Chapter 17 Financial Analysis

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Questions and Answers

What type of analysis compares a company's current year financial statement to prior years?

  • Ratio Analysis
  • Vertical Analysis
  • Horizontal Analysis (correct)
  • Intercompany Analysis

Which of the following is NOT a primary tool used for evaluating financial data?

  • Comparative Analysis
  • Vertical Analysis
  • Trend Analysis (correct)
  • Ratio Analysis

Comparing a company's financial data to industry averages is an example of what type of analysis?

  • Intercompany Analysis (correct)
  • Vertical Analysis
  • Horizontal Analysis
  • Intracompany Analysis

Which analysis technique assesses financial data based on its percentage of a total amount?

<p>Vertical Analysis (B)</p> Signup and view all the answers

What does the expression of the relationship among selected financial data within the same period represent?

<p>Ratio Analysis (B)</p> Signup and view all the answers

In addition to financial statements, which other information should be reviewed to gain a deeper understanding of a company?

<p>Industry reports and news (B)</p> Signup and view all the answers

Which type of analysis allows for comparison of a company's current year financial statement to prior years?

<p>Horizontal Analysis (D)</p> Signup and view all the answers

Analyzing a company's financial data against competing companies is an example of what type of analysis?

<p>Intercompany Analysis (D)</p> Signup and view all the answers

What is the primary objective of horizontal analysis?

<p>To compare a company's financial performance over time. (A)</p> Signup and view all the answers

What is the formula for calculating the horizontal percentage change for a specific period?

<p>(Current year amount - Base year amount) / Base year amount * 100% (C)</p> Signup and view all the answers

Which of the following is NOT a benefit of performing horizontal analysis?

<p>Predicting future financial performance with certainty. (A)</p> Signup and view all the answers

In horizontal analysis, what is the 'base-period amount'?

<p>The amount from the earliest financial period being compared. (A)</p> Signup and view all the answers

Suppose a company's sales revenue increased by 5% from the previous year. Which of the following is TRUE?

<p>The horizontal percentage change for sales revenue is 5%. (D)</p> Signup and view all the answers

What is the purpose of comparing a company's financial data to industry averages in horizontal analysis?

<p>To identify potential areas for improvement or weakness in the context of the industry. (B)</p> Signup and view all the answers

Which of the following financial statements can be subject to horizontal analysis?

<p>All of the above (D)</p> Signup and view all the answers

Why is horizontal analysis particularly helpful for identifying long-term trends?

<p>It reveals changes in a company's financial performance over a prolonged period. (A)</p> Signup and view all the answers

When performing financial statement analysis, which of the following factors should be considered?

<p>Alternative accounting principles used by different companies (A), The quality of information disclosed by companies (B), Economic factors affecting the company and its industry (C)</p> Signup and view all the answers

What is a potential limitation of using alternative accounting principles when performing financial statement analysis?

<p>It can make it difficult to compare financial statements across different companies (B)</p> Signup and view all the answers

Why is it important to assess other comprehensive income during financial statement analysis?

<p>It helps to understand the full picture of a company's financial performance beyond just net income. (C)</p> Signup and view all the answers

What is the significance of considering the quality of information when performing financial statement analysis?

<p>High-quality information improves the accuracy and reliability of financial analysis. (C)</p> Signup and view all the answers

How do irregular items (e.g., discontinued operations) influence financial statement analysis?

<p>They should be excluded from the analysis to provide a more accurate picture of ongoing operations. (C)</p> Signup and view all the answers

In what circumstance can losses pose a challenge in calculating and interpreting ratios?

<p>Losses can prevent the calculation of certain ratios due to zero or negative values. (B)</p> Signup and view all the answers

What is the main purpose of applying financial statement analysis?

<p>To evaluate a company's financial performance and position. (C)</p> Signup and view all the answers

Which of the following is NOT a tool used in financial statement analysis?

<p>Trend analysis (B)</p> Signup and view all the answers

What is the gross profit amount reported in the income statement?

<p>$322 (A)</p> Signup and view all the answers

What was the income tax expense reported?

<p>$31 (A)</p> Signup and view all the answers

Which analysis method focuses on comparing financial data across multiple periods?

<p>Horizontal analysis (A)</p> Signup and view all the answers

What was the total assets amount reported for the year 2013?

<p>$4,750,000 (C)</p> Signup and view all the answers

What percentage of the total assets was represented by current assets in 2014?

<p>36% (C)</p> Signup and view all the answers

What was the change in goodwill from 2013 to 2014?

<p>$10,000 decrease (A), $10,000 decrease (D)</p> Signup and view all the answers

What was the profit before income tax amount reported?

<p>$104 (C)</p> Signup and view all the answers

Which type of analysis is used to evaluate a company's financial ratios related to liquidity?

