Financial statement analysis Essay

1. What is the purpose of financial statement analysis? The purpose of financial statement analysis is to provide information used by the business, potential creditors and investors. 2. If a company had sales of $2,587,643 in 1998 and sales of $3,213,456 in 2003, by what percentage did sales change during this time period? 24.18% a. If the company had a goal of increasing sales by 25% over a five-year period, did it meet its objectives? No b. If the company had set a goal of increasing sales by 28% during the next five years, what should be the sales goal for 2008? 4,113,223.68 3. List and briefly describe the five categories of business ratios. a. Liquidity ratios: Used to determine the company’s ability to pay off short-term debts. (http://www.investopedia.com/terms/l/liquidityratios.asp#axzz2LMPGyktQ) b. Activity ratios: The ability to convert different accounts into cash or sales (http://www.investopedia.com/terms/a/activityratio.asp#axzz2LMPGyktQ) c. Leverage ratios: Used to get an idea of a company’s method of finance or measures it’s ability to meet financial obligations. (http://www.investopedia.com/terms/l/leverageratio.asp#axzz2LMPGyktQ) d. Market ratios: A ratio of a company’s book value to the market value. (http://financial-dictionary.thefreedictionary.com/Book-to-Market+Ratio) 4. Why might a company have a high current ratio but a low quick ratio (acid test ratio)? A company may encounter this when the current assets are dependent on inventory. (http://www.investopedia.com/university/ratios/liquidity-measurement/ratio2.a sp#axzz2LMPGyktQ) 5. If a company has beginning inventory of $30,000 and ending inventory of $55,000, compute its average inventory. If the cost of goods sold is $140,000, compute its inventory turnover and determine how many days the average item is in stock. The average inventory would be 42,500, and average days item is in stock 110.8 days. (http://smallbusiness.chron.com/calculate-inventory-conversion-period-11197.html) 6. A company computes its accounts receivable turnover to be 20. Based on this information, find the average collection period. If the company has a credit collection period of 30 days, explain the relationship between the credit collection period and the average collection period. Average collection period is 18.25. The relationship between the credit collection period and the average collection period is very good for this company. This company will receive payments owed to them prior to them having to pay whom they owe. (http://www.cliffsnotes.com/study_guide/Ratio-Analysis.topicArticleId-21248,articleId-21213.html (http://www.investopedia.com/terms/a/average_collection_period.asp#axzz2LMPGyktQ) 7. A company finds that its fixed asset turnover (net sales/fixed assets) has fallen below one. What does this indicate? 8. If a company has $181,000 in total liabilities and $225,000 in total assets, what percentage of total assets is being financed with the use of other people’s money? 80.4 (http://www.cliffsnotes.com/study_guide/Ratio-Analysis.topicArticleId-21248,articleId-21213.html) 9. Distinguish between gross profit margin, operating profit margin, and net profit margin and provide the formula for each ratio. (http://www.investinganswers.com/financial-dictionary/ratio-analysis/gross-profit-margin-2076) 10. Why is the operating return on assets ratio also referred to as the operating return on investment? The interest expenseis added to ignore the costs associated with funding those assets. ( http://www.investopedia.com/terms/r/returnonassets.asp#ixzz2LZMFaFbY) 11. If a company’s stock is currently selling for $12 per share and its price/earnings ratio is 6, what are its earnings per share? 2 dollars What does this figure mean? This figure shows that on the market the shares are selling for $12 per share for stock in this company that’s net earning $2.00 per share of stock outstanding. (http://www.investopedia.com/terms/p/price-earningsratio.asp#axzz2LMPGyktQ) PE Ratio = Market Price / Earnings per share 6 = $12/Earnings per share Earnings per share = $12/6 = $2.00 12. Compare efficiency and effectiveness. 13. What is the difference between accounting profit and entrepreneurial profit? 14. What financial ratio is predominantly used to determine profitability? 15. Describe the earning power of a company. 16. How is financial leverage related to bankruptcy? 17. Compare Chapter 11 bankruptcy with Chapter 7 bankruptcy. What is the relationship among fixed costs, contribution margin, and the break-even point?