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Questions and Answers
What is the Days of Inventory Outstanding (DIO) ratio used to measure?
Which of the following methods for creating a cash flow statement focuses on the impact of management's decisions on cash flows?
What is the primary purpose of calculating the Days of Sales Outstanding (DSO) ratio?
Which section of the cash flow statement relates to operating transactions that generate revenue for the company?
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What is a general rule of thumb when it comes to Days of Inventory Outstanding (DIO) and Days of Sales Outstanding (DSO) ratios?
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Why is the direct method considered more time-consuming than the indirect method for creating a cash flow statement?
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What is the net change in Accounts Receivable between Year 1 and Year 2?
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What is the net change in Inventory between Year 1 and Year 2?
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What is the net change in Accounts Payable between Year 1 and Year 2?
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What is the term used to describe investments in non-current assets such as equipment purchases?
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How does a company's purchase of equipment affect the Cash Flow Statement?
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Which financial statement is affected by the depreciation of a company's equipment?
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What is the formula to calculate Depreciation Expense?
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Which financial statement provides information on the revenues and expenses of a business over a specific period?
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What is the primary purpose of the cash flow statement?
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Which of the following is an example of a cash flow from an investing activity?
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What is the main difference between the cash flow statement and the income statement?
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What are the three key financial statements that provide a comprehensive picture of a business's financial performance?
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Study Notes
Financial Analysis
- Financial statements record a business's financial activities and consist of three key statements: Balance Sheet, Income Statement, and Statement of Cash Flows.
Income Statement
- Revenue is also called Sales or Turnover.
- Direct operating costs include Cost of Goods Sold (COGS).
- Gross profit is calculated by subtracting direct operating costs from revenue.
- Indirect operating costs include Research and Development (R&D), administration, selling, and distribution.
- EBITDA (Earnings Before Interest, Taxes, Depreciation, and Amortization) is calculated by adding back depreciation and amortization to earnings.
- Cost of debt financing includes interest and bank charges.
- EBIT (Earnings Before Interest and Taxes) and taxes are calculated by subtracting interest and taxes from EBITDA.
- Net income is calculated by subtracting taxes from EBIT.
Cash Flow Statement
- Cash flows are organized into three main sections: Operating, Investing, and Financing activities.
- Operating cash flows include revenues, operating expenses, and changes in working capital.
- Investing cash flows include the purchase or sale of assets, such as capital expenditures (CAPEX).
- Financing cash flows include raising equity or debt financing.
Working Capital and Cash Conversion Cycle
- Working capital includes Accounts Receivable, Inventory, and Accounts Payable.
- Days of Inventory Outstanding (DIO) measures the time it takes to turn inventory into sales.
- Days of Sales Outstanding (DSO) measures the time it takes to collect cash after making a sale.
- Lower DIO and DSO are generally better, provided the company is not missing out on sales due to lack of inventory or customer credit.
Cash Flow Statement Methods
- There are two methods to create a cash flow statement: Direct Method and Indirect Method.
- The Direct Method requires detailed cash flow data and can be time-consuming.
- The Indirect Method focuses on the impact of management's decisions on cash flow.
Investing Activities
- Investing activities include the purchase or sale of assets that support operations.
- Examples of investing activities include purchasing equipment or vehicles.
- Investing activities are recorded as cash outflows on the cash flow statement.
Changes in Working Capital
- Changes in working capital accounts, such as Accounts Receivable, Inventory, and Accounts Payable, can impact cash flow.
- Increases in working capital accounts are considered cash outflows, while decreases are considered cash inflows.
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Description
Test your understanding of working capital and cash conversion cycle concepts, including Days of Inventory Outstanding (DIO) and Days of Sales Outstanding. Learn how to calculate these metrics and interpret their results in the context of financial analysis.
