Exam 7 December Autumn 2019, questions and answers PDF

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Chapter 16 “How Well Am I Doing?”--Financial Statement Analysis True/False Questions 1. Common-size statements are financial statements of companies of similar size. Ans: False AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting LO: 1 Level: Easy 2. One limitation of vertical analysis is that it cannot be used to compare two companies that are significantly different in size. Ans: False AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting LO: 1 Level: Easy 3. The gross margin percentage is computed by dividing the gross margin by total assets. Ans: False AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting LO: 1 Level: Medium 4. The sale of used equipment at book value for cash will increase earnings per share. Ans: False AACSB: Analytic LO: 2 Level: Medium

AICPA BB: Critical Thinking

AICPA FN: Reporting

5. Earnings per share is computed by dividing net income (after deducting preferred dividends) by the average number of common shares outstanding. Ans: True AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting LO: 2 Level: Easy 6. The dividend payout ratio divided by the dividend yield ratio equals the price-earnings ratio. Ans: True AACSB: Analytic LO: 2 Level: Hard

AICPA BB: Critical Thinking

AICPA FN: Reporting

7. An increase in the number of shares of common stock outstanding will decrease a company's price-earnings ratio if the market price per share remains unchanged. Ans: False AACSB: Analytic LO: 2 Level: Hard

AICPA BB: Critical Thinking

Garrison/Noreen/Brewer, Managerial Accounting, Twelfth Edition

AICPA FN: Reporting

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Chapter 16 “How Well Am I Doing?”--Financial Statement Analysis 8. A company's financial leverage is negative when its return on total assets is less than its return on common stockholders' equity. Ans: False AACSB: Analytic LO: 2 Level: Hard

AICPA BB: Critical Thinking

AICPA FN: Reporting

9. When computing return on common stockholders' equity, retained earnings should be included as part of common stockholders' equity. Ans: True AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting LO: 2 Level: Hard 10. When a retailing company purchases inventory, the book value per share of the company increases. Ans: False AACSB: Analytic LO: 2 Level: Medium

AICPA BB: Critical Thinking

AICPA FN: Reporting

11. If a company's acid-test ratio increases, its current ratio will also increase. Ans: True AACSB: Analytic LO: 3 Level: Medium

AICPA BB: Critical Thinking

AICPA FN: Reporting

12. Assuming a current ratio greater than 1, acquiring land by issuing more of the company's common stock will increase the current ratio. Ans: False AACSB: Analytic LO: 3 Level: Medium

AICPA BB: Critical Thinking

AICPA FN: Reporting

13. If a company successfully implements lean production, its inventory turnover ratio should decrease. Ans: False AACSB: Analytic LO: 3 Level: Medium

AICPA BB: Critical Thinking

AICPA FN: Reporting

14. Short-term borrowing is not a source of working capital. Ans: True AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting LO: 3 Level: Medium

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Garrison/Noreen/Brewer, Managerial Accounting, Twelfth Edition

Chapter 16 “How Well Am I Doing?”--Financial Statement Analysis 15. Working capital is computed by subtracting long-term liabilities from long-term assets. Ans: False AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting LO: 3 Level: Medium

Multiple Choice Questions 16. Common size financial statements help an analyst to: A) Evaluate financial statements of companies within a given industry of the approximate same size. B) Determine which companies in a similar industry are at approximately the same stage of development. C) Compare the mix of assets, liabilities, capital, revenue, and expenses within a company over a period of time or between companies within a given industry without respect to size. D) Ascertain the relative potential of companies of similar size in different industries. Ans: C AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting LO: 1 Level: Easy Source: CMA, adapted 17. Which of the following ratios would be least useful in determining a company's ability to pay its expenses and liabilities? A) current ratio B) acid-test ratio C) price-earnings ratio D) times interest earned ratio Ans: C AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting LO: 2,3,4 Level: Medium 18. Most stockholders would ordinarily be least concerned with which of the following ratios: A) earnings per share. B) dividend yield ratio. C) price-earnings ratio. D) acid-test ratio. Ans: D AACSB: Reflective Thinking AICPA BB: Critical Thinking AICPA FN: Reporting LO: 2,3 Level: Easy

Garrison/Noreen/Brewer, Managerial Accounting, Twelfth Edition

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Chapter 16 “How Well Am I Doing?”--Financial Statement Analysis 19. What effect will the issuance of common stock for cash at year-end have on the following ratios? Return on Total Assets Debt-to-Equity Ratio A ) B) C) D )

