FINANCIAL STATEMENT ANALYSIS

Financial Statement Analysis. Financial Statement Analysis is the process of interpreting the information presented in the financial
statements to evaluate the financial position and performance of an entity. It can be accomplished through one or more of the following
means:
1. Vertical Analysis 2. Horizontal Analysis 3. Ratio Analysis

Horizontal Analysis. Horizontal analysis is a technique in financial statement analysis wherein a particular item is compared across
different periods of time. This is also known as trend analysis. Generally, the technique would use a base period as a starting point for
the analysis, and items are then expressed in percentage form.

Vertical Analysis. In vertical analysis, each line item is expressed as a percentage of another item (called a base figure) within the
same financial statement. Generally, income statement items are expressed as a percentage of net sales, while balance sheet items are
expressed as a percentage of total assets.

Ratio Analysis
Ratio analysis is a broader technique that utilizes relationships of items from the same financial statement, different financial statements,
and can even incorporate market measures in the calculation. This set of measures can be categorized into (1) Liquidity, (2) Solvency,
(3) Activity, (4) Profitability, (5) Market value.

Liquidity Ratios

This set of ratios measure the company’s ability to meet short term obligations. Suppose a customer would like to make a purchase on
account. One would be interested in knowing that customer’s ability to pay for the product when it payment is due. One of the means in
evaluating this ability is the calculation and interpretation of liquidity ratios.

Refer to the following problem:

Exercise 3. Liquidity Ratios. DCG Electronics has presented the following balances in its statement of financial
condition as of 31 December 2018:

Cash P 8 000 Determine the following as of the said date:

Marketable securities 3 000 1. Working capital P11,000
Accounts receivable 6 000 2. Current ratio 1.69:1.00
Inventories 5 000 3. Acid-test ratio 1.06:1.00
Prepaid expenses 5 000 4. Cash ratio. 0.69:1.00

Accounts payable 2 000

Accrued liabilities 5 000
Income tax payable 4 000
Short term notes payable 5 000

Solvency Ratios

This set of rations measure the company’s ability to meet long-term obligations and hence, survive in the long run. One would likely be
interested in the solvency ratios of long-term borrowers.

Refer to the following problem:

Exercise 4. Solvency Ratios. A. Corporation engages in the business of real estate. The information were gathered
from its balance sheet as of 31 December 2018:
Current liabilities P 7 000 Determine the following:
Noncurrent liabilities 5 000 1. Debt ratio 0.50:1.00
Shareholders’ equity 12 000 2. Debt-to-equity ratio 1.00:1.00
Total Assets 24 000 3. Times interest earned 5X

A presented the following items in the income statement for that year:

Sales P 12 000
Cost of sales (3 000)
Gross profit 9 000
Other operating expenses (4 000)
Net operating income 5 000
Interest expenses (1,000)
Net income before taxes 4 000
Income tax (30.0%) (1,200)
Net income 2,800
Activity Ratios

Activity ratios measure the efficiency of a firm based on the usage of its assets or other similar balance sheet items. This is indicative of
the management’s productive use of assets, and capability to generate revenues from its use.

Refer to the following problem:

Exercise 4. Activity ratios. Lovely Trading has presented the following condensed financial statements for the fiscal
year of 2018 (use 360 days per year):

2018 2017 2018 Determine the following ratios:

Cash P 100 P 120 Sales P 1,250 1. Total asset turnover 1.17X
AR 120 130 COGS (840) 2. Fixed asset turnover 2.27X
Invty 300 260 GP P 410
PPE 500 600 OpExp (200) 3. Inventory turnover 3x
Assets P1,020 P1,110 OpInc. P 210 4. AR turnover 10x
IntExp (10) 5. AP turnover 5.5x
AP P 150 P 170 NIBT P 200 6. Days in inventory 120 Ds
Loans 450 600 Tax (30%) (60) 7. Days in AR 36 Ds
Equity 420 340 NI P 140 8. Days in AP 65.45 Ds
L&E P1,020 P1,110 9. Operating cycle 156 Ds
10. Cash conversion cycle 90.55 Ds

Profitability and market value ratios

Profitability ratios measure the company’s ability to earn. Market value ratios, on the other hand, are used to evaluate the stock price of
a publicly-listed company. For both sets of ratios, it is generally the current and potential stockholders of the company who is interested
in calculating and interpreting them.

