Study unit 2 Financial Statements and Analysis Exam questions

1. Which statement is correct? (Nov 2005) (Nov 2006) 1. Return on equity measures the overall effectiveness of management in generating income with its available assets. 2. The net profit margin measures the returns on owners investment in the firm. 3. The price-earnings ratio is commonly used to appraise share value 4. The gross profit margin and earnings per share are two frequently cited ratios of profitability which can be directly read from the income statement. 2. A firm's cash flows become more predictable as the (May 2009) 1. current ratio expands. 2. return on owners equity increases. 3. current liabilities decrease. 4 current assets decrease. 3. The following information for Gogo Ltd is available: (Nov 2005) (Nov 2006 as Mandela) Sales Gross income Net earnings after interest and tax Issued ordinary shares Market price per share Tax rate The price/earnings ratio for Gogo Ltd is: 1. 2. 3. 4. 3.43 5.00 8.00 9.38 R900 000 R600 000 R96 000 12 000 R40,00 42%

4. A firm that uses the aggressive financing strategy plans to purchase raw materials in large quantities to obtain price discounts. The firm will finance the purchase with a loan. The likely consequence of this action is (Nov 2005) (Nov 2006) 1. 2. 3. 4. A decrease in the current ratio An increase in net working capital An undermined change in the current ratio An increase in long-term debt

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5. The following information for Bold Fashions Ltd is supplied: (Nov 2005) : (Nov 2006) Sales Total operating expenses Tax payable Interest payable 1. 2. 3. 4. 7.5% 16.67% 28.33% 37.5% R120 000 R75 000 R25 000 R11 000

6. A firm with sales of R1 000 000, net profits after taxes of R30 000, total assets of R1 500 000 and total liabilities of R750 000 has a return on total assets (ROA) of (May 2009) 1. 2. 3. 4. 2% 4% 15% 20%

7. Which ONE of the following ratios may indicate poor collections procedures or a lax credit policy? 1. Average payment period 2. Inventory turnover 3. Quick ratio 4. Average collection period 8. A firm has a current ratio of 1; in order to improve its liquidity ratios, this firm might 1. Improve its collection procedures, thereby increasing cash and increasing its current and quick ratios 2. Improve its collection practices and pay accounts payable, thereby decreasing current liabilities and increasing the current and quick ratios 3. Decrease current liabilities by utilising more long term debt, thereby increasing the current and quick ratios 4. Increase inventory, thereby increasing current assets and the current and quick ratios

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Study guide Questions

1. The notes to financial performance are an important part of the shareholders report because they (1) are the primary communication from management to the enterprises owners. (2) provide information on the accounting policies, procedures, calculations and transactions underlying entries in the financial statements. (3) indicate whether the auditors have certified the statements as a fair representation of the financial affairs of the enterprise. (4) explain to what extent the generally accepted accounting principles (GAAP) were adhered to. 2. Which of the following statements are correct? (a) The financial statements of an enterprise consist of the income statement, the balance sheet, the statement of retained earnings and the cash budget. (b) The income statement measures the profitability of the enterprise. (c) The balance statement measures only the value of the assets of the enterprise. (1) a (2) b (3) a, b (4) b, c 3. An enterprise has fixed assets worth R900 000 and current assets worth R180 000. The enterprise owes R440 000 on a mortgage bond and money owed to creditors amount to R10 000. Owners equity equals (1) R630 000. (2) R640 000. (3) R1 170 000. (4) R1 180 000. 4. Siyaya Corporation had sales worth R20 000 for the year. The inventory at the beginning of the year was worth R10 000, and at the end of the year it was worth R14 000. The enterprise purchased goods worth R15 000 during the year. The gross profit equals (1) R9 000. (2) R11 000. (3) R14 000. (4) R15 000.

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5. The income statement consists of (1) assets, liabilities and shareholders equity. (2) sales, cost of goods sold and operating expenses. (3) cash flow from operating, financing and investment activities. (4) net income earned, cash dividends paid and change in retained earnings. 6. The of a business enterprise is measured by its ability to satisfy its short-term obligations as they become due. (1) activity (2) liquidity (3) debt (4) profitability 7. The three summary ratios basic to the DuPont system of analysis are (1) net profit margin, total asset turnover and return on investment. (2) net profit margin, total asset turnover and return on equity. (3) net profit margin, total asset turnover and equity multiplier. (4) net profit margin, financial leverage multiplier and return on equity. 8. An enterprise with total asset turnover lower than the industry standard may have (1) excessive debt. (2) excessive cost of goods sold. (3) insufficient sales. (4) insufficient fixed assets. 9. An enterprise with sales of R 1 000 000, net profit after taxes of R30 000, total assets of R1 500 000 and total liabilities of R750 000 has a return on equity of (1) 20 per cent. (2) 15 per cent. (3) 3 per cent. (4) 4 per cent. 10. An increase in financial leverage will result in in the return on equity. (1) an increase (2) a decrease (3) no change (4) an undetermined change

The following information is available for JJ Holdings. Use this information to answer questions 11 to 12:

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Sales Cost of Goods sold Inventory Turnover Total assets turnover Earnings available for ordinary shareholders Ordinary shares equity Book value of shares Number of days in a year

R3 850 000 R3 250 000 3.89 0.75 R900 000 R2 500 000 R6 365

11. Suppose the average age of inventory (AAI) for a rival company is 80 days. The AAI for JJ Holdings indicates that it 1. has a higher average number of days sales in inventory than the rival Company 2. has a lower average number of days sales in inventory than the rival company 3. is more effective in utilising its inventory to generate sales 4. turns over its inventory faster than the rival company 12. Assuming that the total liabilities for JJ Holdings are R3 500 000 and that the industry average for the debt ratio is 50%, The current debt ratio for JJ Holdings indica tes that it has 1. a lower risk of becoming bankrupt compared to the firms in its industry 2. a higher risk of becoming bankrupt compared to the firms in its industry 3. half of its assets financed by debt 4. a lower proportion of lenders funds that are being used to generate profits compared to the industry

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