Increase Increase Decrease

Increase Decrease Increase

Decrease

Decrease

Ans: D AACSB: Analytic LO: 2,4 Level: Medium

AICPA BB: Critical Thinking

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20. The market price of Friden Company's common stock increased from $15 to $18. Earnings per share of common stock remained unchanged. The company's price-earnings ratio would: A) increase. B) decrease. C) remain unchanged. D) impossible to determine. Ans: A AACSB: Analytic LO: 2 Level: Easy

AICPA BB: Critical Thinking

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21. If a company is profitable and is effectively using leverage, which one of the following ratios is likely to be the largest? A) Return on total assets. B) Return on total liabilities. C) Return on common stockholders' equity. D) Cannot be determined. Ans: C AACSB: Analytic LO: 2 Level: Medium

AICPA BB: Critical Thinking

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22. Clark Company issued bonds with an interest rate of 10%. The company's return on assets is 12%. The company's return on common stockholders' equity would most likely: A) increase. B) decrease. C) remain unchanged. D) cannot be determined. Ans: A AACSB: Analytic LO: 2 Level: Easy

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AICPA BB: Critical Thinking

AICPA FN: Reporting

Garrison/Noreen/Brewer, Managerial Accounting, Twelfth Edition

Chapter 16 “How Well Am I Doing?”--Financial Statement Analysis 23. Which of the following transactions could generate positive financial leverage for a corporation? A) acquiring assets through the issuance of long-term debt. B) acquiring assets through the use of accounts payable. C) acquiring assets through the issuance of common stock. D) both A and B above Ans: D AACSB: Analytic LO: 2 Level: Hard

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24. Book value per common share is the amount of stockholders' equity per outstanding share of common stock. Which one of the following statements about book value per common share is most correct? A) Market price per common share usually approximates book value per common share. B) Book value per common share is based on past transactions whereas the market price of a share of stock mainly reflects what investors expect to happen in the future. C) A market price per common share that is greater than book value per common share is an indication of an overvalued stock. D) Book value per common share is the amount that would be paid to stockholders if the company were sold to another company. Ans: B AACSB: Analytic AICPA BB: Critical Thinking LO: 2 Level: Easy Source: CMA, adapted

AICPA FN: Reporting

25. The ratio of total cash, marketable securities, accounts receivable, and short-term notes to current liabilities is: A) the debt-to-equity ratio. B) the current ratio. C) the acid-test ratio. D) working capital. Ans: C AACSB: Analytic LO: 3,4 Level: Easy

AICPA BB: Critical Thinking

Garrison/Noreen/Brewer, Managerial Accounting, Twelfth Edition

AICPA FN: Reporting

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Chapter 16 “How Well Am I Doing?”--Financial Statement Analysis 26. A company has just converted a long-term note receivable into a short-term note receivable. The company's acid-test and current ratios are both greater than 1. This transaction will: A) increase the current ratio and decrease the acid-test ratio. B) increase the current ratio and increase the acid-test ratio. C) decrease the current ratio and increase the acid-test ratio. D) decrease the current ratio and decrease the acid-test ratio. Ans: B AACSB: Analytic LO: 3 Level: Hard

AICPA BB: Critical Thinking

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27. Broca Corporation has a current ratio of 2.5. Which of the following transactions will increase Broca's current ratio? A) the purchase of inventory for cash. B) the collection of an account receivable. C) the payment of an account payable. D) none of the above. Ans: C AACSB: Analytic LO: 3 Level: Hard

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28. Allen Company's average collection period for accounts receivable was 25 days in year 1, but increased to 40 days in year 2. Which of the following would most likely be the cause of this change: A) a decrease in accounts receivable relative to sales in year 2. B) an increase in credit sales in year 2 as compared to year 1. C) a relaxation of credit policies in year 2. D) a decrease in accounts receivable in year 2 as compared to year 1. Ans: C AACSB: Analytic LO: 3 Level: Hard

AICPA BB: Critical Thinking

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29. Wolbers Company wrote off $100,000 in obsolete inventory. The company's inventory turnover ratio would: A) increase. B) decrease. C) remain unchanged. D) impossible to determine. Ans: A AACSB: Analytic LO: 3 Level: Medium

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AICPA BB: Critical Thinking

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Garrison/Noreen/Brewer, Managerial Accounting, Twelfth Edition

Chapter 16 “How Well Am I Doing?”--Financial Statement Analysis 30. Gottlob Corporation's most recent income statement appears below: Sales (all on account)................................. Cost of goods sold...................................... Gross margin.............................................. Selling and administrative expense............ Net operating income................................. Interest expense.......................................... Net income before taxes............................. Income taxes.............................................. Net income.................................................

