Understanding and Analysis and Interpretation of Financial Statements

UNDERSTANDING AND ANALYSIS AND INTERPRETATION OF FINANCIAL STATEMENTS
1. A company’s current ratio is 2.2 to 1 and quick (acid test) ratio is 1.0 to 1 at the beginning of the year. At
the end of the year, the company has a current ratio of 2.5 to 1 and quick ratio of .8 to 1. Which of the
following could help explain the divergence in the ratios from the beginning to the end of the year?
a. An increase in inventory levels during the current year.
b. An increase in credit sales in relation to cash sales.
c. An increase in the use of trade payables during the current year.
d. An increase in the collection rate of accounts receivable.
Answer: A
Source: CPA Examination Reviewer and Quizzer Management Advisory Services/ 2000 edition/ Ma. Elenita
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2. Which of the following will cause a decrease in a company’s accounts receivable turnover ratio?
a. Tighten credit standards.
b. Enforce credit terms more aggressively.
c. Ease enforcement of credit terms.
d. Factor all accounts receivable.
Answer: C
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3. If, just prior to a period of rising prices, a company changed its inventory measurement method from FIFO
to LIFO, the effect in the next period would be to
a. Increase both the current ratio and inventory turnover.
b. Decrease both the current ratio and inventory turnover.
c. Increase the current ratio and decrease inventory turnover.
d. Decrease the current ratio and increase inventory turnover.
Answer: D
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4. A firm that has substantial leased assets that need not to be capitalized would tend to
a. Overstate its debt ratio.
b. Overstate its earning per share.
c. Overstate its return on assets.
d. Overstate its debt to tangible net worth.
Answer: D
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5. A measure of profitability and not short-term liquidity is the

a. Accounts receivable turnover ratio.
b. Sales to working capital ratio.
c. Total assets turnover ratio.
d. Acid-test ratio.
Answer: C
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6. Return on Investment (ROI) is term often used to express income earned on capital invested in a business
units. A company’s ROI would be increased if
a. Sales increased by the same peso amount as expenses and total assets increased.
b. Sales remained the same and expenses were reduced by the same peso amount that total assets
increased.
c. Sales decreased by the same peso amount that expenses increased.
d. Sales and expenses increased by the same percentage that the total asset increased
Answer: B
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7. When a balance sheet amount is related to an income statement amount in computing a ratio,
a. The balance sheet amount should be converted to an average for the year.
b. The income statement amount should be converted to an average for the year.
c. Both amounts should be converted to market value
d. Comparisons with industry ratios are not meaningful
Answer: A
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8. Ratios are used for many purposes in the financial statement analysis. In order to determine the return on
investment for a company, the numerator of the fraction used should be
a. Net income.
b. Income before non-recurring items.
c. Income before non-recurring items and before income taxes.
d. Income before non-recurring items plus interest expense net of income tax.
Answer: D
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9. Ratios that measures firms ability to generate earnings is

a. Time interest earned.
b. Day’s sales in receivables.
c. Sales to working capital.
d. Operating asset turnover
Answer: A
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The following data apply to items 10-12:
Listed below are selected ratios for Romeo Company and Juliet Limited, both large firms in manufacturing pressure
valves. Also listed are the industry averages for the same ratios. All of the ratios are for the same year.
Romeo Juliet Industry
Ratio Company Limited Average
Current ratio 3.0 2.1 1.8

Quick Ratio 1.6 1.0 1.0
A.R. Turnover 5.0 6.3 6.0
Inventory turnover 4.1 6.3 5.3
Total liabilities to net worth 2.1 3.0 2.0
Sales to net worth 15.0 20.0 13.5
Sales to total assets 2.8 7.3 5.0
Net income to sales 2.4% 1.1% 1.6%
Net income to net worth 8.6% 16.5% 9.9%
Net income to net assets 6.6% 8.2% 7.8%
Time interest earned 4.3% 2.6 4.0
10. Based on the information presented, the ratios that should be used to determine which company has a
strongest liquid position are
a. Current ratio and inventory turnover.
b. Current ratio and quick ratio.
c. Quick ratio and time interest earned.
d. Total liabilities to net worth and current ratio.
Answer: A
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11. The ratios that can be used to determine which company is more efficiently using leverage to its advantage
are
a. Time interest earned and sales to net worth.
b. Net income to sales and sales to total assets.
c. Net income to net worth and net income to total assets.
d. Net income to sales and total liabilities to net worth.
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Answer: C
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12. The operating cycle represents the average time it takes to invest cash in inventory and eventually collect
the cash from sales. If both Romeo Company and Juliet Limited makes all sales on open account, which of
the following items is most accurate?
a. Romeo’s operating cycle is about 45 days longer than Juliet’s.
b. Juliet’s operating cycle is about the same as the industry average.
c. Romeo’s and Juliet’s operating cycles are about equal in length.
d. Both Romeo and Juliet have operating cycles that are longer than the industry average.
Answer: A
Solution:
R J
Formula: 360/5 = 72 360/6.3 = 57

