Test-Bank-for-Financial-Statement-Analysis-and-Valuation-3rd-Edition-by-Easton

Module 1: Framework for Analysis and Valuation True/False Topic: Users of Financial Statement Information LO: 1 1. Shareholders demand financial information primarily to assess profitability and risk whereas bankers demand information primarily to assess cash flows to repay loan interest and principal. Answer: True Rationale: While both shareholders and bankers are interested in all the information companies provide, shareholders care about more about a company’s profitability and bankers care more about solvency and creditworthiness. Topic: Publicly Available Financial Reports LO: 1 2. Publicly traded companies are required to provide quarterly financial reports directly to the public. Answer: False Rationale: Companies provide electronic versions of quarterly financial statements to the SEC, which posts them to the Internet for the public to access them. Topic: Users of Financial Statement Information LO: 1 3. Publicly traded companies provide financial information primarily to satisfy the SEC and the tax authorities (that is, the Internal Revenue Service). Answer: False Rationale: Demand for information extends to many users; the regulators such as the SEC and the IRS are only one class of users. Topic: SEC Filings LO: 1 4. Publicly traded companies must provide to the Securities Exchange Commission annual audited financial statements (10K reports) and quarterly audited financial statements (10Q reports). Answer: False Rationale: Quarterly reports do not need to be audited. Topic: Balance Sheet LO: 2 5. If a company reports retained earnings of $175.3 million on its balance sheet, it must also report $175.3 million in cash. Answer: False Rationale: The accounting equation requires total assets to equal total liabilities plus stockholders’ equity. That does not imply, however, that liability and equity accounts relate directly to specific assets. ©Cambridge Business Publishers, 2013 1-2 Financial Statement Analysis & Valuation, 3rd EditionYou can buy the this complete file at Topic: Balance Sheet LO: 2 6. A balance sheet shows a company’s position over a period of time, whereas an income statement, statement of stockholders’ equity, and statement of cash flows show its position at a point in time. Answer: False Rationale: The statement is reversed: A balance sheet shows a company’s position at a point in time, whereas an income statement, statement of equity, and statement of cash flows show its position over a period of time. Topic: Accounting Equation L: O2 7. Assets must always equal liabilities plus equity. Answer: True Rationale: The accounting equation is Assets = Liabilities + Equity. This relation must always hold. Topic: Income Statement LO: 2 8. The income statement reports net income which is defined as the company’s profit after all expenses and dividends have been paid. Answer: False Rationale: The statement contains two errors. First, net income does not include any dividends during the period; these are a distribution of profits and not part of its calculation. Second, the income statement is prepared on an accrual basis and thus includes expenses incurred (as opposed to paid). Topic: Statement of Cash Flows LO: 2 9. A statement of cash flows reports on cash flows for operating, investing and financing activities at a point in time. Answer: False Rationale: A statement of cash flows reports on cash flows for operating, investing, and financing activities over a period of time. Topic: Statement of Stockholders’ Equity LO: 2 10. An increase in treasury stock would be reflected in the statement of stockholders’ equity. Answer: True Rationale: The statement of stockholders’ equity reports on changes in the accounts that make up stockholders’ equity. This includes contributed capital, retained earnings, and treasury stock. You can buy the this complete file at Topic: Return on Assets LO: 3 11. Return on Assets (ROA) measures the profit the company makes on each dollar of total assets it uses. Answer: True Rationale: Return on Assets is a profitability metric that measures how much profit the company made for each dollar of assets the company holds on average during the year. Topic: Return on Assets LO: 3 12. Return on Assets (ROA) = Net Income / Sales × Asset Turnover Answer: True Rationale: Return on Assets = Net Income / Average Assets. This is the disaggregation of the ROA into its components Topic: Asset Turnover LO: 3 13. Consider two companies (A and B) with equal profit margins of 15%. Company A has an asset turnover of 1.2 and Company B has an asset turnover of 1.5. If all else is equal, Company B with its’ higher asset turnover, is less profitable because