FAR EASTERN UNIVERSITY

Institute of Accounts, Business and Finance

ACT1124 - Financial Management
Financial Statements and Ratio Analysis
Practice Problems

I. True or False Questions

________
1.) Common-size financial statements are financial statements of companies of similar size.
________ 2.) One limitation of vertical analysis is that it cannot be used to compare two companies
that are significantly different in size.
________
3.) The gross margin percentage is computed by dividing the gross margin by tota assets.
________ 4.) The sale of used equipment at book value will increase earnings per share
________ 5.) Earnings per share is computed by dividing net income (after deducting preferred
dividends) by the average number of ordinary shares outstanding.
________ 6.) The dividend payout ratio divided by the dividend yield ratio equals the price-earnings
ratio.
________ 7.) If the Company's acid test ratio increases, its current ratio will also increase
________ 8.) A current ratio of 1.2 to 1 indicates that a company's current asset exceed its current
liabilities.
________ 9.) Both profit margin and asset turnover affect a company's return on assets
________
10.) Working capital is computed by subtracting long-term liabilities from long-term assets.
________ 11.) Short-term borrowing is not a source of working capital.
________ 12.) If a company succesfully implements lean production, its inventory turnover ratio
should decrease.
________ 13.) From a creditor's point of view, the higher the total debt to total asset ratio, the lower
the risk that the company may unable to pay its obligations.
________ 14.) Assuming a current ratio greater than 1, acquiring land by issuing more of the
company's common stock will increase current ratio.
________ 15.) Declining profitabilty and liquidit ratios are indications that a company might not
survive.

II. Multiple Choice Questions

1.) Common size financial statements help an analyst to

a.) Evaluate financial statements of companies within a given industry of the approximate same size.

b.) Determine which companies in a similar industry are at approximately the stage of development.
c.) Compare mix of assets, liabilities, capital, revenue and expenses within a company over a period of
tiime or between companies within a given industry without respect to size.
d.) Ascertain the relative potential of companies of similar size in different industry.

2.) Which of the following ratios would be least useful in determining a company's ability to pay its
expenses and liabilities?
a.) current ratio c.) price-earnings ratio
b.) acid-test ratio d.) cash ratio

3.) Most shareholders would be least concerned with which of the following ratios?
a.) earnings per share c.) price-earnings ratio
b.) dividend yield ratio d.) acid-test ratio

4.) What effect will the issuance of ordinary shares for cash at year-end have on the following ratios?
Return on Total Assets Debt-to-Equity ratio
a.) Increase Increase
b.) Increase Decrease
c.) Decrease Increase
d.) Decrease ` Decrease

5.) The market price of Friden Company's ordinary shares increased from P15 to P18. Earnings per
share of ordinary shares remained unchanged. The company's price-earnings ratio would:
a.) increase c.) remains unchanged
b.) decrease d.) impossible to determine

6.) If a company is profitable and is effectively using leverage, which of the following ratio is like to be
the largest?
a.) Return on total assets c.) Return on ordinary shares equity
b.) Return on total liabilties d.) current ratio

7.) Clark Company issued bonds with an interest rate of 10%. The Company's return on asset before
issuance is 12%. The company's return on ordinary sharesholders' equity would most likely:
a.) increase c.) remains unchanged
b) decrease d.) impossible to determine

8.) Which of the following transactions could generate positive financial leverage for a corporation?
a.) acquiring assets through the issuance of long-term debt
b.) acquiring assets through the use of accounts payable
c.) acquiring assets through the issuance of ordinary shares
d.) both A and B are correct
9.) Long-term creditors are usually most interested in evaluating:
a.) liquidity c.) profitability
b.) marketability d.) solvency

10.) Which of the following would be considered a long-term solvency ratio?

a.) receivables turnover c.) current cash debt coverage ratio
b.) return on total assets d.) debt to total asset ratio

11.) Stockholders are most interested in evaluating

a.) liquidity c.) profitability
b.) marketability d.) solvency

12.) In ratio analysis, the ratios are never expressed as a

a.) rate c.) percentage
b.) logarithm d.) simple proportion

13.) the current ratio is

a.) calculated by dividing current liabilities by current assets
b.) used to evaluate a company's liquidity and short-term debt paying ability.
c.) used to evaluate a company's solvency and long-term debt paying ability
d.) calculated by subtracting current liabilities from current asset

14.) The current ratio is a

a.) liquidity ratio c.) long-term solvency ratio
b.) profitability ratio d.) cash flow ratio

15.) A company with P60,000 in current assets and P40,000 in current liabilities pays a P1,000 current
liability. As a result of this transaction, the current ratio and working capital will:

a.) both decrease

b.) both decrease
c.) increase and remain the same respectively.
d.) decrease and remain the same respectively.

