FINMAN 1 FIRST QUIZ ON FINANCIAL STATEMENT ANALYSIS September 2020

Multiple Choice. Identify the letter of the choice that best completes the statement or answers the question.

1. Which of the following statements is most correct? [A] Comparable financial statements are designed to compare the
financial statements of two or more corporations. [B] In horizontal analysis, the current year is the base year. [C] On
a common-sized income statement, all items are stated as a percent of total assets or equities at year-end. [D] The
percentage analysis of increases and decreases in corresponding items in comparative financial statements is referred
to as horizontal analysis.
2. Which of the following statements is not correct? [A] A 15% change in sales will result in a 15% change in net income.
[B] A financial statement showing each item on the statement as a percentage of one key item on the statement is
called common-sized financial statement. [C] The relationship of each asset item as a percent of total assets is an
example of vertical analysis. [D] Horizontal analysis refers to comparing the financial statements of a single company
for several years.
3. Which of the following statements is most correct? [A] In a common-sized income statement, each item is expressed
as a percentage of net sales. [B] In the vertical analysis of a balance sheet, the base for current liabilities is total
liabilities. [C] Using vertical analysis of the income statement, a company's net income as a percentage of net sales is
15%; therefore, the cost of goods sold as a percentage of sales must be 85%. [D] In the vertical analysis of an income
statement, each item is generally stated as a percentage of total assets.
4. Which of the following statements is not correct? [A] Factors which reflect the ability of a business to pay its debts
and earn a reasonable amount of income are referred to as solvency and profitability. [B] Current position analysis
indicates a company's ability to liquidate current liabilities. [C] An advantage of the current ratio is that it considers
the makeup of the current assets. [D] A balance sheet shows cash, P75,000; marketable securities, P115,000;
receivables, P150,000 and P222,500 of inventories. Current liabilities are P225,000. The current ratio is 2.5 to 1.
5. Which of the following statement is most correct? [A] If two companies have the same current ratio, their ability to
pay short-term debt is the same. [B] The ratio of the sum of cash, receivables, and marketable securities to current
liabilities is referred to as the current ratio. [C] If a firm has a current ratio of 2, the subsequent receipt of a 60-day
note receivable on account will cause the ratio to decrease. [D] An increase in the accounts receivable turnover may
be due to an improvement in the collection of receivables or to a change in the granting of credit and/or in collection
practices.
6. Which of the following statements is not correct? [A] Solvency analysis focuses on the ability of a business to pay its
current and noncurrent liabilities. [B] If the accounts receivable turnover for the current year has decreased when
compared with the ratio for the preceding year, there has been an acceleration in the collection of receivables. [C]
The number of days' sales in receivables is one means of expressing the relationship between average daily sales and
accounts receivable. [D] A firm selling food should have higher inventory turnover rate than a firm selling office
furniture.
7. Which of the following statements is most correct? [A] If a firm has a quick ratio of 1, the subsequent payment of an
account payable will cause the ratio to increase. [B] The number of days' sales in inventory is one means of expressing
the relationship between the cost of goods sold and inventory. [C] Assuming that the quantities of inventory on hand
during the current year were sufficient to meet all demands for sales, a decrease in the inventory turnover for the
current year when compared with the turnover for the preceding year indicates an improvement in inventory
management. [D] The ratio of fixed assets to long-term liabilities provides a measure of a firm’s ability to pay
dividends.
8. Which of the following statements is not correct? [A] A decrease in the ratio of liabilities stockholders' equity indicates
an improvement in the margin of safety for creditors. [B] In computing the ratio of net sales to assets, long-term
investments are excluded from average total assets. [C] The rate earned on total assets measures the profitability of
total assets, without considering how the assets are financed. [D] In computing the rate earned on total assets, interest
expense is subtracted from net income before dividing by average total assets.
9. Which of the following statements is not correct? [A] The denominator of the rate of return on total assets ratio is the
average total assets. [B] When the rate of return on total assets ratio is greater than the rate of return on common
stockholders' equity ratio, the management of the company has effectively used leverage. [C] When computing the
rate earned on total common stockholders' equity, preferred stock dividends are subtracted from net income. [D] The
ratio of the market price per share of common stock on a specific date to the annual earnings per share is referred to
as the price-earnings ratio.