$824,000 477,000 347,000 208,000 139,000 37,000 102,000 30,000 $ 72,000

The gross margin percentage is closest to: A) 20.7% B) 72.7% C) 42.1% D) 481.9% Ans: C AACSB: Analytic LO: 1 Level: Easy

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Solution: Gross margin percentage = Gross margin ÷ Sales = $347,000 ÷ $824,000 = 42.1% 31. Crandall Company's net income last year was $60,000. The company paid preferred dividends of $10,000 and its average common stockholders' equity was $480,000. The company's return on common stockholders' equity for the year was closest to: A) 12.5% B) 10.4% C) 2.1% D) 14.6% Ans: B AACSB: Analytic LO: 2 Level: Easy

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Solution: Return on common stockholders' equity = (Net income − Preferred dividends) ÷ Average common stockholders' equity = ($60,000 − $10,000) ÷ $480,000 = 10.4%

Garrison/Noreen/Brewer, Managerial Accounting, Twelfth Edition

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Chapter 16 “How Well Am I Doing?”--Financial Statement Analysis 32. Ardor Company's net income last year was $500,000. The company has 150,000 shares of common stock and 30,000 shares of preferred stock outstanding. There was no change in the number of common or preferred shares outstanding during the year. The company declared and paid dividends last year of $1.00 per share on the common stock and $0.70 per share on the preferred stock. The earnings per share of common stock is closest to: A) $3.33 B) $3.19 C) $2.33 D) $3.47 Ans: B AACSB: Analytic LO: 2 Level: Medium

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Solution: Earnings per share = (Net Income − Preferred Dividends) ÷ Average number of common shares outstanding = ($500,000 − $21,000) ÷ [(150,000 shares + 150,000 shares) ÷ 2] = $3.19 per share 33. The following information relates to Konbu Corporation for last year: Price earnings ratio............ Dividend payout ratio........ Earnings per share..............

15 30% $5

What is Konbu's dividend yield ratio for last year? A) 1.5% B) 2.0% C) 4.5% D) 10.0% Ans: B AACSB: Analytic LO: 2 Level: Hard

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AICPA BB: Critical Thinking

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Garrison/Noreen/Brewer, Managerial Accounting, Twelfth Edition

Chapter 16 “How Well Am I Doing?”--Financial Statement Analysis Solution: Dividend yield ratio = Dividends per share* ÷ Market price per share ** = $0.06 ÷ $3 = 2.0% * Dividends per share = Dividend payout ratio ÷ Earnings per share = 30% ÷ $5 = $0.06 per share ** Market price per share = Price earnings ratio ÷ Earnings per share = 15 ÷ $5 = $3 per share 34. Richmond Company has 100,000 shares of $10 par value common stock issued and outstanding. Total stockholders' equity is $2,800,000 and net income for the year is $800,000. During the year Richmond paid $3.00 per share in dividends on its common stock. The market value of Richmond's common stock is $24. What is the price-earnings ratio? A) 3.0 B) 3.5 C) 4.8 D) 8.0 Ans: A AACSB: Analytic AICPA BB: Critical Thinking LO: 2 Level: Medium Source: CPA, adapted

AICPA FN: Reporting

Solution: Price-earnings ratio = Market price per share ÷ Earnings per share* = $24 ÷ $8 = 3.0 * Earnings per share = (Net income - Preferred dividends) ÷ Average # of common shares outstanding = ($800,000 - $0) ÷ [(100,000 shares + 100,000 shares) ÷ 2] = $8 per share 35. Hurst Company has 20,000 shares of common stock outstanding. These shares were originally issued at a price of $15 per share. The current book value is $25.00 per share and the current market value is $30.00 per share. The dividends on common stock for the year totaled $45,000. The dividend yield ratio is: A) 9% B) 7.5% C) 15% D) 10% Ans: B AACSB: Analytic LO: 2 Level: Medium

