Accounting 2 Test 3 Mcgowan

which of the following should be added to net income in computing net cash flows from operating activities using the indirect method? a. increase in inventory b. decrease in accounts payable c. preferred dividends declared and paid d. decrease in accounts receivable

d. decrease in accounts receivable

Operating Activities

day to day activities -affect net income

operating activities has 2methods called...

direct method indirect method

NOT ON FORUMLA SHEET NEED TO MEMORIZE: average total assets

beginning of year assets + end of year assets /2

NOT ON FORUMLA SHEET NEED TO MEMORIZE: average common stockholders equity

beginning stockholder equity = ending stockholders equity / 2

indirect method

begins with net income and then lists adjustments it for revenues and expenses that do not involve the recepit of cash

Investing Activities example

bought a building for $400,000 and issued a $490,000 mortgage note cash outflow of $400,000 in investing section

Rogers Company reported net income of $35,000 for the year. During the year, accounts receivable increased by $7,000, accounts payable decreased by $3,000 and depreciation expense of $8,000 was recorded. Net cash provided by operating activities for the year is a. 53,000 b. 47,000 c. 33,000 d. 37,000

c. 33,000 35,000 + 8,000 -7,000 -3,000 _________________ 33,000

Financing Activities

anything to do with long term liabilities (debt) or our own stock -ex. issuing bonds -purchasing treasury stock -paying cash dividends

Number of sales in inventory

average inventory ------------------------------------ average daily cost of goods sold -sales in inventory is a rough estimate of length of time it takes to purchase, sell, and replace inventory

decrease in noncash operating expenses

add from net income

NOT ON FORUMLA SHEET NEED TO MEMORIZE: average daily cost of goods sold

cost of goods sold ------------------------ 365

Current Ratio

current assets ------------------------- current liabilities

quick ratio

quick assets ---------------- current liabilities

vertical analysis

% analysis of relationship of each component in financial statement to total within -each asset is stated as a % of total assets -each item is a % of sales

NOT ON FORUMLA SHEET NEED TO MEMORIZE: average accounts receivable

(Beginning AR + Ending AR) / 2

NOT ON FORUMLA SHEET NEED TO MEMORIZE: Average Merchandise Inventory

(Beginning of year Inventory + Ending of year Inventory) / 2

determine (a) ratio of fixed assets to long term liabilities and (b) ratio of liabilities to total stockholders equity fixed assets (net) 1,400,000 long term liabilities 400,000 total liabilities 560,000 total stockholders equity 1,400,000

(a) 1,400,000 fixed assets/ 400,000 long term liabilities = 3.5 (b) 560,000 total liabilities / 1,400,000 stockholder equity = 0.4

determine (a) inventory turnover and (B) # of days sales in inventory Cost of Merch Sold 560,000 average merch inventory 112,000

(a) 560,000/112,000 = 5 (b) 560,000/365 = 1,534.2465 112,000/ 1,534.2465 = 73.0 days

Compute accounts turnover(a) and # of days sales in receivables(b) Sales $960,000 Average accounts receivable $48,000

(a) accounts receivable turnover 960,000/48,000 = 20 (b) 960,000/ 365 = 2,630.1369 48,000/2,630.1369= 18.25 days

excess inventory does:

-decrease in liquidity -increase in expenses -increase in risk of loss

3 basic analytical methods

-horizontal -vertical -common sized

return on total assets example

2016: Net income 91,000, interest expense 6,000, assets begin of year 1,230,500, assets end of year 1,139,500 1,230,500 + 1139,500 /2 = 1,185,000 91,000 + 6,000 /1,185,000 = 0.0818 = 8.2% 2015: 7.3%

Leverage Example

2016: return on stockholder equity 11.3% less return on total assets 8.2% 11.3 - 8.2 = 3.1% of leverage 2015: return on stockholder equity 10% less return on total assets 7.3% 10-7.3= 2.7% of leverage

Accounts Receivable analysis

A company's ability to collect its accounts receivable.

inventory analysis

A company's ability to manage its inventory effectively.

Direct Method

A method of determining net cash provided by operating activities by adjusting each item in the income statement from the accrual basis to the cash basis. The direct method shows operating cash receipts and payments. -data may not be available in the accounting records -takes a lot of time and very costly

general-purpose financial statements

A type of financial accounting report that is distributed to external users.