Refer to the following problem:

Exercise 4. Activity ratios. Loveless Trading has the following excerpts from the financial statements for the fiscal year
of 2018:

2018 2017 2018 Determine the following ratios:

Accounts payable P 120 P 110 Sales P 1,400 1. Gross profit ratio 35%
Bonds payable 800 800 COGS (910) 2. Profit margin 07%
Preferred stocks 200 200 GP P 490
(cumulative 4.5% P100 Par) OpExp (322) 3. Return on Assets 4.77%
Common stocks 300 300 OpInc P 168 4. Return on SHE 6.32%
(P10 par) IntExp (28) 5. Return on C/E 6.59%
APIC- C/S 400 400 NIBT P 140
Retained Earnings 700 602 Tax(30%) (42) 6. Earnings per Share P2.97
Total Liabilities and Equity P 2,520 P 2,412 NI P 98 7. Price to Earnings Ratio 35.07:1
8. Book value per share P46.07
Dividends in arrears amount to P18. Common stocks trade at P104 9. Market to Book Ratio 2.26:1
by yearend.

1. Short-term lenders are most interested in assessing

A. leverage. B. liquidity. C. marketability. D. profitability.

2. The ratios that are used to determine a company's short-term capacity to meet obligations are
A. Total asset turnover, times interest earned, current ratio, and account receivable turnover.
B. times interest earned, inventory turnover (times), current ratio, and accounts receivable turnover.
C. times interest earned, acid-test ratio, current ratio, and inventory turnover.
D. current ratio, acid-test ratio, accounts receivable turnover, and inventory turnover.
3. Quick ratio
A. is used to immediately determine a company's leverage and long-term debt-paying ability.
B. Pertains to cash, marketable securities, and net receivables to current liabilities.
C. is calculated by taking one line item from the income statement and another line item from the balance sheet.
D. is the same as the cash ratio except it is rounded up to the nearest whole percentage point.

4. Apepe Company had P500,000 of current assets and P180,000 of current liabilities before borrowing P120,000 from the bank with a
3-month note payable. What effect did the borrowing transaction have on Swanson Company's current ratio?
A. The ratio remained unchanged. C. The ratio decreased.
B. The change in the current ratio cannot be determined. D. The ratio increased.
5. Kenji Company has a quick ratio of 2.5 to 1. It has current liabilities of P20,000 and noncurrent assets of P35,000. If Dartmouth's
current ratio is 3.1 to 1, its inventory and prepaid expenses must be
A. P6,200. B. P12,000. C. P15,000. D. P20,000.

6. If a company has low quick ratio but a high current ratio, one can conclude that:
A. the company has a large accounts receivable balance still outstanding.
B. the company has a large inventory investment.
C. the company has accrued large amounts of current liabilities.
D. the company's financial leverage is too high.

7. Which one of the following is a financial leverage ratio?

A. accounts receivable turnover C. acid-test ratio
B. return on common equity D. debt ratio

8. Celina Company has total assets of P18,000 and total liabilities of P5,400. The company's debt-to-equity ratio is closest to
A. .32. B. 2.3. C. .30. D. .43.

9. Phony Company reported the following on its income statement:

Earnings before income taxes P210,000

Income tax expense 60,000
Net income P150,000

An analysis of the income statement revealed that interest expense was P30,000. Grant Company's times-interest-earned ratio was
A. 8. B. 7. C. 6. D. 5.

10. A successful department store would likely have

A. a low inventory turnover. C. zero sales margin.
B. a high inventory turnover. D. low volume of sales.

11. A short period for days sales outstanding indicates

A. customers are making payments fast. C. many customers do not pay their receivables to the
B. a large portion of the company's revenues are on company.
credit. D. the company's revenues have increased.

