Exam I Chapter 1-3 Financial Statement Analysis

Exam I Chapter 1-3 Fin Statement Analysis

Instructions: Please circle the correct answer and complete the short answer questions where applicable.Total 100 Points.

Multiple Choice Questions (3 Points each)

1. What causes the creation of a deferred tax account on the balance sheet? 

            a. Permanent differences in income tax accounting.

b. The use of the straight-line method of depreciation for both reporting and tax purposes.

c. Temporary differences in the recognition of revenue and expense for taxable income relative to reported income.

            d. Municipal bond revenue and life insurance premiums on officers.

2. Which statement best describes the retained earnings account?

a. The retained earnings account is equal to the cash account less dividends paid.

b. Retained earnings are funds a company has chosen to reinvest in the operations of a business rather than pay out to stockholders in dividends.

c. Retained earnings represent unused cash of the firm.

d. The retained earnings account is the measurement of all distributed earnings.

3.  What type of audit report indicates that the financial statements have been presented fairly?

            a. An unqualified report.

            b. A disclaimer of opinion.

            c. A qualified report.

            d. An adverse opinion.

4.  How are marketable securities valued on the balance sheet?

            a. Historical cost.

            b. At cost or fair value depending on how the securities are classified.

            c. Market value.

d. At fair value with the difference between cost and fair value reported as revenue.

5. What does the term “net realizable value” mean with regard to the accounts receivable account?

            a. The gross amounts owed by customers for credit purchases.

            b. Total accounts receivable plus an amount estimated for bad debts.

            c. The allowance for doubtful accounts less bad debt expense.

d. Total accounts receivable less an amount estimated for bad debts.

6.  Which of the following items would not be considered when analyzing accounts receivable and allowance for doubtful accounts?

a. The relationship among changes in sales, accounts receivable and the allowance for doubtful accounts.

b. A comparison of actual write-offs relative to amounts recognized as bad debts.

c. The relationship between accounts receivable, inventory, and accounts payable.

d. An analysis of the “Valuation and Qualifying Accounts” schedule required in the Form 10-K.

7. If a company chooses the LIFO method of inventory valuation, which inventory will appear as ending inventory on the balance sheet?

            a. The last inventory purchased.

            b. The first inventory purchased.

            c. An average of all inventory purchased.

            d. The actual inventory which has not been sold.

8.   What is another term frequently used when referring to operating profit? 

            a. Earnings before interest and taxes (EBIT).

            b. Earnings before interest, taxes, depreciation and amortization (EBITDA).

            c. Net profit.

            d. Earnings before interest (EBI).

9. What information can be found on a statement of shareholders' equity? 

            a. Details of assets and liabilities.

            b. A reconciliation of beginning to ending cash..

            c. Detail of changes in equity accounts.

            d. Assets = Liabilities + Stockholders’ Equity.

10.  Which of the following statements is false?

a. Goodwill arises when one company acquires another company for a price in excess of the fair market value of the net identifiable assets acquired.

            b. Goodwill should be depreciated.

c. Goodwill must be evaluated annually to determine if there has been a loss of value.

d. If the carrying value of goodwill exceeds the fair value, the excess book value must be written off as an impairment expense.

11.  What does Section 404 of the Sarbanes-Oxley Act of 2002 require? 

a. The external auditors must create an adequate internal control structure for the firm being audited.

b. The external auditors must approve of all internal auditors hired by a firm.

c. The inclusion of an internal control report in the annual report.

d. The external auditors need to perform internal audit services.

12.  Which of the following statements is false? 

a. Annual reports must include three-year audited balance sheets and two-year audited income statements.

b. The balance sheet is prepared on a particular date.

c. Interim statements are generally prepared quarterly.

d. When a parent company owns more than 50% of the voting stock of a subsidiary, the financial statements are consolidated for both entities.

13.  What are current assets?

            a. Assets purchased within the last year.

            b. Assets which will be used within the next month.

c. Assets are the net working capital of the firm.

d. Assets expected to be converted into cash within one year or operating cycle.