10. Which of the following statements is not correct? [A] The dividend yield rate is equal to the dividends per share divided
by the par value per share of common stock. [B] Comparing dividends per share to earnings per share indicates the
extent to which the corporation is retaining its earnings for use in operations. [C] When you are interpreting financial
ratios, it is useful to compare a company's ratios to some form of standard. [D] Ratios and various other analytical
measures are not a substitute for sound judgment, nor do they provide definitive guides for action.

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11. Which of the following statements is most correct? [A] If a company has issued only one class of stock, the earnings
per share are determined by dividing net income plus interest expense by the number of shares outstanding. [B]
Interpreting financial analysis should be considered in light of conditions peculiar to the industry and the general
economic conditions. [C] The effects of differences in accounting methods are of little importance when analyzing
comparable data from competing businesses. [D] Unusual items affecting the current period’s income statement
consist of changes in accounting principles and discontinued operations.
12. The percentage analysis of increases and decreases in individual items in comparative financial statements is called
[A] Vertical analysis. [B] Solvency analysis. [C] Profitability analysis. [D] Horizontal analysis.
13. Which of the following below generally is the most useful in analyzing companies of different sizes [A] Comparative
statements. [B] Common-sized financial statements. [C] Price-level accounting. [D] Audit report.
14. The percent of fixed assets to total assets is an example of [A] Vertical analysis. [B] Solvency analysis. [C] Profitability
analysis. [D] Horizontal analysis.
15. A balance sheet that displays only component percentages is called [A] Trend balance sheet. [B] Comparative balance
sheet. [C] Condensed balance sheet. [D] Common-sized balance sheet.
16. One reason that a common-size statement is a useful tool in financial analysis is that it enables the user to [A] Judge
the relative potential of two companies of similar size in different industries. [B] Determine which companies in a
single industry are of the same value. [C] Determine which companies in a single industry are of the same size. [D]
Make a better comparison of two companies of different sizes in the same industry.
17. Under which of the following cases may a percentage change be computed? [A] There is no amount in the base year.
[B] There is a negative amount in the base year and a negative amount in the subsequent year. [C] The trend of the
amounts is decreasing but all amounts are positive. [D] There is a negative amount in the base year and a positive
amount in the subsequent year.
18. Horizontal analysis is a technique for evaluating financial statement data [A] For one period of time. [B] Over a period
of time. [C] On a certain date. [D] As it may appear in the future.
19. The ability of a business to pay its debts as they come due and to earn a reasonable amount of income is referred to
as [A] Solvency and leverage. [B] Solvency and profitability. [C] Solvency and liquidity. [D] Solvency and equity.
20. An acceleration in the collection of receivables will tend to cause the accounts receivable turnover to [A] Decrease.
[B] Remain the same. [C] Either increase or decrease. [D] Increase.
21. Which of the following ratios provides a solvency measure that shows the margin of safety of noteholders or
bondholders and also gives an indication of the potential ability of the business to borrow additional funds on a long-
term basis? [A] Ratio of fixed assets to long-term liabilities. [B] Ratio of net sales to assets. [C] Number of days' sales
in receivables. [D] Rate earned on stockholders' equity.
22. The number of times interest expense is earned is computed as [A] Net income plus interest expense, divided by
interest expense. [B] Income before income tax plus interest expense, divided by interest expense. [C] Net income
divided by interest expense. [D] Income before income tax divided by interest expense.
23. The current ratio is [A] Used to evaluate a company's liquidity and short-term debt paying ability. [B] Is a solvency
measure that indicated the margin of safety of a noteholder or bondholder. [C] Calculated by dividing current liabilities
by current assets. [D] Calculated by subtracting current liabilities from current assets.
24. A company with P60,000 in current assets and P40,000 in current liabilities pays a P1,000 current liability. As a result
of this transaction, the current ratio will [A] Decrease. [B] Increase. [C] Remain the same. [D] Not be affected.