12. An transport company would most likely have

A. a high inventory turnover. C. high revenue volume.
B. a low sales margin. D. a low inventory turnover.
13. Joshua Drug Store had credit sales revenues of P600,000 and cost of sales of P200,000 for the year. The Accounts Receivable
balances at the beginning and end of the year were P35,000 and P25,000, respectively. The accounts receivable turnover ratio was
A. 17.1 times. B. 10.0 times. C. 13.3 times. D. 20.0 times.

14. The Grand Opera Department Store had net credit sales of P24,000,000 and cost of goods sold of P16,000,000 for the year. The
average inventory for the year amounted to P1,600,000. The inventory turnover ratio for the year is
A. 8.0 times. B. 14.4 times. C. 10.0 times. D. 5.0 times.

15. B company has an account receivable turnover ratio of 6x. The average accounts receivable during the period are P700,000. What
is the amount of net sales for the period?
A. P700,000 C. P116,667
B. P4,200,000 D. Cannot be determined from the information given.

16. Mike’s Sportswear Company, a retailer, had cost of goods sold of $420,000 last year. The beginning inventory balance was $31,000
and the ending inventory balance was $28,000. The company's average inventory turnover in days was closest to
A. 25.64 days.
B. 51.27 days.
C. 26.94 days.
D. 24.33 days.

Profitability Ratios and Market Ratios

17. Which of the following is true regarding the calculation of return on total assets?
A. The numerator of the ratio consists only of net profit.
B. The denominator of the ratio consists of the balance of total assets at the end of the period only.
C. The numerator of the ratio consists of net profit plus finance expense times the tax rate.
D. The numerator of the ratio consists of net profit plus finance expense times one minus the tax rate.

18. Selected financial data from High Company for the most recent year appear below:
 Sales P10,000 Interest expense P 800
Cost of goods sold P 6,000 Operating expenses P 1,800
Dividends declared and paid P 500

The income tax rate is 30 percent.

The return on sales ratio was

A. 14%. B. 40%. C. 22%. D. 10%.

19. Down Company's net income last year was P80,000 and its interest expense was P16,000. Total assets at the beginning of the year
were P520,000 and total assets at the end of the year were P630,000. The company's income tax rate was 35 percent. The company's
return on total assets for the year was closest to
A. 14.5%. B. 15.7%. C. 16.7%. D. 7.9%.

20. Ghost Company's profit last year was P130,000. The company paid preferred stock dividends of P42,000 and its average common
stockholders' equity was P1,220,000. The company's return on common stockholders' equity for the year was closest to
A. 7.9%. B. 14.1%. C. 10.7%. D. 7.2%.

21. Presented below are selected data from the financial statements of LorT Corp. for 2015 and 2014.

2015 2014
Net profit P100,000 P123,000
Cash dividends paid on preferred stock 12,000 15,000
Cash dividends paid on common stock 42,000 38,000
Weighted average number of common shares outstanding 315,000 285,000

Earnings per share is reported on the 2015 income statement as

A. P .15. B. P .18. C. P .28. D. P .32.

22. Presented below are selected data from the financial statements of KimPearl Corp. for 2017 and 2016.

2017 2016
Net profit P100,000 P123,000
Weighted average number of common shares outstanding 105,000 95,000
Market price per share of common stock at the end of the year P12.00 P10.00
Earnings per share P 4.00 P 3.66

The price-earnings ratio for 2017 is

A. 0.55.
B. 2.73.
C. 3.0.
D. 5.5.

23. Wellington Company's profit last year was P300,000. The company has 50,000 shares of common stock and 15,000 shares of
preferred stock outstanding. There was no change in the number of common or preferred shares outstanding during the year. The
company declared and paid dividends last year of P3.80 per share on the common stock and P3.40 per share on the preferred stock.
The earnings per share of common stock is closest to
A. P4.98. C. P7.02.
B. P2.20. D. P6.00.

24. Earnings per share is indicates how much

A. the firm paid as dividends for each stock.
B. the firm earned for each outstanding common and preferred stock.
C. the firm earned for each outstanding common stock.
D. cash the firm has for each share of all outstanding stock.

25. Of the profitability and market ratios, which of them would use earnings per share in its calculation?
A. Price-earnings ratio C. Dividend yield
B. Return on common stockholders' equity D. Return on sales