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Audit Exam > AUD 3.7 - Financial Raios > Flashcards

AUD 3.7 - Financial Raios Flashcards

1
Q

Auditors often perform ratio analysis when performing what procedures?

A

Analytical procedures

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2
Q

Financial indicators that distill relevant information about a business entity by quantifying the relationships among selected items on the financial statements

A

Ratios

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3
Q

The numerator has a what relationship with a ratio?

A

Direct

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4
Q

The denominator has a what relationship with the ratio?

A

Indirect

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5
Q

Measures of a firms short-term ability to pay maturing obligations:

A

Liquidity ratios

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6
Q

Measures of how effectively an enterprise is using its assets

A

Activity ratios

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7
Q

Measures the financial performance of an enterprise

A

Profitability ratios

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8
Q

Measures that are of interest to investors

A

Investor ratios

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9
Q

Measures of security for long-term creditors/investors

A

Long-term debt-paying ability ratios (coverage ratios)

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10
Q

What are some limitations of ratios?

A

They depend entirely on the reliability of the data
There are few industry benchmarks
Dissimilar business units make analysis difficult
Manipulation of ratios by management could occur

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11
Q

This is when financials are used to compare a company’s performance with the performance of other smaller or larger companies, or with its own performance over time. It is done by dividing each balance by the total assets or total revenue so that each account represents a percentage of the whole (assets or revenue)

A

Common size analysis

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12
Q

This is done by comparing against norms in an industry.

A

Analysis of industry statistics (benchmarking)

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13
Q

Used to analyze trends over time:

A

Trend analysis

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14
Q

Two types of liquidity ratio:

A

Current ratio and quick ratio

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15
Q

Formula for the current ratio:

A

Current assets/current liabilities

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16
Q

Should the current ratio be high or low?

A

The higher the better

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17
Q

Formula for the quick ratio:

A

Current assets - inventory - prepaids / current liabilities

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18
Q

Should the quick ratio be high or low?

A

The higher the better

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19
Q

What does the current ratio and quick ratio measure?

A

The company’s ability to meet short term needs

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20
Q

What are some activity ratios?

A

Accounts receivable turnover
Inventory turnover
Accounts payable turnover
Days sales in AR
Days in inventory
Days of payables outstanding
Cash conversion cycle
Asset turnover

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21
Q

What is the accounts receivable turnover ratio formula?

A

Net Sales / Average (net) AR

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22
Q

What does AR turnover measure?

A

The company’s ability to collect outstanding receivables

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23
Q

Should the AR turnover ratio be high or low?

A

The higher the better

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24
Q

What is the formula for Days sales in AR?

A

Ending AR (net) / (Sales (net)/ 365)

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25
Q

What does the days sales in AR measure?

A

The average number of days required to collect receivables

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26
Q

Should the Days sales in AR be high or low?

A

The lower the better

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27
Q

Formula to calculate inventory turnover:

A

COGS / Average inventory

28
Q

What does inventory turnover measure?

A

How quickly inventory is sold is an indicator of enterprise performance

29
Q

Should inventory be high or low?

A

The lower the better

30
Q

Formula to calculate Days in inventory:

A

Ending inventory / (COGS / 365)

31
Q

What does days in inventory measure?

A

The average number of days required to sell inventory

32
Q

Do you want days in inventory to be high or low?

A

The lower the better

33
Q

Formula to calculate AP turnover:

A

COGS / average AP

34
Q

What does AP turnover measure?

A

The number of times trade payables turn over during the year

35
Q

Should AP turnover be high or low?

A

The lower the better

36
Q

Formula to calculate days of payables outstanding:

A

Ending AP / (COGS / 365)

37
Q

What does days in payables outstanding measure?

A

The average length of time payables are outstanding before they are paid

38
Q

Formula to calculate the cash conversion cycle:

A

Days sales in AR + Days in inventory - Days of payables outstanding

39
Q

What does cash conversion cycle measure?

A

The average length of time it takes from when the company pays cash for inventory purchase to when the company receives cash from a sale

40
Q

Formula to calculate asset turnover:

A

Sales (net) / average total assets

41
Q

Should asset turnover be high or low?

A

The higher the better

42
Q

What does asset turnover measure?

A

It’s an indicator oh of a company makes effective use of its assets.

43
Q

What are some profitability ratios?

A

Profit margin
Return on assets
Return on sales
Return on equity
Gross profit margin
Operating cash flow ratio

44
Q

Formula to calculate the profit margin:

A

Net income / sales (net)

45
Q

Formula to calculate return on assets;

A

Net income / average total assets

46
Q

Formula to calculate return on sales:

A

Income before interest income/expense and taxes / sales (net)

47
Q

Formula to calculate return on equity:

A

Net income / average total equity

48
Q

Formula to calculate gross profit margin:

A

(Sales (net) - COGS) / Sales (net)

49
Q

Formula to calculate operating cash flow ratio:

A

Cash flow from operations / ending current liabilities

50
Q

What are some investor ratios?

A

Basic earnings per share
Price earnings ratio
Dividend payout

51
Q

Formula to calculate basic earnings per share:

A

Income available to common shareholders / weighted average common shares outstanding

52
Q

Formula to calculate price earnings ratio:

A

Price per share / basic earnings per share

Basic earnings per share = Income available to common shareholders / WACC

53
Q

What does the price earnings ratio measure/indicate?

A

Te investment potential of a company

54
Q

Formula for dividend payout:

A

Cash dividends / net income

55
Q

What does dividend payout measure/indicate?

A

The portion of current earnings being paid out in dividends

56
Q

What are some long-term debt paying ability ratios?

A

Debt to equity
Total debt ratio
Equity multiplier
Times interest earned

57
Q

Formula o calculate the debt to equity ratio:

A

Total liabilities / total equity

58
Q

What does debt to equity ratio measure?

A

The degree of protection to creditors in case of insolvency

59
Q

Do you want a high or low debt to equity ratio?

A

The lower the better

60
Q

Formula to calculate the total debt ratio:

A

Total liabilities / total assets

61
Q

What does the total debt ratio measure?

A

The percentage of a company’s assets that are financed by creditors

62
Q

Equity multiplies formula:

A

Total assets / total equity

63
Q

What does the equity multiplier measure?

A

A company’s leverage

64
Q

Should the equity multiplier be high or low?

A

The higher the better

65
Q

Times interest earned formula:

A

Income before interest expense and taxes / interest expense

OR

Earnings before interest and tax / interest expense

66
Q

What does the times interest earned ratio measure?

A

The ability of a company to cover interest charges

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