Average Collection Period
of Receivable
(360/AR turn over)
Add: Average Conversion 360/4.1 = 87 360/6.3 = 57
Period of Inventories
(360/Inventory Turnover)
Days Cash
(average cash balance/ ___ ___
{cash balance cost/360})
_______________ ______________
Operating Cycle 159 114
(difference is 45 days)
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13. On December 31, 19x0 the Balance Sheet of Belle Co. disclosed total assets of P 8,000,000; current
liabilities of P 15,000,000; and long term debt of P 2,400,000. Common stock outstanding amounted to P
500,000 shares, while 100,00 shares of P 10 par value preferred stock were outstanding. The retained
earnings account indicated a deficit balance of P 2,000,000. Belle’s book value per share of common stock
as of December 31, 19x0 is
a. P 16.00 b. P 6.20c. P 12.20 d. P 8.20
Answer: B
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14. A financial analyst made up the following schedule for Health Care Products:
19x8 19x7 19x6 19x5
Net Sales 134% 116% 107% 100%
Net Income 123% 111% 110% 100%
This analytical technique is termed:

a. Percentage of change analysis c. Component Analysis
b. Trend Analysis d. Revenue and Expense Analysis
Answer: B
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15. A high quality of earnings is indicated by:

a. Earnings derived largely from newly introduced products
b. Declaration of both cash dividends and stock dividends
c. Use of FIFO method of inventory during sustained inflation
d. A history of increasing earnings and conservative accounting methods
Answer: D
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16. AFH financial statement as at the year ended December 31, 19x6 shows accounts receivable, net of
750,000 and sales at P 15 million. Accounts receivable remains relatively constant during the year. AFH’s
accounts receivable turnover in days is:
a. P 18.25 b. P 20.25 c. P 15.25 d. P 16.25
Answer: A
Solution:
Average collection period of days sales = Accounts Receivable/ (Net Sales/360)

= 750,000/ (15000000/360)
= 750,000/41666.67
= 18
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17. Given a year’s end net income of P 1.5 million, and 50,000 common shares outstanding throughout the year
with the market price per share at year’s end being P 120, the price-earning ratio is
a. 2 times b. 3 times c. 4 times d. 5 times
Answer: C
Solution:
P/E Ratio = MV share of common stock/ Earnings per share of common stock
= P 120/ P 30*
= 4 times
* EPS = NI less preferred dividends/ Common stock outstanding

= P 1,500,000/ 50,000
= 30
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18. Inventory turnover indicates:

a. How many times in the course of a year the company is able to sell the amount of its average
inventory
b. The flow assumption which provides the most current valuation in the balance sheet
c. The average time period between the purchase of inventory and the conversion of this inventory
back to cash
d. A pattern of transferring unit costs from the inventory account to cost of good sold
Answer: A
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19. Securing of funds from investment at a fixed rate of return to fund suppliers, to enhance the well-being of
the common stock holders is known as:
a. Financial leverage c. Prudent borrowing
b. Fund management d. Financial arbitrage
Answer: A
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20. The following situation are descriptive of SBD Corporation. Which would be considered as the most
favorable for the common stockholders?
a. Book value per share of common stock is substantially higher than market value per share; return
on common stockholder’s equity is less than the rate of interest paid to the creditors.
b. Equity ratio is high; return on assets exceeds cost of borrowing.
c. SBD stops paying dividends on its cumulative preferred stock; the price-earning ratio of common
stock is low.
d. Equity ratio is low; return on assets exceeds the cost of borrowing.
Answer: D
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21. GRX Inc. has a current ratio of 4:1. Which of the following transactions would normally increase its
current ratio?
a. Purchasing inventory on account
b. Purchasing machinery on cash
c. Selling inventory on account
d. Collecting on accounts receivable
Answer: C
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22. OTW Corporation has current assets totaling P 15 million and a current ratio of .25 to 1. what is OTW’s
current ration immediately after it has paid P 2million of its accounts receivable?
a. 3.75 to 1b. 2.75 to 1 c. 3.25 to 1 d. 4.75 to 1
Answer: C
Solution:
Current Ratio = Current Assets/ Current Liabilities

2.5 = 15,000,000/ Current Liabilities
Current Liabilities = 15,000,000/ 2.5
Current Liabilities = 6,000,000
Payment of P 2,000,000:
Accounts Payable P 2,000,0000
Cash P 2,000,000
Current Ratio = P 15,000,000 – P 2,000,000/ P 6,000,000- P 2,000,000

