Common-Size Income Statements (17.5)

Question 1

A vertical common-size income statement expresses each category of the income statement as a percentage of what?

Answer 1

A vertical common-size income statement expresses each category of the income statement as a percentage of revenue

Question 2

What is the purpose for formatting an income statement into common-size?

Answer 2

The common-size format standardizes the income statement by eliminating the effects of size (small vs. large companies). This allows for comparison of income statement items over time (time-series analysis) and across firms (cross-sectional analysis).
Common-size analysis can also be used to examine a firm’s strategy.

Question 3

What’s a more useful way to express income tax expenses other than expressing as a % of revenue?

Answer 3

In most cases, expressing expenses as a percentage of revenue is appropriate. One exception is income tax expense. Tax expense is more meaningful when expressed as a percentage of pretax income. The result is known as the effective tax rate.

Question 4

What is gross profit margin, and how is it calculated

Answer 4

Gross profit margin is the ratio of gross profit (revenue minus cost of goods sold) to revenue (sales).

gross profit margin = gross profit/revenue

Question 5

What are margin ratios useful for?

Answer 5

Margin ratios can be used to measure a firm’s profitability quickly.

Question 6

How is gross profit calculated

Answer 6

gross profit = revenue - cost of goods sold

Question 7

what is net profit margin and how is it calculated

Answer 7

Net profit margin is the ratio of net income to revenue.

net profit margin = net income / revenue

Net profit margin measures the profit generated after considering all expenses.

Question 8

Describe retained earnings

Answer 8

At the end of each accounting period, the net income of the firm (less any dividends declared) is added to stockholders’ equity through an account known as retained earnings. Therefore, any transaction that affects the income statement (net income) will also affect stockholders’ equity.

Question 9

describe comprehensive income

Answer 9

Comprehensive income is the sum of net income and other comprehensive income (OCI).

Comprehensive income is a more inclusive measure that includes all changes in equity except for owner contributions and distributions.

Question 10

What is included in OCI (Other Comprehensive Income)

Answer 10

Under both U.S. GAAP and IFRS, other comprehensive income includes transactions that are not included in net income, such as:

Foreign currency translation gains and losses.
Adjustments for minimum pension liability.
Unrealized gains and losses from cash flow hedging derivatives.
Unrealized gains and losses from available-for-sale securities.

Question 11

Where is unrealized G/L on securities reported?

Answer 11

Whether unrealized gains and losses on investment securities are reported in the income statement, reported in other comprehensive income, or not reported in either, depends on how a firm has classified the securities. Interest or dividends received from securities owned by the firm are reported on the income statement.

Question 12

Describe trading securities. Where is unrealized G/L for these reported?

Answer 12

Debt securities that a firm owns, but intends to sell, are classified as trading securities, and any unrealized gains and losses during the period are reported on the income statement.

IFRS: “Securities measured at fair value” through profit and loss

Question 13

Describe held-to-maturity securities. Where is unrealized G/L for these reported?

Answer 13

Debt securities the firm does not intend to sell prior to maturity are classified as held to maturity. Securities classified as held to maturity are reported at amortized cost on the balance sheet (not fair value), Therefore, unrealized gains and losses are not reported on either the income statement or as other comprehensive income.

IFRS: “Securities measured at amortized cost”

Question 14

Describe available-for-sale securities. Where is unrealized G/L for these reported?

Answer 14

Debt securities that are not expected to be held to maturity or sold in the near term are classified as available-for-sale securities. Unrealized gains and losses on available-for-sale securities are reported as other comprehensive income, not on the income statement.

IFRS: “Securities measured at fair value through other comprehensive income”