25. The tendency of the rate earned on stockholders' equity to vary disproportionately from the rate earned on total
assets is sometimes referred to as [A] Leverage. [B] Solvency. [C] Yield. [D] Quick assets.
26. The numerator of the rate earned on common stockholders' equity ratio is equal to [A] Net income. [B] Net income
minus preferred dividends. [C] Income plus interest expense. [D] Income minus interest expense.
27. The numerator of the rate earned on total assets ratio is equal to [A] Net income. [B] Net income plus tax expense.
[C] Net income plus interest expense. [D] Net income minus preferred dividends.
28. The particular analytical measures chosen to analyze a company may be influenced by all of the following except [A]
Industry type. [B] Capital structure. [C] Diversity of business operations. [D] Product quality or service effectiveness.
29. Creditors are typically most interested in assessing [A] Marketability. [B] Profitability. [C] Operating results. [D]
Solvency.
30. A common measure of liquidity is [A] Ratio of net sales to assets. [B] Dividends per share of common stock. [C]
Receivable turnover. [D] Profit margin.
31. A company that is leveraged is one that [A] Contains debt financing. [B] Contains equity financing. [C] Has a high
current ratio. [D] Has a high earnings per share.
32. Percentage analyses, ratios, turnovers, and other measures of financial position and operating results are [A]
Substitute for sound judgment. [B] Useful analytical and quantitative measures. [C] Enough information for analysis,
industry information is not needed. [D] Unnecessary for analysis, but reaction is better.
33. All of the following are typically included in the Management’s Discussion and Analysis in annual reports except [A]
Explanations of any significant changes between the current and prior years’ financial statements. [B] Management’s
assessment of liquidity, solvency and profitability. [C] Journal entries. [D] Off-balance-sheet arrangements.
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34. Which of the following statements is not correct? [A] Ratio analysis involves analyzing financial statements in order to
appraise a firm's financial position and strength. [B] The current ratio and inventory turnover ratios both help us
measure the firm's liquidity. The current ratio measures the relationship of a firm's current assets to its current
liabilities, while the inventory turnover ratio gives us an indication of how long it takes the firm to convert its inventory
into cash. [C] Although a full liquidity analysis requires the use of a cash budget, the current and quick ratios provide
fast and easy-to-use measures of a firm's liquidity position. [D] High current and quick ratios always indicate that a
firm is managing its liquidity position well.
35. Which of the following statements is most correct? [A] The basic earning power ratio (BEP) reflects the earning power
of a firm's assets after giving consideration to financial leverage and tax effects. B] It is appropriate to use the fixed
assets turnover ratio to appraise firms' effectiveness in managing their fixed assets if and only if all the firms being
compared have the same proportion of fixed assets to total assets. [C] The inventory turnover and current ratio are
related. The combination of a high current ratio and a low inventory turnover ratio, relative to industry norms,
suggests that the firm has an above-average inventory level and/or that part of the inventory is obsolete or damaged.
[D] Since the ROA measures the firm's effective utilization of assets (without considering how these assets are
financed), two firms with the same EBIT must have the same ROA.
36. Which of the following statements is most correct? [A] Suppose firms follow similar financing policies, face similar
risks, have equal access to capital, and operate in competitive product and capital markets. Under these conditions,
then firms that have high profit margins will tend to have high asset turnover ratios, and firms with low profit margins
will tend to have low turnover ratios. [B] Even though Firm A's current ratio exceeds that of Firm B, Firm B's quick ratio
might exceed that of A. However, if A's quick ratio exceeds B's, then we can be certain that A's current ratio is also
larger than that of B. [C] Firms A and B have the same current ratio, 0.75, the same amount of sales, and the same
amount of current liabilities. However, Firm A has a higher inventory turnover ratio than B. Therefore, we can
conclude that A's quick ratio must be smaller than B's. [D] Suppose a firm wants to maintain a specific TIE ratio. It
knows the amount of its debt, the interest rate on that debt, the applicable tax rate, and its operating costs. With this
information, the firm can calculate the amount of sales required to achieve its target TIE ratio.