AICPA BB: Critical Thinking

Garrison/Noreen/Brewer, Managerial Accounting, Twelfth Edition

AICPA FN: Reporting

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Chapter 16 “How Well Am I Doing?”--Financial Statement Analysis Solution: Dividend yield ratio = Dividends per share ÷ Market price per share = ($45,000 ÷ 20,000) ÷ $30.00 = 7.5% 36. Bramble Company's net income last year was $65,000 and its interest expense was $15,000. Total assets at the beginning of the year were $620,000 and total assets at the end of the year were $650,000. The company's income tax rate was 40%. The company's return on total assets for the year was closest to: A) 11.7% B) 10.2% C) 12.6% D) 11.2% Ans: A AACSB: Analytic LO: 2 Level: Medium

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Solution: Return on total assets = Adjusted net income* ÷ Average total assets** = $74,000 ÷ $635,000 = 11.7% *Adjusted net income = Net income + [Interest expense × (1-Tax rate)] = $65,000 + 15,000 × (1 − 0.40) = $74,000 **Average total assets = ($620,000 + $650,000) ÷ 2 = $635,000 37. Dahl Company can borrow funds at 15% interest. Since the company's tax rate is 40%, its after-tax cost of interest is only 9%. Thus, the company reasons that if it can earn $70,000 per year before interest and taxes on a new investment of $500,000, then it will be better off by $25,000 per year. A) The company's reasoning is correct. B) The company's reasoning is not correct, since the after-tax cost of interest would be 6 percent, rather than 9%. C) The company's reasoning is not correct, since interest is not tax-deductible. D) The company's reasoning is not correct, since it would be worse off by $3,000 per year after taxes. Ans: D AACSB: Analytic LO: 2 Level: Hard

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AICPA BB: Critical Thinking

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Garrison/Noreen/Brewer, Managerial Accounting, Twelfth Edition

Chapter 16 “How Well Am I Doing?”--Financial Statement Analysis 38. Bucatini Corporation is contemplating the expansion of operations. This expansion will generate a 11% return on the funds invested. To finance this operation, Bucatini can either issue 12% bonds, issue 12% preferred stock, or issue common stock. Bucatini currently has a return on common stockholders' equity of 16%. Bucatini's tax rate is 30%. In which of the financing options above is positive financial leverage being generated? A) none of the options generate positive financial leverage B) the bonds C) the common stock D) the preferred stock Ans: B AACSB: Analytic LO: 2 Level: Medium

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39. Consolo Corporation's net income for the most recent year was $809,000. A total of 100,000 shares of common stock and 200,000 shares of preferred stock were outstanding throughout the year. Dividends on common stock were $2.05 per share and dividends on preferred stock were $1.80 per share. The earnings per share of common stock is closest to: A) $2.44 B) $8.09 C) $4.49 D) $6.04 Ans: C AACSB: Analytic LO: 2 Level: Easy

AICPA BB: Critical Thinking

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Solution: Earnings per share = (Net Income - Preferred Dividends) ÷ Average number of common shares outstanding = [$809,000 − (200,000 × $1.80)] ÷ [(100,000 shares + 100,000 shares) ÷ 2] = $4.49

Garrison/Noreen/Brewer, Managerial Accounting, Twelfth Edition

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Chapter 16 “How Well Am I Doing?”--Financial Statement Analysis 40. Bary Corporation's net income last year was $2,604,000. The dividend on common stock was $2.50 per share and the dividend on preferred stock was $2.40 per share. The market price of common stock at the end of the year was $73.50 per share. Throughout the year, 300,000 shares of common stock and 100,000 shares of preferred stock were outstanding. The price-earnings ratio is closest to: A) 9.33 B) 11.89 C) 13.66 D) 8.47 Ans: A AACSB: Analytic LO: 2 Level: Easy

AICPA BB: Critical Thinking

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Solution: Price-earnings ratio = Market price per share ÷ Earnings per share* = $73.50 ÷ $7.88 = 9.33 * Earnings per share = (Net income − Preferred dividends) ÷ Average number of common shares outstanding = [$2,604,000 − (100,000 × $2.40)] ÷ [(300,000 shares + 300,000 shares) ÷ 2] = $7.88 41. Arntson Corporation's net income last year was $7,975,000. The dividend on common stock was $8.20 per share and the dividend on preferred stock was $3.50 per share. The market price of common stock at the end of the year was $59.10 per share. Throughout the year, 500,000 shares of common stock and 200,000 shares of preferred stock were outstanding. The dividend payout ratio is closest to: A) 1.06 B) 0.51 C) 0.56 D) 1.29 Ans: C AACSB: Analytic LO: 2 Level: Easy

AICPA BB: Critical Thinking

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Solution: Dividend payout ratio = Dividends per share ÷ Earnings per share* = $8.20 ÷ $14.55 =...