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FIN1003 Financial Reporting and Analysis > Week 6 - Accounting Information and Share Prices > Flashcards

Week 6 - Accounting Information and Share Prices Flashcards

1
Q

When buying shares listed on the stock exchange, market share price changes as a result of what factors?

A

Demand and supply:

  • Where demand is high the share price increases
  • Where demand is low the share price decreases
  • Fluctuations in share prices due to rumours
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2
Q

Does the purchase and sale of shares affect the entries in the company’s statement of financial
position?

A

Purchase and sale of shares in the secondary market only changes share ownership and does not affect entries in the company’s statement of financial position

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3
Q

What is the primary market?

A
  • Securities are sold to investors
  • Money that is raised goes to issuing firm
  • First share issue is called an Initial Public Offering (IPO)
  • Second Share issue is called a seasoned offering
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4
Q

What is the secondary market?

A
  • Investors trade securities with each other
  • Money that is raised goes to seller of securities
  • Share prices
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5
Q

Give the formula for the monetary return of share

A

Dividend income + Capital gains = Total monetary return

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6
Q

Give the formula for percentage monetary return of a share

A

Percentage Return = Dividend Yield + Capital Gains Yield

Dividend Yield = Divt+1/Pt
Capital Gains Yield = (Pt+1 - Pt)/Pt
Therefore,
Percentage Return = (Divt+1 + Pt+1 - Pt)/Pt

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7
Q

Percentage Return: Example

Calculate the percentage return given the following information:

Divt+1 = £1.85
Pt+1 = £40.33
Pt = £37
A

Percentage Return = (Divt+1 + Pt+1 - Pt)/Pt

= (1.85 + 40.33 - 37)/37 = 0.14 = 14%

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8
Q

Percentage Return: Challenge

Calculate the percentage return given the following information:

Divt+1 = £2.00
Pt+1 = £35
Pt = £25
A

Percentage Return = (Divt+1 + Pt+1 - Pt)/Pt

= (2 + 35 - 25)/25 = 0.48 = 48%

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9
Q

What is the FTSE 100?

A

• The “FOOTSIE” FTSE100

  • Financial Times Index
  • The index is calculated by taking the average share prices of the 100 largest companies on the LSE
  • The index is ‘weighted’ by market capitalisation of each stock in the index so that the largest companies have most influence on the index
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10
Q

What is the FTSE All Share?

A

The index for all listed companies

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11
Q

Is inclusion in the FTSE a good or bad thing for a company?

A

Inclusion in the index can affect a company’s share price

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12
Q

What factors influence share price?

A 
• The company itself
- Its plans
- Rumours of good news or bad news
- Rumours of takeovers
- Expectations of growth for the company
- Solvency and profitability
- Quality of management
• General economy
• Other companies in the same industry
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13
Q

Question 1 – Share Price
Which of the following can influence a company’s
share price?
A. Other companies in the same sector reporting
poor results
B. Scandal and gossip
C. A financial journalist offering share price tips to
readers
D. All of the above

A

D

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14
Q

What are the two different types of risk associated with shares?

A 
Systematic Risk (non-diversifiable risk)
Unsystematic Risk (diversifiable risk)
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15
Q

What is Systematic Risk?

A

Risk associated with the market generally

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16
Q

What is Unsystematic Risk?

A

Risk associated with the specific company

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17
Q

What is a balanced portfolio?

A

Holding a variety of shares to spread unsystematic risks

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18
Q

How do investors pursue capital gains when buying and selling shares?

A

Investors buy shares when cheap and aim to sell them

when their price increases (i.e. buy low and sell high)

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19
Q

What accounting information, when disclosed by a company, may influence its share price?

A

• The following may influence share price when a company discloses them:

  • Profit
  • Dividends
  • Net asset value
  • Cash flow
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20
Q

Accounting Information and Share Prices

• The following may influence share price when a company discloses them:

  • Profit
  • Dividends
  • Net asset value
  • Cash flow

What might this information indicate about a share?

A

Each of these can be related to the share price, which gives an indication of whether a share is ‘expensive’ or ‘cheap’ in relation to that information

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21
Q

What is Earnings Per Share (EPS)?

A
  • Calculated as Total Profit/Number of Shares

- Shows how much profit there is for each share

22
Q

What relationship does the price–earnings ratio show?

A

Shows the relationship between share price and the latest profit figures

23
Q

How can the P/E ratio be calculated?

A

Can be calculated using the Earnings Per Share and market price of one share

Price/Earnings = Share price/Earnings per share

24
Q

What is the average P/E ratio of most companies?

A

Most companies have a P/E ratio of between 5 and 20

25
Q

What does a high P/E ratio suggest about a company?

A

• A high P/E ratio suggests high expectations of growth in earnings
- Investor confidence in the existing management team
- Or, lack of confidence, but an anticipation of a takeover bid
• A high P/E ratio may signify that the previous year’s earnings were unusually low, and better results are expected

26
Q

What causes unusual P/E ratios?

