Financial Reporting And Analysis 7Th Ed By Revsine – Test BanK The Role of Financial Information in Valuation and Credit Risk Assessment

Financial Reporting And Analysis 7Th Ed By Revsine – Test BanK The Role of Financial Information in Valuation and Credit Risk Assessment Financial Reporting And Analysis 7Th Ed By Revsine – Test BanK The Role of Financial Information in Valuation and Credit Risk Assessment True/False [QUESTION] 1. The discounted cash flow valuation approach expresses current value of a firm as the discounted present value of expected future cash flows. Answer: True Learning Objective: 06-01 Difficulty: 1 Easy AACSB: Reflective Thinking AICPA: BB Critical Thinking AICPA: FN Measurement Blooms: Understand AICPA: FN Measurement Topic: Discounted cash flow―Approach to valuation [QUESTION] 2. In applying the free cash flow valuation model, the discount rate used is the weighted-average cost of capital. Answer: True Learning Objective: 06-01 Difficulty: 1 Easy AACSB: Reflective Thinking AICPA: BB Resource Management AICPA: FN Measurement Blooms: Remember Topic: Discounted cash flow―Free cash flow model [QUESTION] 3. Accrual accounting produces an earnings number that depicts the effects of economic events on cash flows in the period in which the effects occur and provides an estimate of sustainable long-run future free cash flows. Answer: True Learning Objective: 06-02 Difficulty: 1 Easy AACSB: Reflective Thinking AICPA: BB Critical Thinking AICPA: FN Measurement Blooms: Remember Topic: Earnings―Role in valuation [QUESTION] 4. In the flows to equity model of valuation, and using simplifying assumptions, the current stock price estimate can be expressed as a capitalization rate (1 × r) multiplied by a perpetuity equal to cash flow after paying debtholders and preferred shareholders. Answer: False Feedback: The capitalization rate is (1 ÷ r). Learning Objective: 06-01 Difficulty: 3 Hard AACSB: Analytical Thinking AICPA: BB Critical Thinking AICPA: FN Measurement Blooms: Analyze Topic: Discounted cash flow―Flows to equity model [QUESTION] 5. The two most significant explanations for variations in the earnings multiple are risk differences and maturity of the firm. Answer: False Learning Objective: 06-04 Difficulty: 1 Easy AACSB: Reflective Thinking AICPA: BB Critical Thinking AICPA: FN Risk Analysis Blooms: Understand Topic: Price/Earnings multiples―Variation factors [QUESTION] 6. The value of the future growth opportunities of a firm can be determined by considering the firm’s potential earnings from reinvesting current earnings in new projects that will eventually earn a rate of return more than the cost of equity capital. Answer: True Learning Objective: 06-04 Difficulty: 1 Easy AACSB: Reflective Thinking AICPA: BB Resource Management AICPA: FN Measurement Blooms: Remember Topic: Price/Earnings multiples―Variation factors [QUESTION] 7. Return on assets (ROA) can be used to assess whether a firm is likely to earn a return on reinvested earnings that exceeds its cost of equity capital. Answer: False Feedback: Return on common equity (ROCE) can be used for this purpose. Learning Objective: 06-02 Difficulty: 2 Medium AACSB: Reflective Thinking AICPA: BB Resource Management AICPA: FN Measurement Blooms: Understand Topic: Earnings―Abnormal earnings approach [QUESTION] 8. A component that is unrelated to future free cash flows or future earnings and is not pertinent to assessing current share price is a noise component. Answer: True Learning Objective: 06-04 Difficulty: 1 Easy AACSB: Reflective Thinking AICPA: BB Resource Management AICPA: FN Measurement Blooms: Remember Topic: Price/Earnings multiples―Variation factors [QUESTION] 9. The degree of conservatism associated with a firm’s accounting choices will have a direct bearing on the relationships among share price, earnings, and the firm’s equity book value components of the abnormal earnings valuation approach. Answer: True Learning Objective: 06-02 Difficulty: 2 Medium AACSB: Reflective Thinking AICPA: BB Critical Thinking AICPA: FN Measurement Blooms: Understand Topic: Earnings―Abnormal earnings approach [QUESTION] 10. Much of the information needed for assessing the quality and value-relevance of a company’s reported accounting numbers cannot be found in the company’s Form 10-K. Answer: False Learning Objective: 06-05 Difficulty: 3 Hard AACSB: Analytical