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financial statement analysis
Financial Statement Analysis 11th Edition K. R. Subramanyam - Solutions
Why do managers sometimes manage earnings?
What gives rise to accounting distortions? Explain.
What is the process to carry out an accounting analysis?
What is accounting analysis? Explain.
Explain how estimates and judgments of financial statement preparers can create differences between financial statement information and economic reality.
What are the major issues that an analyst needs to consider when analyzing financial statements prepared under the fair value accounting model?
In your opinion does historical cost or fair value model generate more (a) relevant and (b) reliable accounting information? Argue your case.
Discuss the advantages and disadvantages of fair value accounting.
Describe the three basic valuation approaches for estimating fair values. Relate the valuation approaches to hierarchy of inputs.
Which types of assets/liabilities lend themselves more easily to fair value measurements: financial or operating? Explain with reference to the hierarchy of inputs.
Explain the hierarchy of inputs used in determining fair values. The use of which level of input lowers the reliability of fair value estimates?
Fair values are market-based measurements not entity-specific measurements. Explain with an example.
Provide a formal definition for fair value. What are the key elements of this definition?
Describe what income purports to represent under the historical cost and the fair value accounting models. How is income determined under either model?
What are the key differences between the historical cost and the fair value models of accounting?
Explain how accounting principles can, in certain cases, create differences between financial statement information and economic reality.
What adjustments would you make to net income to determine economic income?
Determining core income is an important first step to estimating permanent income. Explain. What adjustments to net income should be made for estimating core income?
Define and cite an example of a value irrelevant component of income.
Distinguish between the permanent and transitory components of income. Cite an example of each, and discuss how each component affects analysis.
Accounting income has elements of both permanent income and economic income. Explain this statement.
Explain how accountants measure income.
Economic income measures change in value while permanent income is proportional to value itself.Explain this statement.
What are the two basic economic concepts of income? What implications do they have for analysis?
Define income. Distinguish income from cash flow.
Accrual accounting information, cash flow information, and analysts’ forecasts are information for investors. Compare and contrast each of these sources in terms of relevance and reliability.
Accrual accounting information is conceptually more relevant than cash flows. Describe empirical findings that support this superiority of accrual accounting.
What factors give rise to the superiority of accrual accounting over cash accounting? Explain.
Explain why cash flow measures of performance are less useful than accrual-based measures.
Distinguish between short-term and long-term accruals.
Explain when costs should be recognized as expenses.
Describe the criteria necessary for a business to record revenue.
It is difficult to measure the business performance of a company in the short run using only cash flow measures because of timing and matching problems. Describe each of these problems and cite at least one example for each.
Describe at least four major limitations of financial statement information.
Describe empirical evidence showing that financial accounting information is relevant for decision making.
What are the two types of conservatism? Which type of conservatism is more useful for analysis?
What is conservatism? What are its advantages?
Explain historical cost and fair value models of accounting. What explains the move toward fair value accounting?
Describe tasks that financial intermediaries perform on behalf of financial statement users.
Describe alternative information sources beyond statutory financial reports that are available to investors and creditors.
Describe forces that serve to limit the ability of management to manage financial statements.
Describe factors that bring about managerial discretion for preparing financial statements.
Who has the main responsibility for ensuring fair and accurate financial reporting by a company?
Explain how accounting standards are established.
What constitutes contemporary GAAP?
Describe the content and purpose of at least four financial reports that must be filed with the SEC.
Why are earnings announcements made in advance of the release of financial statements? What information do they contain and how are they different from financial statements?
Describe the U.S. financial reporting environment including the following:a. Forces that impact the content of statutory financial reportsb. Rule-making bodies and regulatory agencies that formulate GAAP used in financial reportsc. Users of financial information and what alternative sources of
Kimberly-Clark is a household products company that produces and sells various paper products under popular brand names such as Kleenex and Scott. In many respects, KimberlyClark is similar to Colgate: both are mature and profitable consumer products companies that are of similar size. Therefore,
After the meeting, the company’s CEO held a press conference with analysts in which she mentions the following ratios:2006 2005 2004 2006 2005 2004 Sales trend percent ........................ 147.0% 135.0% 100.0% Sales to plant assets ......... 3.8 to 1 3.6 to 1 3.3 to 1 Selling expenses to net
As controller of Tallman Company, you are responsible for keeping the board of directors CASE 1–7 informed about the company’s financial activities. At the recent board meeting, you presented the following financial data:
Explain and interpret the major business activities—namely, planning, financing, investing, and operating. Aim your report at a general audience such as shareholders and employees. Include concrete examples for each of the business activities.