37. Which of the following statements is most correct? Statement 1. Suppose a firm wants to maintain a specific TIE ratio.
It knows the amount of its debt, the interest rate on that debt, the applicable tax rate, and its operating costs. With
this information, the firm can calculate the amount of sales required to achieve its target TIE ratio. Statement 2.
Suppose Firms A and B have the same amount of assets, pay the same interest rate on their debt, have the same basic
earning power (BEP), and have the same tax rate. However, Firm A has a higher debt ratio. If BEP is greater than the
interest rate on debt, Firm A will have a higher ROE as a result of its higher debt ratio. [A] Statement 1 only. [B]
Statement 2 only. [C] Both statements. [D] None of the above.
38. Which of the following statements is most correct? Statement 1. One problem with ratio analysis is that relationships
can be manipulated. For example, if our current ratio is greater than 1.5, then borrowing on a short-term basis and
using the funds to build up our cash account would cause the current ratio to increase. Statement 2. One problem
with ratio analysis is that relationships can be manipulated. For example, we know that if our current ratio is less than
1.0, then using some of our cash to pay off some of our current liabilities would cause the current ratio to increase
and thus make the firm look stronger. [A] Statement 1 only. [B] Statement 2 only. [C] Both statements. [D] None of
the above.
39. Which of the following statements is most correct? [A] The inventory turnover and current ratio are related. The
combination of a high current ratio and a low inventory turnover ratio, relative to industry norms, suggests that the
firm has an above-average inventory level and/or that part of the inventory is obsolete or damaged. [B] It is
appropriate to use the fixed assets turnover ratio to appraise firms' effectiveness in managing their fixed assets if and
only if all the firms being compared have the same proportion of fixed assets to total assets. [C] Suppose firms follow
similar financing policies, face similar risks, have equal access to capital, and operate in competitive product and
capital markets. Under these conditions, then firms that have high profit margins will tend to have high asset turnover
ratios, and firms with low profit margins will tend to have low turnover ratios. [D] Since the ROA measures the firm's
effective utilization of assets (without considering how these assets are financed), two firms with the same EBIT must
have the same ROA.
40. Which of the following statements is most correct? Statement 1. Even though Firm A's current ratio exceeds that of
Firm B, Firm B's quick ratio might exceed that of A. However, if A's quick ratio exceeds B's, then we can be certain
that A's current ratio is also larger than that of B. Statement 2. Firms A and B have the same current ratio, 0.75, the
same amount of sales, and the same amount of current liabilities. However, Firm A has a higher inventory turnover
ratio than B. Therefore, we can conclude that A's quick ratio must be smaller than B's. [A] Statement 1 only. [B]
Statement 2 only. [C] Both statements. [D] None of the above.
41. Which of the following would, generally, indicate an improvement in a company’s financial position, holding other
things constant? [A] The total assets turnover decreases. [B] The TIE declines. [C] The DSO increases. [D] The EBITDA
coverage ratio increases. [E] The current and quick ratios both decline.

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42. A firm wants to strengthen its financial position. Which of the following actions would increase its current ratio? [A]
Use cash to increase inventory holdings. [B] Reduce the company’s days’ sales outstanding to the industry average
and use the resulting cash savings to purchase plant and equipment. [C] Use cash to repurchase some of the company’s
own stock. [D] Borrow using short-term debt and use the proceeds to repay debt that has a maturity of more than
one year. [E] Issue new stock and then use some of the proceeds to purchase additional inventory and hold the
remainder as cash.
43. Which of the following statements is CORRECT on “Window Dressing”? [A] “Window dressing” is any action that
improves a firm’s fundamental, long-run position and thus increases its intrinsic value. [B] Borrowing by using short-
term notes payable and then using the proceeds to retire long-term debt is an example of “window dressing.” Offering
discounts to customers who pay with cash rather than buy on credit and then using the funds that come in quicker to
purchase additional inventories is another example of “window dressing.” [C] Borrowing on a long-term basis and
using the proceeds to retire short-term debt would improve the current ratio and thus could be considered to be an
example of “window dressing.” [D] Offering discounts to customers who pay with cash rather than buy on credit and
then using the funds that come in quicker to purchase additional inventories is an example of “window dressing.” [E]
Using some of the firm’s cash to reduce long-term debt is an example of “window dressing.”