Thinking AICPA: BB Critical Thinking Blooms: Analyze Topic: Quality of earnings [QUESTION] 11. Under the GAAP hierarchy of approaches used in measuring fair value, Level 3 uses quoted prices from active markets for identical assets or liabilities to determine fair value. Answer: False Feedback: Level 1 uses quoted prices from active markets for identical assets or liabilities to determine fair value. Learning Objective: 06-03 Difficulty: 1 Easy AACSB: Reflective Thinking AICPA: BB Critical Thinking AICPA: FN Measurement Blooms: Remember Topic: Fair value measurements [QUESTION] 12. Because income from discontinued operations is not likely to be recurring, it would be considered transitory earnings and be valued at a lower multiple than recurring components (such as income from operations). Answer: True Learning Objective: 06-04 Difficulty: 2 Medium AACSB: Reflective Thinking AICPA: BB Critical Thinking AICPA: FN Measurement Blooms: Understand Topic: Price/Earnings multiples―Components of earnings [QUESTION] 13. If securities markets are rational and efficient in that they fully and correctly include all available information into a company’s stock price, the resulting price will reflect investors’ unbiased expectations about the company’s future earnings and cash flows. Answer: True Learning Objective: 06-06 Difficulty: 1 Easy AACSB: Reflective Thinking AICPA: BB Resource Management AICPA: FN Measurement Blooms: Understand Topic: Stock returns and earnings surprises [QUESTION] 14. Lenders form opinions about a firm’s credit risk by comparing current and future debt-service requirements to the estimates of the firm’s current and expected future cash flows. Answer: True Learning Objective: 06-07 Difficulty: 2 Medium AACSB: Reflective Thinking AICPA: BB Resource Management AICPA: FN Measurement Blooms: Understand Topic: Credit risk assessment―Types of lending [QUESTION] 15. The starting point for developing comprehensive financial statement forecasts is a detailed understanding of the company, its recent financial performance and its health. Answer: True Learning Objective: 06-08 Difficulty: 1 Easy AACSB: Reflective Thinking AICPA: FN Measurement Blooms: Understand Topic: Appendix B―Forecasts of financial statements Multiple Choice [QUESTION] 16. The fundamental valuation approach to business valuation uses basic accounting measures to assess the amount, timing and 17. certainty of a firm’s past operating cash flows or earnings. 18. certainty of a firm’s future non-operating cash flows or earnings. 19. uncertainty of a firm’s future operating cash flows or earnings. 20. uncertainty of a firm’s future non-operating cash flows or earnings. Answer: c Learning Objective: 06-01 Difficulty: 2 Medium AACSB: Reflective Thinking AICPA: BB Critical Thinking AICPA: FN Measurement AICPA: FN Measurement Blooms: Understand Topic: Basic steps in business valuation [QUESTION] 17. The steps involved in business valuation are forecasting the future values of a financial attribute that drives a company’s value, determining the risk associated with that forecasted value and determining the 18. future values of the value-relevant attribute. 19. certain future value of earnings. 20. present value of a firm’s earnings. 21. discounted present value of the expected future amounts using a discount rate that reflects the risk or uncertainty. Answer: d Learning Objective: 06-01 Difficulty: 2 Medium AACSB: Reflective Thinking AICPA: BB Critical Thinking AICPA: FN Measurement Blooms: Understand Topic: Basic steps in business valuation [QUESTION] 18. Cash flow assessment plays a central role in analyzing 19. the credit risk of a company. 20. management’s effectiveness. 21. the future earnings potential of a company. 22. the firm’s investment potential. Answer: a Learning Objective: 06-01 Difficulty: 1 Easy AACSB: Reflective Thinking AICPA: BB Resource Management AICPA: FN Risk Analysis Blooms: Remember Topic: Basic steps in business valuation [QUESTION] 19. Valuing an entire company, an operating division of that company or its ownership shares involves three basic steps. These steps include all of the following except: 20. Forecasting future amounts of a value-relevant attribute. 21. Determining the risk or uncertainty associated with the forecasted future amounts. 