ACT 210 Chapter 12

Common types of analysis that help assess a specific company's performance include comparisons:

1. over time 2. to the same industry 3. between companies

When comparing the financial statements of two different companies, a financial analyst would use which two categories of ratios?

1. profitability ratios 2. risk ratios

The current ratio equals:

current assets divided by current liabilities

Mathematically, the current ratio is expressed as current assets divided by ________ _________.

current liabilities

Which of the following is a solvency ratio?

debt-to-equity

True or false: The debt to equity ratio is calculated as total liabilities divided by common stock:

false ; The debt to equity ratio is total liabilities divided by total owners' equity.

True or false; The gross profit ratio equals net sales revenue minus cost of goods sold, divided by net sales revenue

true

Which of the following are profitability ratios?

1. return on equity 2. profit margin

______________ refers to a company having enough cash or convertible assets to pay its current liabilities.

Liquidity

If a company has a current ratio of 1.2, which of the following is true?

The company has $1.20 in current assets for each dollar of current liabilities.

The __________ profit ratio indicates the portion of each dollar of sales above the cost of goods sold.

gross

Net sales revenue minus the cost of goods sold, divided by net sales revenue equals the ______.

gross profit ratio

Horizontal analysis ______.

is used to identify trends over time

Mark wants to determine whether a specific company has become more profitable over time. Mark should compare the company's performance to:

its prior years' performance

Which type of ratios do investors and creditors use most frequently in making financial decisions?

profitability ratios

The average collection period equals 365 days divided by ______.

receivables turnover

The debt to equity ratio is calculated as:

total liabilities divided by total stockholders' equity.

Stockup, Inc. has a P/E ratio of 20 and a stock price of $50. What is Stockup's earnings per share?

$2.50 ; 20=$50/x. Solve for x. $50/20=x=$2.50.

If Currants & Jams, Inc.'s current ratio equals 2.0, current liabilities are $10,000, and long-term liabilities are $30,000, then its current assets equal:

$20,000

Puffin Pastry, Inc. had Sales of $90,000 and Net income of $10,000 during 2016. At December 31, 2015, its total assets were $100,000, and its net fixed assets were $40,000. At December 31, 2016, its total assets were $200,000, and its fixed assets were $80,000. Puffin's asset turnover ratio equals:

0.60 ; Asset turnover ratio=$90,000/(($100,000+$200,000)/2)=0.60

Which of these is a solvency ratio?

1. Debt-to-equity 2. Times interest earned

Which of the following items are included in the numerator for the current ratio but are excluded from the numerator of the quick or acid-test ratio?

1. Inventory 2. Prepaid expenses

Which of the following would improve a current ratio that is now 1.2?

1. Issuing stock for cash 2. Selling long-term assets for cash

Which information regarding the receivables turnover ratio is true?

1. It provides an indication of a company's efficiency in collecting receivables. 2. It shows the number of times during a period that the average accounts receivable balance is collected.

Which statements about the inventory turnover ratio are correct?

1. It shows the number of times the average inventory balance is sold during a reporting period. 2. It indicates how quickly inventory is sold.

Which of these are liquidity ratios?

1. Receivables turnover 2. Average collection period 3. Current ratio 4. Acid-test ratio

Which of the following ratios are used to evaluate a company's ability to pay long-term debts?

1. Times interest earned ratio 2. Debt to equity ratio

Compute the return on equity ratio using the following information: Net sales is $200,000 for the year, cost of goods sold are $40,000, net income is $60,000, last year's total assets were $900,000, and this year's total assets are $1,100,000. Shareholders' equity changed from $300,000 last year to $400,000 this year.

17.1% ; Return on equity is net income divided by average total equity. $60,000/[($300,000 + $400,000)/2] = 17.1%.

Gamble & Protector, Inc. had Net income of $1,000,000 during 2018. Gamble & Protector, Inc.'s stock price was $80 and its average shares of stock outstanding was 250,000 shares at December 31, 2018. Its P/E ratio equals:

20.0 ; EPS=$1,000,000/250,000=$4; P/E=$80/$4=20.0

GPS, Inc.'s sales were $200,000, cost of goods sold was $150,000 and net income was $20,000. Its average inventory was $25,000. The gross profit ratio equals ______.