<p>Ratio analysis (C)</p> Signup and view all the answers

What is the primary objective of vertical analysis in financial statements?

<p>To express financial statement data as a percentage of a base amount (C)</p> Signup and view all the answers

Which base amount is commonly used for vertical analysis of the balance sheet?

<p>Total liabilities and shareholders' equity (C)</p> Signup and view all the answers

Which of the following is NOT a common use of vertical analysis?

<p>Conducting price-to-earnings ratio analysis (B)</p> Signup and view all the answers

In vertical analysis of an income statement, what is the base amount used to express other items as percentages?

<p>Net sales (C)</p> Signup and view all the answers

What is a key advantage of vertical analysis for comparisons among companies?

<p>It allows comparison of companies of different sizes on a common scale. (C)</p> Signup and view all the answers

How does vertical analysis assist in intracompany comparisons?

<p>It provides insights into the financial structure and efficiency over time. (B)</p> Signup and view all the answers

When performing vertical analysis, how is each item represented?

<p>As a percentage of a defined base amount (C)</p> Signup and view all the answers

Which of the following is a limitation of vertical analysis?

<p>It does not consider external economic factors. (C)</p> Signup and view all the answers

What do liquidity ratios primarily measure?

<p>Short-term ability to meet obligations and unexpected cash needs (B)</p> Signup and view all the answers

Which of the following is not a type of ratio analysis?

<p>Comparative ratios (D)</p> Signup and view all the answers

Which company will be analyzed for liquidity ratios in the group activity?

<p>Waterloo Brewing (C), Molson Coors (D)</p> Signup and view all the answers

What is the primary focus of solvency ratios?

<p>Evaluate long-term financial viability (B)</p> Signup and view all the answers

What activity will Group 2 be responsible for according to the group activity?

<p>Calculating solvency ratios (D)</p> Signup and view all the answers

What is the expected outcome from calculating financial ratios in the group activity?

<p>Deciding which company is performing better based on financial ratios (C)</p> Signup and view all the answers

Which of the following statements is true about profitability ratios?

<p>They evaluate operating success over a defined timeframe. (B)</p> Signup and view all the answers

Which of the following is an essential success criterion for understanding financial analysis?

<p>Identifying the need for and tools of financial statement analysis (A)</p> Signup and view all the answers

Flashcards

Vertical Analysis

A method that expresses financial data as a percentage of a base amount.

Common Size Analysis

Another term for vertical analysis; uses percentages for comparison.

Base Amount

The total value used as a reference for percentage calculations.

Balance Sheet Base

In vertical analysis, the base is typically total assets or total liabilities and equity.

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Income Statement Base

For income statements, the base is usually net sales.

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Intracompany Comparison

Comparing financial data within the same company over different periods.

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Intercompany Comparison

Comparing financial data across different companies.

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Gross Profit Comparison

Analyzing gross profit relative to net sales among competitors.

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Financial Statement Analysis

The process of evaluating financial statements to make informed business decisions.

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Horizontal Analysis

A method of comparing financial data over periods to evaluate trends.

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Liquidity Ratios

Ratios that measure a company's ability to cover its short-term obligations.

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Solvency Ratios

Ratios that assess a company’s ability to meet its long-term debts.

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Profitability Ratios

Ratios that assess a company's ability to generate profit compared to its revenue.

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Percentage Change

The measure of how much a quantity has changed relative to its original amount.

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Trend Analysis

Analysis that identifies patterns in financial data over multiple periods.

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Net Sales

The total revenue from sales minus returns or discounts.

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Cost of Goods Sold (COGS)

The direct costs attributable to the production of the goods sold by a company.

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Gross Profit

Revenue remaining after deducting COGS, indicating profit from sales alone.

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Operating Expenses

Expenses required for running the business not included in COGS.

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Profit before Income Tax

Earnings calculated before tax expenses are deducted.

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Income Tax Expense

The total amount of tax a company owes based on its profit.

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Profit

The financial gain after all expenses have been subtracted from revenue.

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Total Assets

The sum of all current and non-current resources owned by a company.

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Financial Statement Analysis Need

The necessity to evaluate financial statements for informed business decisions.

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Use of Financial Ratios

Utilizing various ratios to assess financial health in different areas.

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Limitations of Financial Analysis

Factors that can hinder the accuracy of financial evaluations, like different accounting principles.

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Quality of Information

The assurance of complete and transparent reporting for effective financial assessment.

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Economic Factors in Analysis

External conditions that can impact the interpretation of financial data, like losses or irregular items.

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Ratio Analysis

A technique to assess the relationship between different financial data points.

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Comparative Analysis

The practice of comparing a company's financial statements with those of other companies or industry benchmarks.

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Components of Liquidity Ratios

Includes current ratio and quick ratio for short-term financial health.