16.) The receivables turnover and inventory turnover ratios are used to analyze:
a.) long-term solvency c.) liquidity
b.) profitability d.) leverage
17.) DEF Company's most recent income statement appears below:

Sales (all on account) P824,000

Cost of goods sold 477,000
Gross margin 347,000
Selling and administative expense 208,000
Net operating income 139,000
Interest expense 37,000
Net Income before taxes 102,000
Income taxes 30,000
Net Income P72,000

The gross margin percentage is closest to:

a.) 20.7% b.) 72.7% c) 42.1% d.)481.9%

18.) Erica Trading Corp had net income of P2,000,000 in 2015. Using the 2015 financial statements
element as base data, net income decreased by 70% in 2016 and increased by 175% in 2017. The
respective net income reported by the company for 2016 and 2017 are:

a.) P600,000 and P3,500,000 c.) P1,400,000 and P3,500,000

b.) P600,000 and P5,500,000 d.)P1,400,000 and P5,500,000

19.) During 2017, Salas company purchased P960,000 of inventory. The cost of goods sold for 2017
was P900,000, and t he ending inventory at December 31, 2017 was P180,000. What was the
inventory turnover for 2017?

a.) 5 times c.) 6 times

b.) 5.3 times d.) 6.4 times

20.) The following financial data have been taken from the records for Salido Company:

Accounts receivable P200,000

Accounts payable 80,000
Bonds payable, due in 10 years 500,000
Cash 100,000
Interest payable, due in 3 months 25,000
Inventory 440,000
Land 800,000
Notes payable, due in 6 months 250,000

What will happen to the current and quick ratios, respectively if Salido uses cash to pay 50% of its
accounts payable?

a.) both ratios will increase c.) only the current ratio will decrease
b.) both ratios will decrease d.) only the quick ratio will increase
21.) MYMP Company had the following data in its balance sheet on December 31, 2017:

Accounts payable P145,000

Accounts receivable 110,000
Accrued liabilities 4,000
Cash 80,000
Income tax payable 10,000
Inventory 140,000
Marketable securities 250,000
Notes payable, due in 3 months 85,000
Prepaid expenses 15,000

The amount of working capital for the company is:

a.) P211,000 c.) P351,000

b.) P336,000 d.) P361,000

22.) The times interest earned ratio of Chikel Company is 4.5 times. The interest expense for the year
was P20,000 and the company's tax rate is 40%. The Company's net income is:
a.) P22,000 c.) P54,000
b.) P42,000 d.) P66,000

23.) Selected information for Quarteros Corp at December 31, 2017 is as follows:
2016 2017
Preference shares, 8% par P100 non-
convertible and cumulative P250,000 P250,000
Ordinary shares 600,000 800,000
Retained earnings 150,000 370,000
Dividends paid on preference shares for the year 20,000 20,000
Net income 120,000 240,000

Quartero's return on ordinary shareholder's equity for 2017 is

a.) 17% c.) 21%
b.) 19% d.) 23%

24.) The current assets of Sabkiel Enterprise consist of cash, accounts receivable and inventory. The
following information is available:

Credit sales 75% of total sales

Inventory turnover 5 times
Working capital P1,120,000
Current ratio 2 to 1
Quick ratio 1.25 to 1
Average collection period 42 days
Working days 360 days
The estimated inventor amount is:

a.) P840,000 c.) P720,000

b.) P600,000 d.) P550,000

25.) Crandall Company's net income last year was P60,000. The Company paid preferred dividends of
P10,000 and its average ordinary shareholders' equity was P480,000. The company's return on
ordinary shareholders' equity for the year was closest to:

a.) 12.5% c.) 2.1%

b.) 10.4% d.) 14.6%

26.) Ardor company's net income last year was P500,000. The company has 150,000 shares of
ordinary shares and 30,000 shares of preference shares outstanding. There was no change in the
number of ordinary or preference shares outstanding during the year. The company declared and paid
dividends last year of P1 per share on the ordinary shares and P0.70 per share on the preference
shares. The earnings per share of ordinary shares is closest to:
a.) P3.33 c.) P2.33
b.) P3.19 d.) P3.47

27.) The following information relates to Konbu Corporation for last year:

Price to earnings ratio 15

Dividend payout ratio 30%
Earnings per share P5

What is Konbu's dividend yield ratio for last year?

a.) 1.5%
b.) 2% c.) 4.5%
d.) 10%

28.) Richmond Company has 100,000 shares of P10 par value ordinary shares issued and outstanding.
Total shareholders' equity is P2,800,000 and net income for the year is P800,000. During the year,
Richmond paid P3 per share in dividends on its ordinary shares. The market value of Richmond's
ordinary shares is P24. What is the price-earnings ratio?
a.) 3 c.) 4.8
b.) 3.5 d.) 8
29.) The following reflected from the records of Salvacion Company:

Earnings before interest taxes P1,250,000

Interest expenses 250,000
Preference share dividends 200,000
Payout ratio 40%
Share outstanding throughout 2017:
Preference 20,000 shares
Ordinary 25,000 shares
Income tax rate 40%
Price earnings ratio 5 times

The dividend yield ratio is:

a.) 0.08 c.) 0.40
b.) 0.12 d.) 0.50

30.) Hurst Company has 20,000 shares of ordinary shares outstanding. These shares were originally
issued at a price of P15 per share. The current book value is P25 per share and the current market
value is P30 per share. The dividends on ordinary shares for the year totalled P45,000. the dividend
yield ratio is:
a.) 9% c.) 15%
b.) 7.5% d.) 10%