= P 13,000,000/ P 4,000,000
= P 3.25
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23. Ram Corporation has a 2 to 1 current ratio. This ratio would increase more than 2 to 1 if
a. The company wrote off an uncollectible receivable
b. The company purchased inventory on open account
c. The company sold merchandise on open account that earned a normal gross margin
d. A previously declared stock dividends were distributed
Answer: C
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24. If a firm had been extending trade credit on a 2/10, net 30 basis, what change would be expected on the
balance sheet of its customer if the firm went to a net cash 30 policy?
a. Increased payables and increased bank loan
b. Increased receivables
c. Decreased receivables
d. Decreased cash
Answer: A
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25. The ratio of sales to the working capital is a measure of

a. Collectivity c. Liquidity
b. Operational Leverage d. Financial Leverage
Answer: C
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26. A measure of the company’s long-term debt-paying ability is

a. Return on assets c. Dividend payout
b. Times interest earned d. Length of operating cycle
Answer: B
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27. Determining appropriate level of working capital for a firm requires

a. Evaluating risk associated with various levels of fixed assets and the types of debt used to finance
these assets
b. Changing the capital structure and dividend policy of the firm
c. Maintaining a high proportion of liquid assets to total assets in order to maximize the return on
total investment
d. Offsetting the profitability of current assets and current liabilities against the profitability of
technical insolvency
Answer: D
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28. The ratio of total liabilities to stockholder’s equity increases, a ratio that must also increase is
a. Time interest earned ratio
b. The current ratio
c. Total liabilities to total assets
d. Return on stockholder’s equity
Answer: C
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29. Horizontal, vertical, and common size analyses are techniques that are used by analyst in understanding the
financial statement of companies. Which of the following is an example of vertical common-size analysis?
a. Commission expense in 19x5 is 10% greater than it was in 19x4
b. A comparison of financial ratio form between two or more firms of the same industry
c. A comparison in financial form between two or more firms in different industries
d. Commission expense in 19x5 is 5% of sales
Answer: D
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30. Manang Corporation made substantial one time sale to a provincial based customer which was on credit
and had been outstanding for six months. Before the company could refer the account to a lawyer for
collection, the customer paid in full. Which of the following ratios would be increased by unexpected
receipt?
a. Acid test ratio c. Current ratio
b. Receivable turn over ratio d. Inventory turnover ratio
Answer: B
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31. Boomster, Inc. generated the following results for the period just ended:
Sales…………………………………………………… P 1.0 million

Net income…………………………………………….. P 0.1 million
Capital investment…………………………………….. P 0.5 million
To arrive at the return on investment, which of the following should be used?

a. ROI= (5/10) x (10/1) c. ROI= (5/10) x (1/10)
b. ROI= (10/5) x (10/1) d. ROI = (10/5) x (1/10)
Answer: D
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32. Which of the following does not belong to the list?

a. Common-size financial statements
b. Peso and percentage changes on financial statements
c. Financial ratios
d. Long form report
Answer: D
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33. If Penta Mfg. Company decided to change from first-in. first out (FIFO) inventory method to the last-in,
first-out (LIFO) method during a period of rising prices, its
a. Current ratio would be reduced
b. Debt-to-equity ratio would be decreased
c. Inventory turnover would be reduced
d. Cash flow would be reduced
Answer: A
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34. Which of the following is not a use of working capital?

a. Repurchase of common stock
b. Purchase of inventory on account
c. Repurchase of equipment on account
d. Repayment of long-term debt
Answer: B
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35. The following ratios are used to measure the profitability and returns to the investors except:
a. Gross profit margin c. Dividend yield
b. Operating profit margin d. Current Ratio
Answer: D
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36. Dividend yield on common stocks owned by an investor is computed by:
a. Dividing annual dividend per share by current market price per share
b. Dividing annual dividend per share by the investor’s average cost per share
c. Dividing annual dividend per share by the lower of investor’s cost or current market price per
share
d. Dividing annual dividend per share by the price-earnings ratio
Answer: A
Source: CPA reviewer in MANAGEMENT ADVISORY SERVICES, 2000 edition, Elenita Balatbat Cabrera
37. Extensive use of leverage is usually associated with:

a. a low equity ratio c. a low debt ratio
b. a high current ratio d. high quality of earnings
Answer: A
38. The times interest earned ratio is computed by dividing:

a. Operating income before interest and income taxes by annual interest expense
b. Net income by annual interest expense
c. Carrying value of bonds by cash interest payments
d. Earnings per share by the prime rate of interest
Answer: A
39. The yield of investors in bonds:

a. Is the effective interest rate that can be earned by buying bonds at their current market price and
holding them to maturity.
b. Is measured by the debt ratio
c. Is measured by the number of times interest requirements are earned
d. Increases as market prices of bonds increase
Answer: A
40. From the viewpoint of short-term creditors, which of the following relationships would be the least
meaningful?
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a. Short-term notes payable as a percentage of accounts payable
b. The amount of working capital
c. The accounts receivable turnover
d. Quick assets as a percentage of current liabilities
Answer: A
41. At the end of Year 10, Brave Corporation has a current ratio of 2 to 1. Which of the following transactions
will decrease the current ratio?
a. Issuance of long-term bonds at a premium
b. Sale of merchandise on open account at a price above cost
c. The accounts receivable turnover
d. Quick assets as a percentage of current liabilities
Answer: D
42. In evaluating a company’s ability to repay a 60-day loan, a creditor would probably be most interested in
which of the following ratios?
a. The debt ratio c. The quick ratio
b. The price-earnings ratio d. The number of times interest earned
Answer: C
43. Earnings per share and dividends per share are of particular interest to:
a. Preferred stockholders c. Short-term creditors
b. Common stockholders d. Long-term creditors
Answer: B
44. Which of the following events is most likely to increase the accounts receivable turnover?
a. Sales decrease
b. Accounts receivables are collected more quickly
c. Sales increase
d. Accounts receivable are collected less quickly.
Answer: B
45. Gilbert Co. presently has a current ratio of 0.8 to 1. The company has been informed by its bank that it must
improve its current ratio to qualify for a line of credit. Which of the following actions would improve the
current ratio?
a. Use cash to pay off some current liabilities
b. Purchase additional marketable securities with cash
c. Acquire a parcel of land in exchange for common stock
d. Purchase additional inventory on credit
Answer: D
46. A company has just converted a long term note receivable into a short term note receivable. This
transaction will
a. increase the company’s times interest earned ratio
b. increase working capital and decrease the acid test ratio
c. increase the current ratio and have no effect on the times interest earned ratio
d. decrease the current ratio
Answer: C
47. The variance that arises solely because the actual units sold differs from the budgeted units to be sold is
called
a. sales volume variance c. master budget increment
b. sales price variance d. sales mix variance
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Answer: A
Source: Reviewer in Management Advisory Services, 2005, Rodelio S. Roque
48. For multi-product company, the sales volume can be divided into the
a. sales mix variance and production volume variance
b. sales mix variance and sales quantity variance
c. sales price variance and sales volume variance
d. sales volume variance and sales quantity variance
Answer: B
49. The cash flow statement is

a. reports the revenues earned and expenses incurred by the firm during the period
b. shows the company’s total assets, broken down into current and non-current assets
c. shows the company’s capital structure for a period of time
d. reports the net change in cash resulting from operating, investing, and financing activities of the
firm during the period.
Answer: D
50. In cash flow analysis, the cash flows from operating activities
a. are the cash effects of transactions that create revenues and expenses
b. generally relate to changes in non-current assets
c. generally relate to changes in long term liabilities and stockholders’ equity accounts
d. are irrelevant
Answer: A
51. In computing a ratio, when balance sheet amount is related to an income statement amount,
a. The income statement amount should be converted to an average for the year
b. The balance sheet amount should be converted to an average for the year
c. Both amounts should be converted to an average for the year
d. The amounts may be used as is to develop a meaningful ratio
Answer: B
52. Which of the following statements is incorrect?

a. The ratio of sales to working capital is a measure of liquidity and activity
b. The number of days’ sales in receivables is a measure of liquidity, as well as of activity
c. A high sales-to-working-capital ratio would indicate that the firm is not susceptible to liquidity
problems.
d. The earnings per share is a profitability ratio
Answer: C
The following are taken from the balance sheet of Juls Company as of December 31, 200B:
Current assets:
Cash on hand and in banks P341,600
Accounts receivable 200,000
Merchandise inventory 308,000 850,000
Liabilities:
Current liabilities:
Notes payable 280,800
Accounts payable 781,700 1,062,500
Long term liabilities 3,000,000
53. What are the company’s current ratio and quick (acid test) ratio?
Current ratio Quick (Acid Test) Ratio
a. 0.80 0.51
b. 0.51 0.80
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c. 0.21 1.93
d. 3.03 0.32
Answer: A
Solution:
Current Ratio = Current Assets Quick Ratio = Quick Assets .
Current Liabilities Current Liabilities
= 850,000 = 0.80 = 341,600 + 200,000
1,062,500 1,062,500
= 0.51
The following data were taken from the comparative balance sheets of Dolms Company:
December 31, 200B December 31, 200A
Cash 35,000 33,125
Marketable securities 16,375 15,125
Notes and accounts receivable, net 49,375 48,000
Inventories 71,250 69,375
Prepaid expenses 2,375 5,000
Notes and accounts payable (short-term) 31,250 35,625
Accrued liabilities 7,500 10,500
Bonds payable, due 200M 100,000 100,000
54. The company’s working capital increased (decreased) from 200A to 200B by
a. P135,625 c. (P11,125)
b. P124,500 d. P11,125
Answer: D
Solution:
December 31, 200B December 31, 200A
Current assets:
Cash 35,000 33,125
Marketable securities 16,375 15,125
Notes and accounts receivable, net 49,375 48,000
Inventories 71,250 69,375
Prepaid expenses 2,375 5,000
Total current assets 174,375 170,625
Less current liabilities:
Notes and accounts payable (short-term) 31,250 35,625
Accrued liabilities 7,500 10,500
Total current liabilities 38,750 46,125
Working capital 135,625 124,500
Increase in working capital (P135,625 – P124,500) P11,125
Following are selected financial and operating data taken from the financial statements of Antiporda Corporation:
As of December 31
200B 200A
Cash P 80,000 P 640,000
Notes and accounts receivable, net 400,000 1,200,00
Merchandise inventory 720,000 1,200,000
Marketable securities – short term 240,000 80,000
Land and buildings (net) 2,720,000 2,880,000
Bonds payable – long term 2,160,000 2,240,000
Accounts payable – trade 560,000 880,000
Notes payable – short term 160,000 320,000
For the Year Ended December 31