22. Determining the discounted present value of the expected future amounts using an appropriate discount rate. 23. Determining the dividends the company will pay in the future based on the company’s dividend policy and expected future earnings. Answer: d Learning Objective: 06-01 Difficulty: 2 Medium AACSB: Reflective Thinking AICPA: BB Critical Thinking AICPA: FN Measurement Blooms: Remember Topic: Basic steps in business valuation [QUESTION] 20. When using the discounted flows to equity valuation model, the market value of common shares depends upon investors’ 21. future expectations about the future economic prospects of cash flows before payments to debtholders and preferred shareholders. 22. current expectations about the future economic prospects of cash flows after payments to debtholders and preferred shareholders. 23. future expectations about the current economic prospects of cash flows to both debtholders and preferred shareholders. 24. current expectations about the current economic prospects of cash flows to both debtholders and preferred shareholders. Answer: b Learning Objective: 06-01 Difficulty: 2 Medium AACSB: Reflective Thinking AICPA: BB Resource Management AICPA: FN Measurement Blooms: Understand Topic: Discounted cash flow―Flows to equity model [QUESTION] 21. A simplified version of the discounted free cash flow valuation model assumes a zero-growth perpetuity for future cash flows. This assumption is best applied to 22. start-up firms with stable cash flow patterns. 23. growth firms with increasing cash flow patterns. 24. growth firms with stable cash flow patterns. 25. mature firms with stable cash flow patterns. Answer: d Learning Objective: 06-01 Difficulty: 2 Medium AACSB: Reflective Thinking AICPA: BB Critical Thinking AICPA: FN Measurement Blooms: Understand Topic: Discounted cash flow―Free cash flow model [QUESTION] 22. To apply the discounted free cash flow model, the analyst needs to estimate a net cash flows from operations for each future period, starting one period from now. 1. free cash flows for each future period, starting one period from now. 2. free cash flows for approximately ten years as the present value of cash flows occurring beyond that point are insignificant. 3. net cash flows from operations for approximately ten years as the present value of cash flows occurring beyond that point are insignificant. Answer: b Learning Objective: 06-01 Difficulty: 2 Medium AACSB: Reflective Thinking AICPA: BB Critical Thinking AICPA: FN Measurement Blooms: Understand Topic: Discounted cash flow―Free cash flow model [QUESTION] 23. The FASB stresses that the primary objective of financial reporting is to provide information useful to investors and creditors in assessing the amount, timing and uncertainty of future net cash flows. The FASB contends that 24. users pay attention to firms’ accounting earnings because this accrual measure of periodic firm performance improves their ability to forecast future cash flows. 25. information about current cash receipts and payments is the best indicator for this task. 26. users pay attention to managements’ estimates of free cash flows because this information improves their ability to forecast future cash flows. 27. current cash flows outperform current earnings in predicting future cash flows. Answer: a Learning Objective: 06-02 Difficulty: 2 Medium AACSB: Reflective Thinking AICPA: BB Critical Thinking AICPA: FN Measurement Blooms: Understand Topic: Earnings―Role in valuation [QUESTION] 24. By using accruals and deferrals, accrual accounting 25. produces a cash flow number that reflects only cash earnings. 26. produces information about current cash receipts and payments. 27. enables management to estimate future free cash flows. 28. produces an earnings number that depicts the effects of economic events on cash flows. Answer: d Learning Objective: 06-02 Difficulty: 2 Medium AACSB: Reflective Thinking AICPA: BB Critical Thinking AICPA: FN Measurement Blooms: Understand Topic: Earnings―Role in valuation [QUESTION] 25. Research indicates that stock returns correlate better with 26. accrual earnings than realized operating cash flows. 27. cash basis earnings than realized operating cash flows. 28. realized operating cash flows than accrual earnings. 29. future operating cash flows than accrual earnings. Answer: a Learning Objective: 06-02 Difficulty: 2 Medium AACSB: Reflective Thinking AICPA: BB Resource Management Blooms: Understand