Exam 11: Equity Analysis and Valuation

The SEC requires monthly financial reports to be filed (Form 10-M).

Which of the following should be considered when examining a software development company's earnings persistence? I. Changes in accounting estimates II. Amount spent on software development III. Gains from sale of marketable securities IV. Managerial compensation

A profitable mature company would generally have

A retrenching company with poor prospects would generally have

When examining quarterly results of a company in a seasonal business it is useful

Adjusting earnings includes assigning earnings components from the recast income statements to periods they likely belong.

When assessing earnings persistence is important to determine if there has been any earnings management.

Which of the following will affect observed price to book ratio I. Expected ROCE II. Business risk III. Risk free rate of interest IV. Expected growth

Two companies operate in the same industry but one has a much higher price/earnings (P/E) ratio than the other. One reason for the difference in P/E ratio could be the quality of earnings.

Which of the following is least likely to affect analysis of earnings persistence?

Which of the following is not a typical form of earnings management?

If a company has a 100% dividend payout ratio and expected growth in earnings is zero. Cost of capital is 9%. Its P/E ratio would be expected to be:

A stock that has a high price/earnings ratio and a high price/book value ratio is an indicator of a stock that is definitely overvalued.

Which of the following is not included the definition of earnings persistence?

You are given the following information for Young Company. As of year 1, the company's book value is $80,000 and its cost of capital is 15%. Year 1 Year 2 Year 3 Year 4 Year 5 Sales \ 150,000 \ 163,000 \ 171,000 \ 177,000 \ 188,000 Operating Expenses (\ 115,000) (\ 123,500) (\ 131,000) (\ 135,300) (\ 146,735) Depreciation (\ 12,000) (\ 13,100) (\ 14,300) (\ 14,900) (\ 15,300) Net Income \ 23,000 \ 26,400 \ 25,700 \ 26,800 \ 25,965 Dividends \ 6,500 \ 5,500 \ 5,800 \ 8,200 \ 6,504 Expected Book Value \ 80,000 \ 96,500 \ 114,300 \ 147,300 \ 173,100 Expected ROCE 28.75\% 26.34\% 24.57\% 22.89\% 22.00\% Dividends for year 6 and beyond are expected to remain at year 5 level. a. Calculate Young's abnormal earnings for each of the years 1 to 5 . b. Use an accounting based valuation model to estimate the value of Young's equity on January $1 ^ { \text {st } }$ of year 2, year 3 , year 4 and year 5 . c. Use the PB formula to determine the PB ratio on January $1 ^ { \text {st } }$ of year 2 , year 3 , year 4 and year 5 . d. Use the PE formula to determine the PE ratio on January $1 ^ { \text {st } }$ of year 2 , year 3 , year 4 and year 5 .

Which of the following should be attempted in order to gauge the quality of a company's earnings? I. Assess adequacy of discretionary expenditures II. Assessing degree of conservatism in reporting assets III. Assessing degree of conservatism in reporting liabilities IV. Assessing degree of conservatism in application of accounting principles

Which of the following factors is least likely to affect earnings persistence?

Management of earnings has been a newsworthy subject, above and beyond the business press. Analysts are forced to devote time and attention to ferreting out the real numbers, when the clues are available. Explain four kinds of earnings management, giving examples.

Although interim financial reports are normally prepared using the same accounting methods as the annual financial reports they are generally less reliable, in part because of the increased use of estimates in the interim periods.

Which of the following statements concerning quality of earnings is correct?