Investing Activities

Transactions that involve purchasing and selling of long-term fixed assets -investments in noncurrent assets

solvency

a company's ability to pay its long-term liabilities in periodic payments

Richards Corporation had net income of $250,000 and paid dividends to common stockholders of $50,000. It had 50,000 shares of common stock outstanding during the entire year. Richards Corporation's common stock is selling for $35 per share. The price-earnings ratio is a. 7 b. 14 c. 2 d. 5

a. 7 250,000 35 ------------- = 5 ------- = 7 50,000 5

in horizontal analysis, each item is expressed as a percentage of the... a. base year figure b. retained earnings figure c. total assets figure d. net income figure

a. base year figure

quick ratio example

cash 90,500 temp invest 75,000 accounts rec 115,000 total: 280,00 280,000/210,0000 (liabilities) = 1.3

direct method cash flow

cash flows from (used for) investing and financing sections are the same -only difference is operating section

Ratio of Fixed Assets to Long-Term Liabilities example

company a: 100 fixed assets/ 1,000 liabilities = .1 company b: 200/1,000 = .2 which is better? .2 -more assets to liabilities

Inventory Turnover Example

company a: 100,000-1,000 = 100 company b: 100,000/ 10,000 = 10 which is better? 100 -selling same amount but only keeping 1,000 on hand

# of days sales in receivables example

company a: 100,000/1,000 = 10 combany b: 100,000/100,000 = 1 which is better? = 1

asset turnover example

company a: sales 500,000/ 100,000 average total assets = 5 company b: 200,000/1000,000 = 2 which is better? =5 -produced $500,000 in sales from $100,000 in assets

accounts receivable turnover example

company a; sales 1,000,000/ 100,000 = 10 company b; 1,000,000/200,000 = 5 which is better? = 10 keeps accounts receivable smaller

comparisons b/w companies

compare ratios of another company in same industry

inventory turnover

cost of merchandise sold --------------------------------- average merch inventory

working capital

current assets - current liabilities -companies ability to pay current liabilities

If a gain of $11,000 is realized in selling (for cash) office equipment having a book value of $55,000, the total amount reported in the cash flows from investing activities section of the statement of cash flows is a. 44,000 b. 11,000 c. 55,000 d. 66,000

d. 66,000 Dr. Cash 66,000 Cr Equipment 55,000 Cr gain 11,000 55,000 + 11,000 = 66,000 (gains are always credited)

dividend per share

dividends on common stock/ shares of common stock outstanding

Dividend yield

dividends per share of common stock/ market price per share of common stock

profitability

evaluate a company's ability to generate earnings

analytical methods

examine changes in the amount and percentage of financial statement items within and across periods

ratios

financial statement items as a % of another financial statement item

NOT ON FORUMLA SHEET NEED TO MEMORIZE: ratio of free cash flows to sales

free cash flows _____________________________ sales

the Independent Auditor's Report...

gives the auditor's opinion regarding the fairness of the financial statements

times interest earned ratio

income before income tax + interest expense ------------------------------------------------------- interest expense

Times Interest Earned

income before income taxes + interest expense/interest expense -measures the risk that interest payments will not be made if earnings decrease

times interest earned example

income before taxes 162,500 interest expense 6,000 162,000 + 6,000 = 168,000/6,000 = 28.1 higher the ration, better it is

operating activities examples

making a sale and interest payments

Price Earnings Ratio

market price per share ---------------------------------- earnings per share (eps)

price earnings ratio (p/e ratio)

market price per share of common stock/earnings per share of common stock

Free Cash Flow

measures the operating cash flow available to a company to use after purchasing the property, plant, and equipment necessary to maintain current productive capacity -positive free cash flow is favorable

Earnings Per Share (EPS)

net income - preferred dividends ---------------------------------------------- shares of common stock

return on common stockholders equity

net income - preferred dividends / average common stockholders' equity -measures the rate of profits earned on the amount invested by common stockholders

earnings per share (eps) on common stock

net income - preferred dividends / shares of common stock outstanding -measures the share of profits that are earned by a share of common stock

determine a companies (a) earnings per share of common stock and (b) price earnings ratio

net income 250,000 preferred dividends 15,000 shares of common stock outstanding 20,000 market price per share of common stock $35.25 (a) 250,000 -15,000/20,000 = $11.75 (b) 35.25/ 11.75 = 3

indirect method cash flow

net income xxx +depreciation + xxx +loss on sale of assets + xxx -gain on sale of assets - (xxx) + or - changes in current operating assets and liabilities - increase in noncash operating expense + decrease in noncash operating expense + increase in current operating liabilities - decrease in current operating liabilities + (xxx) _________________________________________________________________________ XXXX

Leverage

return on stockholder equity - less return on total assets -Using debt to increase the return on an investment.

