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Questions and Answers
Questions and Answers
What is the primary purpose of financial analysis?
What is the primary purpose of financial analysis?
- To calculate taxes
- To prepare financial statements
- To evaluate the financial performance and financial position of an entity (correct)
- To identify accounting errors
What are financial ratios used for?
What are financial ratios used for?
- To calculate tax liabilities
- To extract more meaningful conclusions from financial statements (correct)
- To prepare financial statements
- To identify accounting standards
What influences the financial performance of a company?
What influences the financial performance of a company?
- Only accounting principles
- Economic conditions and competitive forces within the industry (correct)
- Only economic conditions
- Only management decisions
What typically happens to firms during periods of economic expansion?
What typically happens to firms during periods of economic expansion?
What is the relationship between the number of competitors and profitability?
What is the relationship between the number of competitors and profitability?
From which financial statements is the information for financial analysis obtained?
From which financial statements is the information for financial analysis obtained?
What do profitability ratios evaluate?
What do profitability ratios evaluate?
What does the gross margin ratio indicate?
What does the gross margin ratio indicate?
What can affect the gross margin?
What can affect the gross margin?
What are the five basic groups of financial ratios?
What are the five basic groups of financial ratios?
How can the gross margin ratio be improved?
How can the gross margin ratio be improved?
What is the purpose of industry comparative analysis?
What is the purpose of industry comparative analysis?
What is the term used to describe the approach of comparing an entity's performance with that of the industry leader or industry average?
What is the term used to describe the approach of comparing an entity's performance with that of the industry leader or industry average?
What does the profit margin ratio pertain to?
What does the profit margin ratio pertain to?
What type of analysis involves evaluating an entity's performance over time?
What type of analysis involves evaluating an entity's performance over time?
How can the profit margin ratio be improved?
How can the profit margin ratio be improved?
Which financial statement is used to calculate the gross profit?
Which financial statement is used to calculate the gross profit?
What does the return on assets (ROA) measure?
What does the return on assets (ROA) measure?
How can the return on assets be improved?
How can the return on assets be improved?
What is the formula for calculating the debt-to-assets ratio?
What is the formula for calculating the debt-to-assets ratio?
According to Marx and Swardt, what are the measures of profitability related to?
According to Marx and Swardt, what are the measures of profitability related to?
What is the main difference between return on assets and return on equity?
What is the main difference between return on assets and return on equity?
Why is it important to compare the return on assets with other rates?
Why is it important to compare the return on assets with other rates?
What is the purpose of ratio analysis?
What is the purpose of ratio analysis?
What is the name of the approach that combines industry comparative and time-series analyses?
What is the name of the approach that combines industry comparative and time-series analyses?
What is the purpose of interpreting financial ratios?
What is the purpose of interpreting financial ratios?
What is the assumption made about inventories in the acid test ratio?
What is the assumption made about inventories in the acid test ratio?
What is the minimum acceptable acid test ratio?
What is the minimum acceptable acid test ratio?
What does a low inventory turnover imply?
What does a low inventory turnover imply?
What is the implication of a high inventory turnover?
What is the implication of a high inventory turnover?
What is the purpose of the debtor collection period ratio?
What is the purpose of the debtor collection period ratio?
What is the purpose of unbundling business assets that achieve low or no profitability?
What is the purpose of unbundling business assets that achieve low or no profitability?
What does Return on Equity (ROE) measure?
What does Return on Equity (ROE) measure?
What does a low acid test ratio indicate?
What does a low acid test ratio indicate?
What is the implication of a high debtor collection period?
What is the implication of a high debtor collection period?
What can be done to improve the Return on Equity (ROE)?
What can be done to improve the Return on Equity (ROE)?
What do liquidity ratios measure?
What do liquidity ratios measure?
How is the average inventory calculated?
How is the average inventory calculated?
What is the purpose of the acid test ratio?
What is the purpose of the acid test ratio?
What is the minimum acceptable value for the current ratio?
What is the minimum acceptable value for the current ratio?
What does the inventory turnover ratio measure?
What does the inventory turnover ratio measure?
What can be done to improve a low current ratio?
What can be done to improve a low current ratio?
What is the acid test ratio also known as?