Refer to Campbell Soup Company’s financial statements in Appendix A.Required:Compute the following ratios for Year 11.Liquidity ratios: Asset utilization ratios:*a. Current ratio n. Cash turnoverb. Acid-test ratio o. Accounts receivable turnoverc. Days to sell inventory p. Inventory turnoverd.
Jose Sanchez owns and operates Western Gear, a small merchandiser in outdoor recreational equipment. You are hired to review the three most recent years of operations for Western Gear.Your financial statement analysis reveals the following results:2006 2005 2004 Sales index-number trend . . . . . .
Two companies competing in the same industry are being evaluated by a bank that can lend CASE 1–3 money to only one of them. Summary information from the financial statements of the two companies follows:Datatech Sigma Datatech Sigma Company Company Company Company Data from the current year-end
Key comparative figures ($ millions) for both NIKE and Reebok follow:Key Figures NIKE Reebok Key Figures NIKE Reebok Cash and equivalents . . . . . . . $ 108.6 $ 209.8 Income taxes . . . . . . . . . . . $ 253.4 $ 12.5 Accounts receivable . . . . . . . . 1,674.4 561.7 Revenues (Nike) . . . . . . . .
Key comparative figures ($ millions) for both NIKE and Reebok follow:Key Figures NIKE Reebok Financing (liabilities equity) . . . . . . $5,397.4 $1,756.1 Net income (profit) . . . . . . . . . . . . . . . . 399.6 135.1 Revenues (sales) . . . . . . . . . . . . . . . . . 9,553.1 3,637.4 Required:a.
Ace Co. is to be taken over by Beta Ltd. at the end of year 2007. Beta agrees to pay the shareholders of Ace the book value per share at the time of the takeover. A reliable analyst makes the following projections for Ace (assume cost of capital is 10% per annum):Required:a. Estimate Ace Co.’s
The Tristar Mutual Fund manager is considering an investment in the stock of Best Computer and asks for your opinion regarding the company. Best Computer is a computer hardware sales and service company. Approximately 50% of the company’s revenues come from the sale of computer hardware. The rest
Selected ratios for three different companies that operate in three different industries (merchandising, pharmaceuticals, utilities) are reported in the table below:Required:Identify the industry that each of the companies, A, B, and C, operate in. Give at least two reasons supporting each of your
As a consultant to MCR Company, you are told it is considering the acquisition of Lakeland Corporation. MCR Company requests that you prepare certain financial statistics and analysis for Year 5 and Year 4 using Lakeland’s financial statements that follow:Additional Information:1. Inventory at
The balance sheet and income statement for Chico Electronics are reproduced below (tax rate PROBLEM 1–8 is 40%).Required:Compute and interpret the following financial ratios of the company for Year 5:a. Acid-test ratiob. Return on assetsc. Return on common equityd. Earnings per sharee. Gross
You are planning to analyze Voltek Company’s December 31, Year 6, balance sheet. The following information is available:1. Beginning and ending balances are identical for both accounts receivable and inventory.2. Net income is $1,300.3. Times interest earned is 5 (income taxes are zero). Company
You are an analyst reviewing Foxx Company. The following data are available for your financial analysis (unless otherwise indicated, all data are as of December 31, Year 2):Current ratio . . . . . . . . . . . . . . . . . . . . . . . 2 Days’ sales in inventory . . . . . . . . . . . . . . . . 36
Assume you are an analyst evaluating Mesco Company. The following data are available in your financial analysis (unless otherwise indicated, all data are as of December 31, Year 5):Required:Using these data, construct the December 31, Year 5, balance sheet for your analysis. Operating expenses
Perform a comparative analysis of Eastman Corporation by completing the analysis below.Describe and comment on any significant findings in your comparative analysis.
Selected comparative financial statements of Cohorn Company follow: COHORN COMPANY Comparative Income Statement ($000) For Years Ended December 31, 2000-2006 2006 2005 2004 2003 2002 2001 Sales...... $1,594 $1,396 $1,270 $1,164 $1,086 $1,010 Cost of goods sold 1,146 932 802 702 652 Gross profit.