25% ; Gross profit ratio=($200,000-$150,000)/$200,000=0.25, or 25%

Compute the average days in inventory ratio using the following information: Net sales is $200,000 for the year, cost of goods sold are $80,000, last year's total assets were $900,000, and this year's total assets are $1,100,000. Receivables for both years are $40,000. Inventory changed from $30,000 last year to $10,000 this year.

91.25 days; Average days in inventory is 365/inventory turnover ratio = 365/4. Inventory turnover is calculated as cost of goods sold/average inventory = $80,000/[($30,000 + 10,000)/2] = 4.

What is the formula for the inventory turnover ratio?

Cost of goods sold divided by average inventory.

Which of the following items requires separate disclosure after income from continuing operations?

Discontinued operations

Match each business with the inventory turnover ratio that would be typical for that type of business. 1. Grocery stores 2. Automobile dealerships 3. Department stores a. 6 b. 3 c. 20

Grocery stores-20 Automobile dealerships-3 Department stores-6

What is the formula for the receivables turnover ratio?

Net credit sales divided by average accounts receivable (net).

Which two ratios when multiplied with each other will yield the return on assets?

Profit margin; Asset turnover

____________ of _____________ refers to the ability of reported earnings to reflect a company's true earnings, as well as the usefulness of reported earnings to predict future earnings.

Quality of earnings

___________ refers to a company's ability to pay its long-term liabilities.

Solvency

What does the inventory turnover ratio measure?

The average number of times inventory is sold during a period.

The sum of cash, current investments, and accounts receivable divided by current liabilities equals the:

acid-test ratio

Profit margin multiplied by asset turnover equals return on ____________.

assets

The formula to compute the receivables turnover ratio is net credit sales divided by:

average accounts receivable.

To analyze changes in a company's sales over the last 5 years, you should perform a ______ ________.

horizontal analysis

Milken Inc. currently has a current ratio of 1.5. If Milken pays off an accounts payable balance, its current ratio will:

increase

The formula for return on equity is _______________ __________________ divided by average total shareholders' equity.

net income

The profit margin ratio is defined as _________ __________ divided by net sales.

net income

The price of a single share of stock divided by earnings per share is:

the P/E ratio

The average collection period is an estimate of:

the number of days the average account receivable balance is outstanding.

Company A has an accounts receivable turnover of 8.0. Company B has an accounts receivable turnover of 10.0. Which of the following is true?

Company B collects its receivables faster than Company A. The accounts receivable turnover measures how fast a company collects its receivables. Thus a higher turnover indicates the company is collecting its receivables faster.

Which term best describes a company having a suitable amount of cash or easily-convertible assets to pay incurred current liabilities?

Liquidity

What is the formula to compute return on shareholders' equity?

Net income divided by average shareholders' equity

What is the formula to compute the return on assets?

Net income divided by average total assets.

What is the formula for the profit margin ratio?

Net income divided by net sales.

Risk ratios and profitability ratios represent common ratios used for analysis.

True; risk and profitability ratios are common categories into which ratios are classified.

Asset turnover ratio is net sales divided by ___________ __________ ___________.

average total assets

The receivables turnover ratio offers an indication of how quickly a company is able to:

collect its accounts receivable.

True or false: The times interest earned formula is net income divided by interest expense.

false ; The times interest earned formula is calculated as earnings before interest and taxes divided by interest expense.

Which ratio indicates the portion of each sales dollar above its cost of goods sold?

gross profit ratio

The times interest earned formula is calculated as earnings before interest and taxes divided by ___________ ___________.

interest expense

The current ratio, acid-test ratio, and average collection period are ratios that provide information about a company's:

liquidity

The profit margin measures the income earned:

on each dollar of sales.

The group of ratios that measure the earnings or operating effectiveness of a company are referred to as ______________ ratios.

profitability

The ability of reported earnings to reflect the company's true earnings is referred to as:

quality of earnings

A common-size balance sheet presents each line item as a percentage of ____________ _____________.

total assets

A common-size balance sheet will list each line item as a percentage of:

total assets.