What is the acid test ratio also known as?
Why is a higher current ratio not always desirable?
Why is a higher current ratio not always desirable?
What is the formula to calculate the Return on Equity (ROE)?
What is the formula to calculate the Return on Equity (ROE)?
What can be done to improve inventory management?
What can be done to improve inventory management?
What does the debt-to-asset ratio indicate?
What does the debt-to-asset ratio indicate?
What does a high debt-to-equity ratio suggest?
What does a high debt-to-equity ratio suggest?
What is the primary purpose of the interest coverage ratio?
What is the primary purpose of the interest coverage ratio?
What does the earnings per share (EPS) ratio indicate?
What does the earnings per share (EPS) ratio indicate?
What is the recommended value for the interest coverage ratio?
What is the recommended value for the interest coverage ratio?
What is the implication of a high debt-to-asset ratio?
What is the implication of a high debt-to-asset ratio?
What does the increase in earnings per share (EPS) suggest?
What does the increase in earnings per share (EPS) suggest?
Why may management consider issuing new ordinary shares?
Why may management consider issuing new ordinary shares?
What is the primary purpose of the debt-to-equity ratio?
What is the primary purpose of the debt-to-equity ratio?
What does the collection period of 63,10 days indicate about Spire Limited's accounts receivable?
What does the collection period of 63,10 days indicate about Spire Limited's accounts receivable?
What does a high interest coverage ratio indicate?
What does a high interest coverage ratio indicate?
What can an entity with an unfavourable debtor collection period consider doing?
What can an entity with an unfavourable debtor collection period consider doing?
What does the creditor payment period ratio evaluate?
What does the creditor payment period ratio evaluate?
Why is it important for an entity to make payment within the stated credit terms?
Why is it important for an entity to make payment within the stated credit terms?
What is the purpose of debt ratios?
What is the purpose of debt ratios?
What does the debt to assets ratio indicate?
What does the debt to assets ratio indicate?
Why do lenders care about an entity's debt to assets ratio?
Why do lenders care about an entity's debt to assets ratio?
What should management consider doing if the EPS is too low?
What should management consider doing if the EPS is too low?
What is the purpose of calculating the Dividend per Share (DPS)?
What is the purpose of calculating the Dividend per Share (DPS)?
What is the result of increasing an entity's financial leverage?
What is the result of increasing an entity's financial leverage?
What does a low P/E ratio indicate?
What does a low P/E ratio indicate?
Why might an entity's creditor payment period be longer than the credit terms?
Why might an entity's creditor payment period be longer than the credit terms?
What is the earnings yield ratio used for?
What is the earnings yield ratio used for?
What can an entity do to accelerate its collection period?
What can an entity do to accelerate its collection period?
What should management focus on if the P/E ratio is too low?
What should management focus on if the P/E ratio is too low?
What is the formula for calculating the Price/Earnings (P/E) ratio?
What is the formula for calculating the Price/Earnings (P/E) ratio?
What is the opposite of the Price/Earnings (P/E) ratio?
What is the opposite of the Price/Earnings (P/E) ratio?
Why is the EPS reported prominently on the face of the income statement?
Why is the EPS reported prominently on the face of the income statement?
What can be done to improve the earnings yield?
What can be done to improve the earnings yield?
What is the purpose of calculating the Dividend per Share (DPS) and Earnings per Share (EPS)?
What is the purpose of calculating the Dividend per Share (DPS) and Earnings per Share (EPS)?
What is the dividend yield ratio used to reflect?
What is the dividend yield ratio used to reflect?
What does a high dividend yield may indicate?
What does a high dividend yield may indicate?
What is the formula to calculate the dividend yield?
What is the formula to calculate the dividend yield?
What can improve the dividend yield of a company?
What can improve the dividend yield of a company?
What does a low dividend yield may indicate?
What does a low dividend yield may indicate?
What does the dividend yield reflect?
What does the dividend yield reflect?
What is the consequence of a high dividend yield?
What is the consequence of a high dividend yield?
Why is a higher dividend yield desirable among many investors?
Why is a higher dividend yield desirable among many investors?
Questions and Answers
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Study Notes
Study Notes
Financial Statements and Analysis
- Financial statements provide insight into an entity's financial performance and position.