Kampa Company and Arbor Company are similar firms that operate in the same industry. Arbor began operations in 2001 and Kampa in 1995. In 2006, both companies pay 7% interest on their debt to creditors. The following additional information is available:KAMPA COMPANY ARBOR COMPANY 2006 2005 2004
On January 1, Year 1, you are considering the purchase of Nico Enterprises’ common stock. Based on your analysis of Nico Enterprises, you determine the following:1. Book value at January 1, Year 1, is $50 per share.2. Predicted net income per share for Year 1 through Year 5 is $8, $11, $20, $40,
On January 1, Year 1, you are considering the purchase of $10,000 of Colin Company’s 8% bonds. The EXERCISE 1–14 bonds are due in 10 years, with interest payable semiannually on June 30 and effective December 31.Based on your analysis of Colin, you determine that a 6% (required) interest rate
Compute the present value for each of the following bonds:a. Priced at the end of its fifth year, a 10-year bond with a face value of $100 and a contract (coupon) rate of 10%per annum (payable at the end of each year) with an effective (required) interest rate of 14% per annum.b. Priced at the
Compute the percent of increase or decrease for each of the following account balances: EXERCISE 1–12 Year 2 Year 1 Short-term investments . . . . . . $217,800 $165,000 Accounts receivable . . . . . . . . . 42,120 48,000 Notes payable . . . . . . . . . . . . . . 57,000 0
Compute index-number trend percents for the following accounts, using Year 1 as the base year.State whether the situation as revealed by the trends appears to be favorable or unfavorable.Year 5 Year 4 Year 3 Year 2 Year 1 Sales . . . . . . . . . . . . . . . . . . $283,880 $271,800 $253,680 $235,560
Huff Company and Mesa Company are similar firms that operate in the same industry. The EXERCISE 1–10 following information is available:HUFF MESA 2006 2005 2004 2006 2005 2004 Current ratio . . . . . . . . . . . . . . . . . 1.6 1.7 2.0 3.1 2.6 1.8 Acid-test ratio . . . . . . . . . . . . . . . 0.9
Common-size and trend percents for JBC Company’s sales, cost of goods sold, and expenses follow:COMMON-SIZE PERCENTS TREND PERCENTS 2006 2005 2004 2006 2005 2004 Sales . . . . . . . . . . . . . . . . 100.0% 100.0% 100.0% 104.4% 103.2% 100.0%Cost of goods sold . . . . . . 62.4 60.9 58.1 112.1
Refer to the financial statements of Mixon Company in Exercises 1–3 and 1–5. The following additional information about the company is known:Common stock market price, December 31, 2006 . . . . . . $15.00 Common stock market price, December 31, 2005 . . . . . . 14.00 Annual cash dividends per
Refer to the financial statements of Mixon Company in Exercises 1–3 and 1–5. Evaluate the efficiency and profitability of the company by computing the following: (a) net profit margin,(b) total asset turnover, and (c) return on total assets. Comment on these ratio results.
Refer to the information in Exercises 1–3 and 1–5 about Mixon Company. Compare the long-term risk and capital structure positions of the company at the end of 2006 and 2005 by computing the following ratios: (a) total debt ratio and (b) times interest earned. Comment on these ratio results.
Refer to the information in Exercise 1–3 about Mixon Company. The company’s income statements for the years ended December 31, 2006 and 2005 show the following:Required:For the years ended December 31, 2006 and 2005, assume all sales are on credit and then compute the following: (a) collection
Express the following income statement information in common-size percents and assess whether this company’s situation is favorable or unfavorable.Required:Compare the year-end short-term liquidity position of this company at the end of 2006, 2005, and 2004 by computing the: (a) current ratio and
The preparation and analysis of comparative balance sheets and income statements are commonly applied tools of financial statement analysis and interpretation.Required:a. Discuss the inherent limitations of analyzing and interpreting financial statements for a single year. Include in your
Discuss implications of the efficient market hypothesis (EMH) for financial statement analysis.
Explain how the efficient market hypothesis (EMH) depicts the reaction of market prices to financial and other data.
Identify and describe a technique to compute equity value only using accounting variables.
What is amiss with the claim: The value of a stock is the discounted value of expected future cash flows?
Explain the following claim: While we theoretically use the effective interest rate to compute a bond’s present value, in practice it is the other way around.
What is meant by “time value of money”? Explain the role of this concept in valuation.
Identify four specialized financial analysis tools.
Ratio analysis is an important tool in financial analysis. Identify at least four ratios using:a. Balance sheet data exclusively.b. Income statement data exclusively.c. Both balance sheet and income statement data.
Identify and describe limitations of ratio analysis.
What is a necessary condition for usefulness of a ratio of financial numbers? Explain.
Common-size analysis is an important tool in financial analysis.a. Describe a common-size financial statement. Explain how one is prepared.b. Explain what a common-size financial statement report communicates about a company.
Explain what useful information is derived from index-number trend analysis.
Describe criteria in selecting a base year for index-number trend analysis.
Identify conditions that prevent computation of a valid percent change. Provide an example.
Compare the “absolute amount of change” with the percent change as an indicator of change. Which is better for analysis?
Is past trend a good predictor of future trend? Justify your response.
Comparative analysis is an important tool in financial analysis.a. Explain the usefulness of comparative financial statement analysis.b. Describe how financial statement comparisons are effectively made.c. Discuss the necessary precautions an analyst should take in performing comparative analysis.
Identify and describe at least four categories of financial analysis tools.
Identify and discuss at least two areas of financial analysis.
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