200B 200A
Sales (20% cash, 80% credit sales) 18,400,000 19,200,000
Cost of goods sold 8,000,000 11,200,000
Compute the following ratios:

55. Current ration as of December 31, 200B:
a. 0.5:1 c. 2.6:1
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b. 2.0:1 d. 1:2.6
Answer: B
Solution:
Current Ratio = Current Assets
Current Liabilities
Current assets:
Cash P 80,000
Notes and accounts receivable, net 400,000
Inventories 720,000
Marketable securities 240,000 1,440,000
Divide by current liabilities:
Accounts payable – trade 560,000
Notes payable – short term 160,000 720,000
Current ratio 2
56. Quick (acid test) ratio as of December 31, 200B

a. 2.0 to 1 c. 1 to 1
b. 0.5 to 1 d. 0.7 to 1
Answer: C
Solution:
Quick Ratio = Quick assets

Current liabilities
Quick assets: Cash P 80,000
Notes and accounts receivable, net 400,000
Short-term marketable securities 240,000 720,000
Divide by current liabilities (from item # 20) 720,000
Quick ratio 1
57. Accounts receivable turnover for 200B:

a. 23.0 times c. 36.8 times
b. 18.4 times d. 4.6 times
Answer: B
Solution:
Accounts receivable turnover = Net Credit Sales
Average Accounts Receivable
= 18,400,000 x 80%
400,000 + 1,200,000
2
= 14,720,000 = 18.4 times
800,000
58. Merchandise inventory turnover for 200B:

a. 13.33 times c. 10.0 times
b. 11.10 times d. 8.33 times
Answer: D Merchandise inventory turnover = Cost of Goods Sold

Average Merchandise Inventory
= 8,000,000
720,000 + 1,200,000
2
= 8,000,000 = 8.33 times
960,000

59. The gross margin rate for 200A:
a. 41.67% c. 58.33%
b. 71.43% d. 56.52%
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Answer: A
Solution:
Gross Margin Rate = Gross Profit = 19,200,000 – 11,200,000 = 41.67%
Sales 19,200,000
60. The average age of accounts receivable for 200B (use 360 days):
a. 19.57 days c. 0.05 days
b. 19.57 months d. 18.40 days
Answer: A
Solution:
Average Age of = Number of Days in a Year = 360 = 19.57 days
Accounts Receivable Accounts Receivable Turnover 18.40 times
The following information pertains to Batalla Company for 200B:

Inventory at December 31, 200B P 16,000
Purchases of merchandise, all on credit 72,000
Cost of Goods Sold 80,000
61. The company’s merchandise inventory turnover for 200B was

a. 4.0 months c. 4.0 times
b. 10.0 times d. 3.60 months
Answer: C
Solution:
Merchandise Inventory = Cost of Goods Sold = 80,000 = 4.0 times

Turnover Beg. + End Inventory 24,000* + 16,000
* Computation of beginning inventory:

Cost of Goods Sold P 80,000
Add inventory, December 31, 200B 16,000
Total 96,000
Less purchases 72,000
Merchandise inventory, January 31, 200B 24,000
The following information pertains to Cenon Company for 200B:

Accounts Receivable, January 1, 200B P 8,000
Accounts Receivable, December 31, 200B 9,600
Net cash sales 3,200
Accounts receivable 5 times
62. The company’s net sales for 200B was

a. 47,200 c. 51,200
b. 88,000 d. 48,000
Answer: A
Soluyion:
Accounts Receivable Turnover = Net Credit Sales
A/R Beginning + A/R Ending
2
5 = Net Credit Sales
8000 + 9,600
2
5 = Net Credit Sales
8,800
Net credit sales (5 x 8,800) P44,000
Add net cash sales 3,200
Total net sales 47,200
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Following are some data from the financial records of Riz Corporation:
200B 200A
Sales P 500,000 P 375,000
Common Stock 125,000
Retained Earnings 105,000
Dividend payout ratio 40%
After tax profit 4% of sales
Cash 12% of sales
Accounts receivable 18% of sales
Inventory 30% of sales
Fixed assets, net 40% of sales
Accounts payable 20% of sales
Accruals 5% of sales
63. How much is the retained earnings balance as of the end of 200B?
a. 120,000 c. 105,000
b. 117,000 d. 125,000
Answer: B
Solution:
Retained earnings, December 31, 200A 105,000
Add income, 200B (500,000 x 4%) 20,000
Total 125,000
Less dividends paid (40% x 20,000)* 8,000
Retained earnings, December 31, 200B 117,000
*Dividend payout ratio = 40% = Dividends

Earnings
40% = Dividends
20,000
Dividends = 20,000 x 40% = 8,000
64. How much is the company’s total assets, as of the end of 200B?
a. 500,000 c. 105,000
b. 375,000 d. 133,000
Answer: A
Solution:
Cash (12% x 500,000) P 60,000
Accounts receivable (18% x 500,000) 90,000
Inventory (30% x 500,000) 150,000
Fixed Assets, net (40% x 500,000) 200,000
Total assets 500,000
65. A firm has total interest expense of P 16,000 per year, sales of P 600,000 per year, a tax rate of 30%, and a
net profit after tax of P 56,000. What is the firm’s times interest earned ratio?
a. 6 c. 4.5
b. 5 d. 3.5
Answer: A
Source: Management Advisory Services, 2000 Edition by Elenita Cabrera
66. A drop in the market price of a firm’s common stock will immediately affect its
a. return on common stockholders’ equity
b. current ratio
c. dividend payout ratio
d. dividend yield ratio
Answer: D
67. The Dexter Company had 50,000 shares of common stock issued and outstanding during 2005. Earnings
per share for 2005 were P 15. The dividend to the preferred shareholders was P 2 per share. The common
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stockholders received a dividend totaling P150,000. The dividend payout ratio for Dexter Company for
2005 was
a. 38.4% c. 23.1%
b. 33.3% d. 20%
Answer: D
68. Ryan Company had 20,000 shares of common stock outstanding through 2005. These shares were
originally issued at a price of P15 per share. The book value on December 31, 2005 was P25 per share and
the market value on December 31, 2005 was P30 per share. The dividend on common stock in total for
2005 was P45,000. The dividend yield ratio for Ryan Company for 2005 was
a. 9% c. 15%
b. 7.5% d. 10%
Answer: B
69. Throughout 2005, Sherwin Company had 40,000 shares of common stock outstanding. The book value per
share of this stock was P60 and the market value per share P75 on December 31, 2005. Net income for
2005 was P400,000. Interest on long term debt was P40,000. Dividends to common shareholders were P3
per share. The tax rate for 2005 was 30%. Sherwin Company’s price-earning ratio would be
a. 25 to 1 c. 7.50 to 1
b. 20 to 1 d. 6.00 to 1
Answer: C
70. Francis Company’s debt to equity ratio is 0.6 to 1. Current liabilities total P120,000 and long term
liabilities total P360,000. If Francis Company has working capital equal to P140,000, total assets must
equal
a. P600,000 c. P800,000
b. P1,200,000 d. P1,280,000
Answer: D
47. During 2005, Concon Company paid a current dividend of P35,000 to its preferred stockholders. In addition,
Concon Company paid a P55,000 dividend to its common stockholders. If 25,000 shares of common stock were
outstanding through the years and net income was P160,000, then the earnings per share of common stock was
a. P2.80 c. P5.00
b. P4.25 d. P6.40
Answer: C
71. Rommel Corporation has a current ratio of 2 to 1 and a quick ratio of 1 to 1. a transaction that would
change Rommel’s quick ratio but not its current ratio is
a. the sale of short-term marketable securities for cash that results in a profit
b. the sale of inventory on account at cost
c. the collection of accounts receivable
d. the payment of accounts payable
Answer: B
72. How are dividends per share for common stock used in the calculation of the following?
Dividend per-share payout ratio Earnings per share
a. denominator denominator
b. denominator not used
c. numerator not used d.
numerator numerator
Answer: C
14
73. During 2005, Ver Company purchased P1,920,000 of inventory. The cost of goods sold for 2005 was
P1,800,000 and the ending inventory at December 31, 2005, was P360,000. What was the inventory
turnover for 2005?
a. 5.0 c. 6.0
b. 5.3 d. 6.4
Answer: C
74. Jun & Co. has a debt ratio of 0.50, a total asset turnover of 0.25, and a profit margin of 10%. The president
is unhappy with the current return on equity, and he thinks it could be doubled. This could be
accomplished (1) by increasing the profit margin to 14% and (2) by increasing debt utilization. Total assets
turnover will not change. What new debt ratio, along with the 14% profit margin, is required to double the
return on equity?
a. 0.75 c. 0.65
b. 0.70 d. 0.55
Answer: C
75. When a balance sheet amount is related to an income statement amount in computing a ratio,
a. The income statement amount should be converted to an average for the year.
b. Comparisons with industry ratios are not meaningful.
c. The balance sheet amount should be converted to an average for the year.
d. The ratio loses its historical perspective because a beginning-of-the-year amount is combined with an
end-of-the-year amount.
Answer: C
76. Mark & Sons, Inc. has a 2 to 1 acid test ratio. The ratio would decrease to less than 2 to 1 if:
a. The company purchased inventory on open account.
b. The company sold merchandise on open account that earned a normal gross margin.
c. The company collected an account receivable.
d. The company paid an account payable.
Answer: A
77. Ian Goods, Inc. has a total assets turnover of 0.30 and a profit margin of 10 percent. The president is
unhappy with the current return on assets, and he thinks it could be doubled. This could be accomplished
(1) by increasing the profit margin to 15 percent and (2) by increasing the total assets turnover. What new
asset turnover ratio, along with 15 percent profit margin, is required to double the return on assets?
a. 35% c. 40%
b. 45% d. 50%
Answer: C
78. Which of the following statements is incorrect?