Accounts Receivable Turnover

sales ------------------------------------- average accounts receivable

NOT ON FORUMLA SHEET NEED TO MEMORIZE: average daily sales

sales ---------- 365

asset turnover

sales / average total assets -measures how effectively a company uses its assets

Liquidity

short term creditors (banks) concerned w/ whether a company can repay short term borrowings= loans and notes -liquidity - convert assets to cash

decrease in current operating liabilities

subtract from net income

gain on a sale

subtract from net income

increase in accounts receivable

subtract from net income

increase in noncash operating expenses

subtract from net income

increase in prepaid expense

subtract from net income

the higher the times earned interest ratio is...

the more likely it will be paid

ratio of liabilities to stock holders equity

total liabilities/ total stockholders equity -measures how much of the company is financed by debt and equity. Margin of safety for creditors

Statement of Cash Flows

used by external users such as investors and creditors to asses a companies profit potential

return on common stockholders equity example

2016: income 91,000, less preferred dividends 9,000 begin stockholder equity 637,500, ending stockholder equity 639,500, total stockholder equity 1,131,700 2015: income 76,500, less preferred dividends 9,000 begin stockholder equity 600,000, ending stockholder equity 637,500, total stockholder equity 1,237,500 2016: average common stockholders equity 1,131,700 /2 = 658,500 return on common stockholder equity 82,000/658,500= 0.1245 = 12.5% 2015: average common stockholders equity 1,237,500/2 = 618,750 return on common stockholders equity 67,500/ 618,750/2 0.1090 = 10.9%

Return on Stockholders' Equity example

2016: income 91,000, stockholder equity begin of year 787,500, stock equity end of year 829,500 2015: income 76,500 , stockholder equity begin of year 750,000, stock equity end of year 787,500 787,500 + 829,500/2 = 808,500 750,000 + 787,500/2 = 768,750 2016: 91,000/808,500= 0.1125 = 11.3% 2015: 76,500/ 768,750= 0.0995= 10.0%

# of days sales in receivables

Average Accounts Receivable -------------------------------------- Average Daily Sales -estimate amount of times (in days) that the accounts receivable has been outstanding -efficiency in collection of receivables

Land costing $140,000 was sold for $173,000 cash. The gain on the sale was reported on the income statement as other income. On the statement of cash flows, what amount should be reported as an investing activity from the sale of land? a. 173,000 b. 140,000 c. 313,000 d. 33,000

a. 173,000

quick assets

Cash and other current assets that can be quickly converted to cash -cash, temporary investments, receivables - not: inventory & prepaid expenses

financing activities cash flow

Cash flows from (used for) financing activities: Cash from financing activities xxx -cash used for financing activities -(xxx) _______________________________________________________________________ XXX

investing activities cash flow

Cash flows from (used for) investing activities: Cash from investing activities xxx -cash used for investing activities -(xxx) _______________________________________________________________________ XXX

return on total assets

Income + Interest Expense / Average Total Assets -measures the profitability of total assets without considering how they are financed

horizontal analysis

Financial analysis that compares an item in a current statement with the same item in prior statements. -performance month 1 ----------> performance month 2 -earlier statement used as a BASE YEAR -one financial item ACROSS financial statements

Ratio of Fixed Assets to Long-Term Liabilities

Fixed Assets (net) / Long-Term Liabilities -provides a measure of how much fixed assets a company has to support its long term debt

MDA

Management discussion and analysis

Return on Stockholders' Equity

Net Income / Average total Stockholders' Equity -measures he rate of income earned on the amount invested by stockholders -leverage

ratio of free cash flows to sales example

Net cash flow from operating activities $154,721 Cash used to purchase p,p & e $31,974 Sales $975,734 154,721 - 31,974 = 122,747 / 975,734 = 0.1267 12.6%

comparisons over time

identify trends over time

decrease in tax payable

subtract from net income

Financing activities example

Sold an issue of $600,000 bonds for 98. $600,000 x .98 = 588,000 cash inflow of $588,000 in financing section

to find times interest earned ratio from a table you...

1. take "income before income tax 550,000" and you add interest expense 2. interest expense comes from "bonds payable 10% $1,000,000" 1,000,000 x .10 = 100,000 3. 550,000 + 100,000 / 1000,000 = 6.5 times

increase in current operating liabilities

add from net income

decrease in inventory

add to net income

increase in accounts payable

add to net income

loss on a sale

add to net income

common sized statements

all items are expressed as percentages with no dollar amounts shown -comparing one company to another

A corporation uses the indirect method for preparing the statement of cash flows. A fixed asset has been sold for $25,000 representing a gain of $4,500. The value in the operating activities section regarding this event would be... a. 25,000 b. (4,500) c. 29,500 d. 4,500

b. (4,500)

using a table of assets and liabilities for Harding Company.... Based on the data for Harding company, what is the amount of working capital? a. 238,000 b. 128,000 c. 168,000 d. 203,000

b. 128,000 Go through chart and pick out all current liabilities and current assets. then, subtract all current liabilities from current assets to get working capital.

a 10-year bond was issued at par for $250,000 cash. This transaction should be shown on a statement of cash flows under... a. investing activities b. financing activities c. noncash investing and financing activities d. operating activities

b. financing activities