A firm has a current ratio greater than 1.0. During the course of the year the firm sells $60M of accounts receivable with limited recourse. If it had not sold the receivables it would have to have taken out a short-term loan. The effect of selling the receivables is: \[\begin{array} { | l | c | c | } \hline & \text { Accounts Receivable Turnover } & \text { Current Ratio } \\ \hline \text { A) } & \text { higher } & \text { lower } \\ \hline \text { B) } & \text { higher } & \text { higher } \\ \hline \text { C) } & \text { lower } & \text { lower } \\ \hline \text { D) } & \text { lower } & \text { higher } \\ \hline \end{array}\]

A) Option A B) Option B C) Option C D) Option D A) Option A B) Option B C) Option C D) Option D A

The following information can be found in ABC Co.'s financial statements. \[\begin{array} { | l | r | r | } \hline & \underline { 2006 } & \underline { 2005 } \\ \hline \text { Finished Goods } & \$ 251,690 & \$ 195,360 \\ \hline \begin{array} { l } \text { Work in Process and } \\ \text { purchased parts } \end{array} & 245,123 & 17,377 \\ \hline \text { Raw Materials } & 136,568 & 106,789 \\ \hline & 633,381 & 488,581 \\ \hline \begin{array} { l } \text { Less excess of current } \\ \text { cost over stated LIFO } \\ \text { value } \end{array} &\underline { 62,951 } & \underline { 71,186 } \\ \hline & \$ 570,430 & \$ 417,395\\ \hline & &\\ \hline \text { Retained earnings }&\$3,526,000 & \$ 3,159,000 \\ \hline \end{array}\] Assume a tax rate of 35%. Inventories valued using the LIFO method represented approximately 80% of consolidated inventories. -What will be the retained earnings for 2006 if ABC used FIFO valuation?

A) 3,205,271 B) 3,566,918 C) 3,893,000 D) 4,096,430 A) 3,205,271 B) 3,566,918 C) 3,893,000 D) 4,096,430 B

The following information can be found in Manufacturer Company's financial statements. \[\begin{array} { | l | c | c | } \hline & \underline { 2006 } & \underline { 2005 } \\ \hline \text { COGS } & \$ 2,500,000 & \$ 2,000,000 \\ \hline \text { Inventory } & \$ 180,000 & \$ 140,000 \\ \hline \text { Net Income } & \$ 125,000 & \$ 100,000 \\ \hline \text { Retained } & \$ 500,000 & \$ 400,000 \\ \text { Earnings } & & \\ \hline \text { LIFO Reserve } & \$ 40,000 & \$ 30,000 \\ \hline \text { Tax Rate } & 40 \% & 40 \% \\ \hline \end{array}\] -If Manufacturer used FIFO its retained earnings as of the end of fiscal 2006 would be:

A) $ 540,000 B) $ 440,000 C) $ 524,000 D) $ 506,000 A) $ 540,000 B) $ 440,000 C) $ 524,000 D) $ 506,000

The following information can be found in Manufacturer Company's financial statements. \[\begin{array} { | l | c | c | } \hline & \underline { 2006 } & \underline { 2005 } \\ \hline \text { COGS } & \$ 2,500,000 & \$ 2,000,000 \\ \hline \text { Inventory } & \$ 180,000 & \$ 140,000 \\ \hline \text { Net Income } & \$ 125,000 & \$ 100,000 \\ \hline \text { Retained } & \$ 500,000 & \$ 400,000 \\ \text { Earnings } & & \\ \hline \text { LIFO Reserve } & \$ 40,000 & \$ 30,000 \\ \hline \text { Tax Rate } & 40 \% & 40 \% \\ \hline \end{array}\] -If Manufacturer used FIFO its Net Income for fiscal 2006 would be:

A) $ 165,000 B) $ 149,000 C) $ 135,000 D) $ 131,000 A) $ 165,000 B) $ 149,000 C) $ 135,000 D) $ 131,000

Exam 4: Analyzing Investing Activities

Analysts maintain that two of the most important ratios are Inventory turnover and Accounts receivable turnover. a. You are analyzing ABC Company, a computer manufacturer. You notice that inventory turnover this year is significantly lower than prior years. Provide three explanations that would be consistent with this observation. Explain whether these would be of concern to you and what the effect might be on next period's financial results. b. You are analyzing ABC Company, a computer manufacturer. You notice that accounts receivable turnover this year is significantly lower than prior years. Provide three explanations that would be consistent with this observation. Explain whether these would be of concern to you.

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Question 1

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a. A decrease in inventory turnover means that an average inventory is being held for a longer period of time before it is sold.
This may indicate:
- obsolete inventory (cannot be sold or only at deep discount - especially in this industry). This would obviously be a matter of concern. One might expect to see inventory write-downs next period.
- planned increase in purchasing in anticipation of increased demand for goods. This would be a good sign and will hopefully be followed by increased sales next period.
- less demand than expected in prior period. This would be a matter of concern. You might expect to see gross margins decrease next period if the company has to resort to sales to move inventory.
b. An increase in accounts receivable relative to sales can be due to the following reasons:
- More sales made on credit.
change in credit policy.
failure by employees to follow credit policy.
Some reason for concern but less worrisome than some other alternative explanations (see below)
- Customers are paying less quickly.
general recession
poorer quality merchandise
poorer job by credit department
All these would be reasons for concern. The first two might signal lower future sales in near term
- Change to more aggressive revenue recognition procedures - definitely a cause for concern. Why are they doing this? Have sales slowed down? Will the cash actually be forthcoming?
- Change in allowance for uncollectible accounts receivable. Is this because prior experience has been better than expected or is this an attempt to increase net income?
- Change in allowance for returns. Is this because prior experience has been better than expected or is this an attempt to increase net income?