44. If a bank loan officer were considering a company’s request for a loan, which of the following statements would you
consider to be CORRECT? [A] Other things held constant, the lower the current ratio, the lower the interest rate the
bank would charge the firm. [B] The lower the company’s EBITDA coverage ratio, other things held constant, the lower
the interest rate the bank would charge the firm. [C] Other things held constant, the higher the debt ratio, the lower
the interest rate the bank would charge the firm. [D] Other things held constant, the lower the debt ratio, the lower
the interest rate the bank would charge the firm. [E] The lower the company’s TIE ratio, other things held constant,
the lower the interest rate the bank would charge the firm.
45. Other things held constant, which of the following alternatives would increase a company’s cash flow for the current
year? [A] Increase the number of years over which fixed assets are depreciated for tax purposes. [B] Pay down the
accounts payables. [C] Reduce the days’ sales outstanding (DSO) without affecting sales or operating costs. [D] Pay
workers more frequently to decrease the accrued wages balance. [E] Reduce the inventory turnover ratio without
affecting sales or operating costs.
46. A firm wants to strengthen its financial position. Which of the following actions would increase its quick ratio? [A]
Issue new common stock and use the proceeds to acquire additional fixed assets. [B] Offer price reductions along with
generous credit terms that would (1) enable the firm to sell some of its excess inventory and (2) lead to an increase in
accounts receivable. [C] Issue new common stock and use the proceeds to increase inventories. [D] Speed up the
collection of receivables and use the cash generated to increase inventories. [E] Use some of its cash to purchase
additional inventories.
47. Which of the following statements is CORRECT? [A] An increase in a firm’s debt ratio, with no changes in its sales or
operating costs, could be expected to lower the profit margin. [B] The ratio of long-term debt to total capital is more
likely to experience seasonal fluctuations than is either the DSO or the inventory turnover ratio. [C] If two firms have
the same ROA, the firm with the most debt can be expected to have the lower ROE. [D] An increase in the DSO, other
things held constant, could be expected to increase the total assets turnover ratio. [E] An increase in the DSO, other
things held constant, could be expected to increase the ROE.
48. A firm’s new president wants to strengthen the company’s financial position. Which of the following actions would
make it financially stronger? [A] Increase inventories while holding sales constant. [B] Increase accounts receivable
while holding sales constant. [C] Increase EBIT while holding sales constant. [D] Increase accounts payable while
holding sales constant. [E] Increase notes payable while holding sales constant.
49. Lincoln Industries’ current ratio is 0.5. Considered alone, which of the following actions would increase the company’s
current ratio? [A] Use cash to reduce long-term bonds outstanding. [B] Borrow using short-term notes payable and
use the cash to increase inventories. [C] Use cash to reduce accruals. [D] Use cash to reduce accounts payable. [E] Use
cash to reduce short-term notes payable.
50. Quarantine’s has P20 million in current assets and P10 million in current liabilities, while Lockdown’s current assets
are P10 million versus P20 million of current liabilities. Both firms would like to “window dress” their end-of-year
financial statements, and to do so each plan to borrow P10 million on a short-term basis and to then hold the borrowed
funds in their cash accounts. Which of the statements below best describes the results of these transactions? [A] The
transaction would improve both firms’ financial strength as measured by their current ratios. [B] The transactions
would raise Quarantine’s financial strength as measured by its current ratio but lower Lockdown’s current ratio. [C]
The transactions would lower Quarantine’s financial strength as measured by its current ratio but raise Lockdown’s
current ratio. [D] The transaction would have no effect on the firm’ financial strength as measured by their current
ratios. [E] The transaction would lower both firm’ financial strength as measured by their current ratios.

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