- Financial ratios are used to extract more meaningful conclusions and diagnose problems.
- A ratio is a relationship between two sets of values, summarizing complex accounting information into key indicators.
- Financial analysis evaluates an entity's financial performance and position, identifying risks and opportunities.
Types of Comparison
- Ratio analysis involves two types of comparison:
- Industry comparative analysis: compares an entity's financial ratios to those of its industry competitors.
- Time-series analysis: evaluates an entity's performance over time, identifying trends and changes.
Profitability Ratios
- Profitability ratios measure a company's ability to generate earnings compared to its sales, assets, and equity.
- Types of profitability ratios:
- Gross margin (gross profit margin): profit after deducting the cost of sales, as a percentage of sales.
- Profit margin (net profit margin): profit after taxes, as a percentage of sales.
- Return on assets (ROA): operating profit, as a percentage of total assets.
- Return on equity (ROE): net profit after tax, as a percentage of shareholders' equity.
Liquidity Ratios
- Liquidity ratios measure an entity's ability to meet its short-term obligations.
- Types of liquidity ratios:
- Current ratio: current assets, as a percentage of current liabilities.
- Acid test ratio (quick ratio): current assets minus inventory, as a percentage of current liabilities.
Activity Ratios
- Activity ratios measure the efficiency of an entity's operations.
- Types of activity ratios:
- Inventory turnover: number of times inventory is sold and replaced during a period.
- Debtor collection period: average time taken by debtors to pay their accounts.
- Creditor payment period: average time taken by an entity to pay its creditors.
Debt Ratios
- Debt ratios measure an entity's level of indebtedness and ability to service its debt.
- Lenders use debt ratios to assess an entity's creditworthiness and ability to repay loans.### Financial Leverage
- Increasing debt relative to equity to finance a business can enhance earnings for owners
- However, lenders must still be repaid regardless of earnings
Debt to Assets Ratio (Debt Ratio)
- Measures the proportion of debt to total claims against assets
- Higher ratio indicates higher risk
- Calculation: Total debt / Total assets
- Example: Spire Limited's debt to assets ratio is 55.03% and 54.74% for 20.14 and 20.13 respectively
Debt to Equity Ratio
- Measures the relative proportions of non-current claims to ownership claims
- Used to measure debt exposure
- Calculation: Non-current debt / Equity
- Example: Spire Limited's debt to equity ratio is 49.56% and 60.23% for 20.14 and 20.13 respectively
Interest Coverage (Times Interest Earned) Ratio
- Measures a firm's ability to cover interest payments
- Calculation: Operating profit / Interest expense
- Example: Spire Limited's interest coverage ratio is 27.55 times and 27.12 times for 20.14 and 20.13 respectively
Securities Market Ratios
- Earnings per share (EPS), dividend per share (DPS), price/earnings (P/E) ratio, earnings yield, and dividend yield ratios are applicable only to companies listed on a stock exchange
Earnings per Share (EPS) Ratio
- Measures profitability
- Calculation: Profit after tax / Number of ordinary shares issued
- Example: Spire Limited's EPS is 37.18 cents and 36 cents for 20.14 and 20.13 respectively
Dividend per Share (DPS) Ratio
- Measures dividend payments
- Calculation: Dividends for the year / Number of ordinary shares issued
- Example: Spire Limited's DPS is 17.5 cents and 16.67 cents for 20.14 and 20.13 respectively
Price/Earnings (P/E) Ratio
- Measures market price of a company's ordinary shares
- Calculation: Market price per share / Earnings per share
- Example: Spire Limited's P/E ratio is 3.50 times and 3.33 times for 20.14 and 20.13 respectively
Earnings Yield Ratio
- Measures current profit-generating power per ordinary share
- Calculation: Earnings per share / Market price per share
- Example: Spire Limited's earnings yield ratio is 28.60% and 30% for 20.14 and 20.13 respectively
Dividend Yield Ratio
- Measures percentage return on investment in terms of dividends
- Calculation: Dividend per share / Market price per share
- Example: Spire Limited's dividend yield ratio is 13.46% and 13.89% for 20.14 and 20.13 respectively
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