I and III only B) II and IV only C) I, II and IV only D) I, II and III only
D) I, II and III only
Financial ratios I. allow comparisons across firms without concern over firm size. II. can compare a firm's operating and financial status to industry norms. III. provide insights into a companies future. IV. look at the liquidity, activity, leverage, profitability and market measures of a firm. A) II and IV only B) I and II only C) I, II and IV only D) I, II, III and IV
D) I, II, III and IV
Investors who conduct industry analyses typically favor companies with strong market positions over companies with less secure market positions because firms with strong market positions tend to I. be price leaders. II. benefit more from economies of scale. III. have better R&D programs. IV. have lower production costs. A) II and IV only B) I, II and IV only C) I, II and III only D) I, II, III and IV
D) I, II, III and IV
Which of the following factors are considered when analyzing an industry? I.the nature and conditions of governmental regulations II.the involvement and relations, if any, with labor unions III.the development of new technologies relevant to the industry IV.the extent of competition within the industry A) I, II and IV only B) II, III and IV only C) I, II and III only D) I, II, III and IV
D) I, II, III and IV
The intrinsic value of a security is based on the I. amount of risk. II. current market value of the security. III. discount rate applicable to the security. IV. estimated future cash flows from the security. A) I and III only B) III and IV only C) I, II and III only D) I, III and IV only
D) I, III and IV only
Which of the following accounting practices are potentially misleading or even fraudulent? I. writing off goodwill as an extraordinary loss II. using accrual rather than cash basis reporting III. off-balance sheet liabilities IV. recognizing revenues prematurely A) I and II only B) I, II and IV only C) III and IV only D) I, III and IV only
D) I, III and IV only
Which of the following would be found on a company's balance sheet? I. Accounts receivable II. Interest expense III. Property plant and equipment IV. Total stockholders' equity A) I an IV only B) I, II and III only C) I, II and IV only D) I, III and IV only
D) I, III and IV only
The basic motivation of security analysis is to help investors A) identify the best times to buy and sell securities. B) contribute to the efficiency of securities markets. C) identify securities whose intrinsic values are at or near their market values. D) identify mispriced stocks.
D) identify mispriced stocks.
Which stage of an industry's growth cycle offers the greatest opportunity for an investor who is seeking capital gains? A) initial development B) mature growth C) stability or decline D) rapid expansion
D) rapid expansion
Investors are most interested in which one of the following ratios? A) return on assets B) current ratio C) net profit margin D) return on equity
D) return on equity
Amgen's debt to equity ratio is .54 while Walmart's is .68. By comparing these ratios we can conclude A) that Walmart is in danger of bankruptcy. B) that Amgen uses too little debt financing. C) that Walmart uses too little equity financing. D) very little because the firm's are in different industries.
D) very little because the firm's are in different industries.
Company analysis is only concerned with how a company has performed in the past.
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A high PEG ratio implies a high growth rate in earnings relative to the stock's price.
false
Calculating the times interest earned ratio using EBITDA is more conservative than using EBIT because it takes the cost of replacing fixed assets into consideration.
false
Changes in stock prices tend to lag changes in level of economic activity by several months.
false
EBITDA stands for earnings before inflation, taxes, depreciation, and adjustments.
false
Economic factors such as a weak dollar will have a negative impact on all industrial sectors.
false
Federal budget deficits tend to further depress an already depressed economy.
false
Financial ratios give little indication whether a company is well managed or not.
false
Fundamental analysis encompasses return, but not risk, in the valuation process.
false
If a firm has an equity multiplier of 3, this means that the firm has $3 in equity for every $1 in long-term debt.
false
Industries in the rapid expansion stage will be especially sensitive to a slowing economy.
false
Industry analysis focuses on the amount spent on research and development by individual companies within the industry.
false
Interest rates and stock prices tend to rise and fall together.
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Investors who believe that most securities are efficiently priced should not not be concerned with fundamental analysis.
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Investors who want to analyze a company's ratios usually need to compute them from the financial statements.
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Positive cash flow from investing activities is typical of firms experiencing healthy growth.
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Return on equity (ROE) is computed by dividing net income by the market value of equity.
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The Allied Computer Co. has sales of $300 million, a net profit margin of 9%, and 10 million shares of common stock outstanding. It has no preferred stock outstanding. If Allied stock trades at $50 per share, it has a price/earnings ratio of 20.9.
false
The PEG ratio divides the stock's current price by the growth rate of earnings over the preceding 12 months.
false
The balance sheet summarizes the company's operations over the last fiscal year.
false
The best time to buy stock is at the peak of an economic cycle.
false
The business cycle reflects economic changes only in the industrial sectors of the economy.
false
The debt to equity ratio should be approximately the same across all industrial sectors
false
The quick ratio differs from the current current ratio in that accounts receivable are excluded from current assets.
false
The top down approach to security analysis starts with top management and then examines production and marketing strategies.
false
A company may appear to be profitable on its income statement, but fail to generate strong cash flows.
true
A company's ratios are more meaningful when compared to other companies in the same industry.
true
A firm with a very low debt-equity ratio has a low risk of defaulting on its loans.
true
A firm with a very low debt-equity ratio might be able to increase return on equity by taking on additional debt.
true
A high P/E ratio may be an indication that a stock is overpriced.
true
Advocates of the efficient market hypothesis would argue that it is virtually impossible for any investor to consistently outperform the market.
true
Banks can use the times interest earned ratio as a measure of a borrower's ability to repay their loan.
true