14. Which items would be classified as liabilities?

            a. Accounts payable, unearned revenue, pension liabilities.

            b. Common stock, retained earnings, bonds payable.

            c. Commitments and contingencies, additional paid-in capital, notes payable.

            d. Deferred taxes, accrued expenses, treasury stock.

15.  Which item would be included in the account "Accumulated other comprehensive income (expense)"?

            a. Treasury stock.

            b. Preferred stock.

            c. Foreign currency translation adjustments.

            d. Additional paid-in capital.

16.  The gross profit margin and cost of goods sold percentage are complements of each other and always add to 100%.  True or False?

17.  What are the two basic formats of the income statement?

            a. Multiple-step and single-step.

            b. Cash basis and single-step.

18.  What could be the cause of an increase in a firm's sales number?

            a. The firm has decreased prices.

            b. Fewer units of product have been sold.

            c. The firm has increased prices and volume of sales.

            d. The firm has decreased prices and volume of sales.

19.  Which of the following items would not be discussed in the management discussion and analysis? 

            a. Commitments for capital expenditures.

            b. The market value of all assets.

            c. The internal and external sources of liquidity.

            d. A breakdown of sales increases into price and volume components.

20.  Of what value is the calculation of gross profit margin?

a. The gross profit margin helps the analyst assess the capital structure of the firm.

b. The gross profit margin allows the analyst to determine if the firm has been affected by inflation.

c. The gross profit margin indicates the profitability of a firm after considering all operating expenses.

d. The gross profit margin is the first step of profit measurement indicating how much profit the firm generates after deducting cost of goods sold.

21.  Which items below would be classified as operating expenses?

            a. Depreciation, capital leases, operating profit.

            b. Interest expense, interest income, rent expense.

            c. Accounts payable, lease payments, depreciation.

            d. Advertising, selling and administrative, repairs and maintenance.

Short Answer Questions (4 Points each)

22. What types of information are necessary to evaluate a company but cannot be found in the financial statements?

Use the following information for Gray Co. to answer question 23.

                                                                                    2011               2010

Sales                                                                  400                  400

COGS                                                               250                   200

Operating expenses                                      80                        70

Income taxes                                                 22                        40

23. Gray Co.'s gross profit, operating profit and net profit margins for 2011 are: 

            a. 50.0%, 32.5%, 22.5% respectively.

            b. 37.5%, 17.5%, 12.0%, respectively.

            c. 62.5%, 50.0%, 22.5%, respectively.

            d. 62.5%, 17.5%, 12.0%, respectively.

24.  Why would a firm repurchase their own shares of common stock?

25. Explain why the account titles "Commitments and Contingencies" appears on a balance sheet without a corresponding dollar amount.

26.  How did the Sarbanes-Oxley Act of 2002 change the regulatory model for auditors?

Financial Analysis Questions

27.  Analyze the common size income statements below for Toby Company. Specifically explain how the company is performing and the reason for the change in net income from 2011 to 2012(8 Points):

28. Use the following common size balance sheet to answer the questions below:

                                                                        2011               2010

Current assets:

            Cash                                                                  3%                   5%

            Accounts receivable                                      20                    18

            Inventory                                                       35                   30

Total current assets                                                  58%                53%

Property, plant and equipment                               30                    40

Other assets                                                               12                      7

Total assets                                                                100%              100%

Current liabilities:

            Accounts payable                                            25%                20%

            Short-term debt                                              38                    33

Total current liabilities                                               63%                53%

Long-term debt                                                           22                    17

Total liabilities                                                             85%                70%

Common stock and paid in capital                          14                     20

Retained earnings                                                     1                       10

Total stockholders' equity                                       15%                30%

Total liabilities and stockholders' equity               100%              100%

a)     Explain what has happened to current assets and long-term assets.

b)     Explain the changes in the liabilities section of the balance sheet

c)      What has happened to Retained Earnings at year-end and their financial position.

(9Points)