31.) Bramble Company's net income last year was P65,000 and its interest expense was P15,000. Total
assets at the beginning of the year were P620,000 and total assets at the end of the year were
P650,000. The company's income tax rate was 40%. The company's return on total assets for the year
was closest to:
a.) 11.7% c.) 12.6%
b.) 10.2% d.) 11.2%

32.) If year one equals P800, year two equals P840, and year three equals P896, the percentage to be
assigned in a trend anaysis, assuming year 1 is the base year is:
a.) 100% c.) 105%
b.) 89% d.) 112%

33.) Bucatini Corporation is contemplating the expansion of operations. This expansion will generate
an 11% return on the funds invested. To finance this operation, Bucatini can either issue 12% bonds,
issue 12% preference shares or issue ordinary shares. Bucatini currently has return on ordinary
shareholders' equity of 16%. Bucatini's t ax rate is 30%. In which of the financing options above is
positive financial leverage being generated?
a.) none of the options generate positive financial leverage
b.) the bonds
c.) the ordinary shares
d.) the preference shares
34.) Consolo corporation's net income for the most recent year was P809,000. A total of 100,000
shares of ordinary shares and 200,000 shares of preference shares were outstanding throughout the
year. Dividends on ordinary shares were P2.05 per share and dividends on preference shares were
P1.80 per share. The earnings per share of ordinary share is closest to:
a.) P2.44 c.) P4.49
b.) P8.09 d.) P6.04

35.) Bary Corporation's net income last year was P2,604,000. The dividend on ordinary shares was
P2.50 per share, and the dividend on preference shares was P2.40 per share. The market price of
ordinary shares at the end of the year was P73.50 per share. Throughout the year, 300,000 shares or
ordinary shares and 100,000 shares of preference shares were outstanding. the price-earnings ratio is
closest to:
a.) 9.33 c.) 13.66
b.) 11.89 d.) 8.47

36.) Armstrong Corporation's net income last year was P7,975,000. The dividend on ordinary shares
was P8.20 per share and the dividend on preference shares was P3.50 per share. The market price of
ordinary shares at the end of the year was P59.10 per share. Throughout the year 500,000 shares of
ordinary shares and 200,000 shares of preference shares was outstanding. The dividend payout ratio
is closest to:
a.) 1.06 c.) 0.56
b.) 0.51 d.) 1.29

37.) Last year, Soley Corporation's dividend on ordinary shares was P11.60 per share, and the dividend
on preference shares was P1.10 per share. The market price of ordinary shares at the end of the year
was P54.80 per share. The dividend yield ratio is closes to:
a.) 0.02 c.) 0.23
b.) 0.21 d.) 0.91

Villamor Company, which sells a single product, asked by Ivy to submit an analysis of the increase in
their gross profit in 2017 based on the comparative income statement below. The only known factor
given to Ivy is that the sales price increased by 12.5%

2017 2016
Sales P759,600 P720,000
Cost of sales 495,000 477,000
Gross profit 264,600 243,000

38.) The percentage increase in cost is:

a.) 10.66% c.) 10%
b.) 7.95% d.) 6.22%
39.) The following financial data have been taken from the records of JCM Company:

Accounts receivable 200,000

Accounts payable 80,000
Bonds payable, due in 10 years 500,000
Cash 100,000
Interst payable, due in 3 months 25,000
Inventory 440,000
Land 800,000
Notes payable, due in 6 months 250,000

If half of the inventory sold on account with a mark-up of 40% on cost and 25% of accounts payable
was paid to take advantage of 3% discount, which of the following is true?

a.) current assets would increase to P720,600

b.) quick assets would increase by P68,000
c.) The new current ratio would be 2.15
d.) The quick ratio would increase by 0.91

40.) The board of directors is dissatisfied with last year's ROE of 15%. If the profit margin and asset
turnover remain unchanged at 8% and 1.25, respectively, by how much must the total debt ratio
increase to achieve 20% ROE?
a.) total debt ratio must increase by 0.5 c.) total debt ratio must increase by 5%
b.) total debt ratio must increase by 5 d.) total debt ratio must increase by 50%

41.) Cedric corp has current ratio of 3:1. The minimum desired ratio is 5.1. At present, the net working
capital is P40,000. How much current liabilities must be paid to achieve the minimum current ratio?
a.) P10,000 c.) P20,000
b.) P15,000 d.) P25,000

42.) The financial analyst of Stacey Corp provided the following financial ratios:

Current Ratio 4:1 Gross profit rate 25%

Quick Ratio 3.5:1 Ending current liabilities 250,000
Inventory Turnover 7x Beginning inventory 175,000

What is the gross profit?

a.) P262,500 c.) P350,000
b.) P306,250 d.) P408,333

43.) Abokoutah Company reported cost of goods sold of P250,000 and operating expenses of
P150,000 (including depreciation of P20,000). Income taxes are 35%. The after tax return on sales is
23.4%. How much is the sales revenue?
a.) P600,000 c.) P650,000
b.) P625,000 d.) P675,000