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Components of Solvency Ratios

Measures like debt to equity and interest coverage ratio for long-term viability.

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Components of Profitability Ratios

Includes gross profit margin and return on assets to assess performance.

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Financial Statement Analysis Tools

Tools include horizontal analysis, vertical analysis, and ratio calculations.

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Study Notes

Kahoot!

  • Kahoot! is a learning platform.

Principles of Financial Accounting

  • The document is from a chapter on financial statement analysis.
  • It is part of a Canadian edition of a textbook (Principles of Financial Accounting).
  • Authors include Weygandt, Kieso, Kimmel, Trenholm, Kinnear, Barlow, and Atkins.

Learning Goals

  • Analyze a company's financial status using horizontal and vertical analysis.
  • Analyze a company's financial status using financial ratios.
  • Contrast annual reports of publicly traded corporations.

Financial Statement Analysis

  • Basics of financial statement analysis include comparative analysis and tools of analysis.
  • Tools of analysis include horizontal and vertical analysis.
  • Horizontal analysis evaluates data over time.
  • Vertical analysis expresses data as a percentage of a total amount.
  • Ratio analysis analyzes relationships among financial data.

Chapter 17: Success Criteria

  • Learning objectives:
    • Understanding financial statement analysis and its tools.
    • Applying horizontal analysis.
    • Applying vertical analysis.
    • Using ratios to analyze liquidity.
    • Using ratios to analyze solvency.
    • Using ratios to analyze profitability.

Basics of Financial Statement Analysis

  • Comparing financial information can be done intracompany (comparing current and prior years) or intercompany (comparing to competitors).
  • Industry averages can also be used for comparison.
  • Important to analyze both financial and non-financial information.

Tools of Analysis

  • Horizontal analysis evaluates data trends over time.
  • Vertical analysis expresses data as a percentage of a base amount (e.g., total assets or net sales for balance sheets and income statements respectively).
  • Ratio analysis finds relationships between different financial data points.

Textbook Questions (BE17-1)

No details given.

Textbook Questions (BE17-2)

No details given.

Group Assignments

  • Group assignments for different financial ratio types(liquidity, solvency, and profitability ratios).

Textbook Questions (BE17-3)

No details given, but the questions involve cash, accounts receivable, inventory and prepaid expenses.

Textbook Questions (BE17-4)

No details given, but the questions involve cash, accounts receivable, inventory and prepaid expenses.

Textbook Questions (BE17-5a)

No details given, but the questions involve current assets, property, plant, and equipment and goodwill.

Textbook Questions (BE17-5b)

No details given, but the questions involve current assets, property, plant, and equipment, and goodwill.

Textbook Questions (BE17-6)

No details given, but the questions involve an income statement.

Vertical Analysis (Common Size Analysis)

  • Expresses financial data as a percentage of a base amount (base amount is always 100%).
  • Useful for intracompany and intercompany comparisons.
  • Balance sheets often use total assets as the base, while income statements use net sales.

Vertical Analysis: Balance Sheet

  • Shows the percentage breakdown of different balance sheet items as a percentage of total assets (or similar base amount).
  • Provides insights into the composition of assets, liabilities, and equity.

Vertical Analysis: Income Statement

  • Shows the percentage breakdown of different income statement items as a percentage of net sales (or similar base amount).
  • Highlights the proportion of different revenue and expense components.

Limitations of Financial Analysis

  • Alternative accounting standards (like IFRS versus ASPE) reduce comparability.
  • Some income items (like other comprehensive income) may be omitted from the analysis as they can be not easily quantifiable.
  • Quality of reports is essential (transparency/full information).
  • Economic events (like discontinued operations) can affect ratios, creating analytical difficulties.

Ratio Analysis: Liquidity Ratios

  • Formulae and purposes of several liquidity ratios are provided (current ratio, acid-test, receivables turnover, collection period, inventory turnover, days’ sales in inventory, operating cycle).
  • Desired results for each ratio are detailed.

Ratio Analysis: Solvency Ratios

  • Formulae and purposes of solvency ratios are provided (debt to total assets, interest coverage, free cash flow).
  • Desired results for each ratio are detailed.
  • Ratios measure a company's long-term viability and ability to meet its obligations.

Ratio Analysis: Profitability Ratios

  • Formulae and purposes of various profitability ratios are provided (gross profit margin, profit margin, asset turnover, return on assets, returns on equity, earnings per share, price-earnings ratio, and payout ratio).

Chapter 17: Success Criteria (repeated)

  • Learning objectives in previous sections are repeated.

Group Activity

  • Students will be divided into groups focused on liquidity ratios, solvency ratios, profitability ratios.

Group Activity (continued)

  • Groups will explain different types of financial ratios, discuss their meaning, and complete textbook questions. Students must analyze Molson Coors and Waterloo Brewing annual reports for this assignment.

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