a. Profitability evaluation ratios have a higher power than solvency determination ratio for predicting
performance for both income and solvency.
b. Gross profit percentages do not vary a great deal among industries.
c. It is appropriate to compare a company’s current financial ratio with the same financial ratio for (1)
that company in prior years and/or (2) the ratio for the industry in which the company is affiliated.
d. Companies where product costs represents a high percentage of total costs could be expected to have a
low gross profit percentage.
Answer: B
79. Financial ratios which assess the profitability of a company, include all of the following except the
a. dividend yield ratio c. earnings per share ratio
b. gross profit percentage d. return on sales ratio
Answer: A
15
The following data relate to 80 to 86:
The income statement of a trading firm, Ellen Corporation for the years 2005 and 2006 showed the
following gross margins on sales.
2005 2006 Change

Number of units sold 10,000 12,000 + 2,000
Sales revenue P 80,000 P 97,200 + 17,200
Cost of Sales 50,000 72,000 + 22,000
Gross Margin P 30,000 P 25,200 - P (4,800)
Disappointed with the results of operations during 2006 the owner of the firm has asked for an accounting
of the decline in gross margin
80. The change in gross margin due to change in units sold is

a. P17,000 increase c. P16,000 increase
b. P 4,800 decrease d. P 6,000 increase
Answer: D
81. The percentage of change in quantity is

a. 2% c. 2000%
b. 20% d. -2%
Answer: B
82. The change in gross margin due to the change in unit selling price is
a. P 1,200 increase c. P 2,000 increase
b. P 17,000 increase d. P 4,800 decrease
Answer: A
83. The percentage of change in unit selling price is

a. 2.125% increase c. 2.125% decrease
b. 1.25% increase d. 1.25% decrease
Answer: B
84. The change in gross margin due to the change in unit cost is
a. P22,000 decrease c. P12,000 increase
b. P22,000 increase d. P12,000 decrease
Answer: D
85. The percentage of change in unit cost is

a. 20% increase c. 20% decrease
b. 44% increase d. 44% decrease
Answer: A
86. The gross margin in period 2006 decreased inspite of the increase in units sold because
a. Unit selling price did not change while unit cost increased by 20%
b. Unit selling price decreased by 1.25% while unit cost increased by 20%
c. Unit selling price increased by 1.25% while unit cost increased by 20%
d. Unit selling price increased by 2.125% while unit cost increased by 44%
Answer: C
Number 87 & 88:
16
Contribution margins of two products are Product A, 40% and Product B, 60%. Planned and actual sales
for a period were
Planned Actual
Product A P 40,000 P 40,000
Product B 40,000 60,000
P 80,000 P100,000
87. The change in contribution margin is

a. P52,000 increase c. P12,000 increase
b. P40,000 increase d. P12,000 decrease
Answer: C
88. The change in contribution margin attributable to the change in the quantity sold is
a. P20,000 increase c. P10,000 decrease
b. P10,000 increase d. not determinable
Answer: B
89. The asset turnover rate multiplied by the rate of net income earned on sales equals the rate earned on total
assets.
a. True b. False
Answer: A
90. If the information were available, financial analysts would be interested in knowing the sales volume at the
break-even point for a business enterprise.
a. True b. False
Answer: A
91. If the amount of current assets exceeds the amount of current liabilities, a decrease in current assets with a
corresponding decrease in current liabilities increases the current ratio.
a. True b. False
Answer: A
92. The number of days’ sales in receivable at the end of an accounting period is a better measure of the quality
of receivable than the receivable turnover rate.
a. True b. False
Answer: B
93. Window dressing is a violation of generally accepted accounting principles.