A firm has a current ratio greater than 1.0. During the course of the year the firm sells $60M of accounts receivable with limited recourse. If it had not sold the receivables it would have to have taken out a short-term loan. The effect of selling the receivables is: Accounts Receivable Turnover Current Ratio A) higher lower B) higher higher C) lower lower D) lower higher

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Question 2

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A

The following information can be found in ABC Co.'s financial statements. Finished Goods \ 251,690 \ 195,360 Work in Process and purchased parts 245,123 17,377 Raw Materials 136,568 106,789 633,381 488,581 Less excess of current cost over stated LIFO value \ 570,430 \ 417,395 Retained earnings \3 ,526,000 \ 3,159,000 Assume a tax rate of 35%. Inventories valued using the LIFO method represented approximately 80% of consolidated inventories. -What will be the retained earnings for 2006 if ABC used FIFO valuation?

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Question 3

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B

A write-down in asset value is:

(Multiple Choice)

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Question 4

All plant, property and equipment must be depreciated over a period not to exceed forty years.

(True/False)

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Question 5

Which of the following would rarely be classified as a current asset?

(Multiple Choice)

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Question 6

Depreciation is a method for matching costs of long-lived assets to revenues generated from their use.

(True/False)

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Question 7

If the write-off is occurring because of an industrywide downturn or market crash, it is useful to compare the percentages of the write-off with those taken by other companies in the industry.

(True/False)

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Question 8

The cost of software developed for internal use should be capitalized only after it has reached technological feasibility.

(True/False)

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Question 9

Forming a special purpose entity (SPE) is a common way companies securitize receivables.

(True/False)

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Question 10

The cash operating cycle is the amount of days between making a sale and collecting money from customers.

(True/False)

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Question 11

Which of the following is incorrect with respect to recognized goodwill on the balance sheet?

(Multiple Choice)

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Question 12

With respect to LIFO, which of the following is incorrect?

(Multiple Choice)

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Question 13

Which of the following is not an analysis issue arising with impairment?

(Multiple Choice)

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Question 14

Look Good Corporation has current assets of $1.1M and current liabilities of $1M. It is close to year-end and it would like to increase its current ratio. Which of the following will achieve this?

(Multiple Choice)

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Question 15

The following information can be found in Manufacturer Company's financial statements. COGS \ 2,500,000 \ 2,000,000 Inventory \ 180,000 \ 140,000 Net Income \ 125,000 \ 100,000 Retained \ 500,000 \ 400,000 Earnings LIFO Reserve \ 40,000 \ 30,000 Tax Rate 40\% 40\% -If Manufacturer used FIFO its retained earnings as of the end of fiscal 2006 would be:

(Multiple Choice)

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Question 16

Prepaid expenses are usually classified as current assets.

(True/False)

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Question 17

If a company factors its accounts receivables, this will have the effect of making its cash cycle appear shorter.

(True/False)

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Question 18

The following information can be found in Manufacturer Company's financial statements. COGS \ 2,500,000 \ 2,000,000 Inventory \ 180,000 \ 140,000 Net Income \ 125,000 \ 100,000 Retained \ 500,000 \ 400,000 Earnings LIFO Reserve \ 40,000 \ 30,000 Tax Rate 40\% 40\% -If Manufacturer used FIFO its Net Income for fiscal 2006 would be:

(Multiple Choice)

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Question 19

Solvency refers to the ability of a company to meet its short-term obligations.

(True/False)

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Question 20

A write-down in asset value is:

All plant, property and equipment must be depreciated over a period not to exceed forty years.

Which of the following would rarely be classified as a current asset?

Depreciation is a method for matching costs of long-lived assets to revenues generated from their use.

If the write-off is occurring because of an industrywide downturn or market crash, it is useful to compare the percentages of the write-off with those taken by other companies in the industry.

The cost of software developed for internal use should be capitalized only after it has reached technological feasibility.

Forming a special purpose entity (SPE) is a common way companies securitize receivables.

The cash operating cycle is the amount of days between making a sale and collecting money from customers.

Which of the following is incorrect with respect to recognized goodwill on the balance sheet?

With respect to LIFO, which of the following is incorrect?

Which of the following is not an analysis issue arising with impairment?

Look Good Corporation has current assets of $1.1M and current liabilities of $1M. It is close to year-end and it would like to increase its current ratio. Which of the following will achieve this?

Prepaid expenses are usually classified as current assets.

If a company factors its accounts receivables, this will have the effect of making its cash cycle appear shorter.

Solvency refers to the ability of a company to meet its short-term obligations.

Overview of Financial Statement Analysis

Financial Reporting and Analysis

Analyzing Financing Activities

Analyzing Investing Activities: Intercorporate Investments

Analyzing Operating Activities

Cash Flow Analysis

Return on Invested Capital and Profitability Analysis

Prospective Analysis

Credit Analysis

Equity Analysis and Valuation

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