it is expensive to turn assets over. Answer: False Rationale: Asset turnover is an efficiency metric. The higher the turnover, the more efficient the company is with its assets and thus, the more profitable. Algebraically, ROA = PM × AT. Company A above is less profitable: 15% × 1.2 = 18% whereas Company B’s ROA is 15% × 1.5 = 22.5%. Topic: Financial Accounting and Business Analysis LO: 4 14. Financial statements are influenced by five important forces that determine a company’s competitive intensity: (A) industry competition, (B) buyer power, (C) supplier power, (D) product substitutes, and (E) threat of entry. Answer: True Rationale: By systematically considering these five business forces, we can gain better insights from financial statements. Topic: Audit Report LO: 5 15. A “clean” audit report asserts – among other things – that (a) the auditor has prepared all necessary financial statements and (b) management has expressed its opinion that they are prepared in conformity with GAAP. Answer: False Rationale: The statement is reversed: A “clean” audit report asserts – among other things – that (a) management has prepared all necessary financial statements and (b) the auditor has expressed its opinion that they are prepared in conformity with GAAP. ©Cambridge Business Publishers, 2013 1-4 Financial Statement Analysis & Valuation, 3rd EditionYou can buy the this complete file at Multiple Choice Topic: Users of Financial Statement Information LO: 1 1. Which of the following groups would likely not be interested in the financial statements of a large public company such as Berkshire Hathaway? A) Shareholders B) Employees C) Competitors D) Taxing agencies E) None of the above Answer: E Rationale: All of these parties would use the financial statements, albeit in different ways and for different purposes. Topic: Users of Financial Statement Information LO: 1 2. The SEC adopted Regulation FD, to curb public companies’ practice of: A) Routinely filing extensions for annual reports (Form 10-K) B) Selectively disclosing information C) Reporting pro forma (non-GAAP) numbers D) Hiring auditors for non-audit services such as consulting engagements E) None of the above Answer: B Rationale: Reg FD reads as follows: “Whenever an issuer discloses any material nonpublic information regarding that issuer, the issuer shall make public disclosure of that information . . . simultaneously, in the case of an intentional disclosure; and . . . promptly, in the case of a nonintentional disclosure.” Topic: Components of the Balance Sheet LO: 2 3. A list of assets, liabilities and equity can be found on which of the following? A) Balance Sheet B) Income Statement C) Statement of Assets and Liabilities D) Statement of Cash Flows E) Statement of Stockholders’ Equity Answer: A Rationale: A balance sheet lists amounts for assets, liabilities and equity at a point in time. You can buy the this complete file at Topic: Balance Sheet LO: 2 4. Which of the following items would not be found on a balance sheet? (Select all that apply) A) Stockholders’ Equity B) Property, plant and equipment C) Nonowner financing D) Sales E) Cost of Goods Sold Answer: D and E Rationale: The balance sheet reports assets (including property, plant and equipment), liabilities (including nonowner financing) and equity. Sales and Cost of Goods Sold appear on the income statement. Topic: Profit and Cash Flow LO: 2 5. A company’s net cash flow will equal its net income … A) Almost always B) Rarely C) Occasionally D) Only when the company has no investing cash flow for the period E) Only when the company has no investing or financing cash flow for the period Answer: B Rationale: Net income reflects the company’s revenue minus expenses for the given period. Net cash flow represents the amount of money received (spent) on operating, investing and financing activities for the given period. These values are rarely the same. Topic: Financial Statement Information LO: 2 6. Which of the following statements are correct (select all that apply): A) A balance sheet reports on investing and financing activities. B) An income statement reports on financing activities. C) The statement of equity reports on changes in the accounts that make up equity. D) The statement of cash flows reports on cash flows from operating, investing, and financing activities over a period of time. E) A balance sheet reports on a company’s assets and liabilities over a period of time. Answer: A, C, and D Rationale: Statement (b) is incorrect – the statement of cash flows reports on financing activities that are reflected on the balance sheet. Statement (e) is incorrect – the balance sheet reports on a company’s assets and liabilities at a point in time