a. True b. False
Answer: A
94. The debt ratio is useful to creditors as well as to stockholders, but each of these groups places somewhat
different emphasis on it.
a. True b. False
Answer: A
95. Short-term creditors generally are more concerned with vertical analysis than with horizontal analysis.
a. True b. False
Answer: A
17
96. Horizontal analysis is possible for both an income statement and a balance sheet.
a. True b. False
Answer: A
97. Common-size financial statements show peso change in specific items from one year to the next.
a. True b. False
Answer: B
98. A company with a 2.0 current ratio will experience a decline in the current ratio when a short-term liability
is paid.
a. True b. False
Answer: B
99. Which of the following is a measure of long-term solvency?
a. Current ratio c. Asset turnover

b. Interest coverage d. Profit margin
Answer: B
100. Short term creditors would probably be most interested in which ratio?
a. Current ratio c. Debt to equity ratio

b. Earnings per share d. Quick ratio
Answer: D
18

Understanding and Analysis and Interpretation of Financial Statements

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UNDERSTANDING AND ANALYSIS AND INTERPRETATION OF FINANCIAL STATEMENTS

5. A measure of profitability and not short-term liquidity is the

9. Ratios that measures firms ability to generate earnings is

The following data apply to items 10-12:

Current ratio 3.0 2.1 1.8

Formula: 360/5 = 72 360/6.3 = 57

This analytical technique is termed:

15. A high quality of earnings is indicated by:

Average collection period of days sales = Accounts Receivable/ (Net Sales/360)

* EPS = NI less preferred dividends/ Common stock outstanding

18. Inventory turnover indicates:

Current Ratio = Current Assets/ Current Liabilities

Current Ratio = P 15,000,000 – P 2,000,000/ P 6,000,000- P 2,000,000

25. The ratio of sales to the working capital is a measure of

26. A measure of the company’s long-term debt-paying ability is

27. Determining appropriate level of working capital for a firm requires

Sales…………………………………………………… P 1.0 million

To arrive at the return on investment, which of the following should be used?

32. Which of the following does not belong to the list?

34. Which of the following is not a use of working capital?

37. Extensive use of leverage is usually associated with:

38. The times interest earned ratio is computed by dividing:

39. The yield of investors in bonds:

49. The cash flow statement is

52. Which of the following statements is incorrect?

Source: Reviewer in Management Advisory Services, 2005, Rodelio S. Roque

Source: Reviewer in Management Advisory Services, 2005, Rodelio S. Roque

For the Year Ended December 31

Compute the following ratios:

56. Quick (acid test) ratio as of December 31, 200B

Quick Ratio = Quick assets

Source: Reviewer in Management Advisory Services, 2005, Rodelio S. Roque

57. Accounts receivable turnover for 200B:

Source: Reviewer in Management Advisory Services, 2005, Rodelio S. Roque

58. Merchandise inventory turnover for 200B:

Answer: D Merchandise inventory turnover = Cost of Goods Sold

Source: Reviewer in Management Advisory Services, 2005, Rodelio S. Roque

Source: Reviewer in Management Advisory Services, 2005, Rodelio S. Roque

Source: Reviewer in Management Advisory Services, 2005, Rodelio S. Roque

The following information pertains to Batalla Company for 200B:

61. The company’s merchandise inventory turnover for 200B was

Merchandise Inventory = Cost of Goods Sold = 80,000 = 4.0 times

* Computation of beginning inventory:

Source: Reviewer in Management Advisory Services, 2005, Rodelio S. Roque

The following information pertains to Cenon Company for 200B:

62. The company’s net sales for 200B was

Source: Reviewer in Management Advisory Services, 2005, Rodelio S. Roque

*Dividend payout ratio = 40% = Dividends

Source: Reviewer in Management Advisory Services, 2005, Rodelio S. Roque

78. Which of the following statements is incorrect?

2005 2006 Change

80. The change in gross margin due to change in units sold is

81. The percentage of change in quantity is

83. The percentage of change in unit selling price is

85. The percentage of change in unit cost is

Number 87 & 88:

87. The change in contribution margin is

93. Window dressing is a violation of generally accepted accounting principles.

99. Which of the following is a measure of long-term solvency?

a. Current ratio c. Asset turnover

a. Current ratio c. Debt to equity ratio

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