A

Unusual earnings

27
Q

Cronky Voddy
plc plc

Number of ordinary shares 1 million 1 million
Current share price £2.00 £3.20
Market capitalization £2 million £3.2 million
Total profits after taxation
attributable to ord. shareholders £200,000 £160,000

Calculate the PE and EPS ratios for Cronky plc and Voddy plc

A

Market capitalization = Number of ordinary shares x Current share price

P/E ratio = Market capitalization/Total profits after tax
P/E ratio = Current share price/EPS
EPS = Total profits after tax/No. of ordinary shares

Cronky plc
P/E = 10
EPS = £0.20

Voddy plc
P/E = 20
EPS = £0.16

28
Q

Question 2 – The P/E Ratio

The following information is available for companies A, B, C and D:
A B C D
Current share
price £2.50 £3.00 £1.50 £1.75
Total profits after tax
£200,000 £225,000 £150,000 £250,000
Number of ordinary shares
1,000,000 1,250,000 750,000 500,000
Earnings Per Share ? ? ? ?

i. Calculate Earnings Per Share (Total Profits/Number of Shares)
ii. Calculate Price/Earnings Ratios
iii. Which company has the lowest price/earnings ratio?

A

bruh idk

29
Q

What does the PEG ratio stand for?

A

Price/Earnings to Growth ratio

30
Q

Give the formula for the PEG ratio

A

PEG = P/E ratio/Growth in EPS

31
Q

What does the PEG ratio take into account?

A

The price/earnings to growth (PEG) ratio takes the

company’s earnings growth into account

32
Q

What does a low PEG ratio indicate?

A

A low PEG ratio may indicate that the company’s

share is undervalued

33
Q

Question 3 – PEG Ratio

The PE ratio of Company ABC’s stock is 20

The analysts estimate that the annual growth rate of
earnings per share (EPS) is 30%

What is the company’s price/earnings to growth (PEG)
ratio?

PEG = P/E ratio/Growth in EPS

A

bruh idk

34
Q

What are dividends?

A

The amount of cash paid out to shareholders by the company

35
Q

What does the dividend yield show?

A

How much cash the shareholders get back compared to the price of the share

36
Q

Give the formula for dividend yield

A

Dividend yield = Dividend per share/Share price

37
Q

What does a high dividend yield mean?

A

The share price is low relative to dividends

38
Q

What does a low dividend yield mean?

A

The share price is high relative to dividends

39
Q

State how dividend yield and P/E ratio are closely related

A

A low dividend yield goes hand in hand with a high P/E ratio

40
Q

Question 4 – Dividend Yield
The following information is available for companies A, B, C and D:
A B C D
Current share
price £2.50 £3.00 £1.50 £1.75 Total ordinary
dividends £100,000 £100,000 £50,000 £40,000
Number of ordinary
shares 1,000,000 1,250,000 750,000 500,000
Dividend Per Share ? ? ? ?

i. Calculate Dividends Per Share
(Total Dividends/Number of Shares)
ii. Calculate Dividend Yields
iii. Which company has the lowest dividend yield?

A

bruh idk

41
Q

What is dividend cover a measure of?

A

•How likely is it that a company’s dividend will be
maintained and increased?
- Dividends not covered by profits may be insecure

42
Q

Give the formula for dividend cover

A

Dividend cover = Earnings per share/Dividends per share

43
Q 
Cronky plc
Total profits after taxation attributable to ordinary shareholders = £200,000
Total ordinary dividends = £100,000
EPS = £0.20
Dividend per share = £0.10
Voddy plc
Total profits after taxation attributable to ordinary shareholders = £160,000
Total ordinary dividends = £100,000
EPS = £0.16
Dividend per share = £0.10

Calculate the dividend cover for Cronky plc and Voddy plc

A

Dividend cover = Total profits/Total ordinary dividends
Dividend cover = EPS/Dividend per share

Cronky plc
Dividend cover = 200,000/100,000 = 2
Dividend cover = £0.20/£0.10 = 2

Voddy plc
Dividend cover = 160,000/100,000 = 1.6
Dividend cover = £0.16/£0.10 = 1.6

44
Q

Question 5 – Dividend Cover
The following information is available for companies A, B, C and D:
A B C D
Number of ordinary shares
1,000,000 1,250,000 750,000 500,000

Current share price £2.50 £3.00 £1.50 £1.75

Total profits after tax
£200,000 £225,000 £150,000 £250,000

Total ordinary dividends
£100,000 £100,000 £50,000 £40,000

i) Calculate the Dividend Cover for each company
ii) Which company has the highest dividend cover?

A

idk bruh

45
Q

What is net asset value?

A

•Net asset values
- This is the book value of equity of the company

Book Value of Equity =
Share capital + retained earnings + reserves

46
Q

Using net asset value what can we then calculate?

A

Price/Book ratio

47
Q

State the formula for the Price/Book ratio

A

Price/Book = Share price/Book value per share

48
Q

Why is the market value of a company often higher than the book value of net assets?

A

Two main reasons:
- Share prices are mainly influenced by
expectations of future profits and dividends and
expectations that the share price will rise
- The statement of financial position values may be
understated

49
Q

Question 6 – Price/Book Ratio
The following information is available for companies A, B, C and D:
A B C D
Current share
price £2.50 £3.00 £1.50 £1.75
Book Value Per
Share £2.00 £1.50 £1.85 £1.20

i) Calculate Price/Book ratios
ii) Which company has the highest P/B ratio?

A

bruh idk

50
Q

Which is a better indicator of company performance: cash flow or profit?

A

Cash flow

51
Q

Why is Cash flow a better indicator of company performance than profit?

A

• Investors pay attention to:

  • Positive cash flow from operations (does the company generate cash from its normal operations?)
  • Negative cash flow from investing (is the company investing in more non-current assets and buying other businesses?)
  • Which financing method is used to finance expansion (how any expansion has been financed and whether the company has been increasing or reducing borrowings?)
52
Q

What are some other predictors of performance?

A

• Many financial ratios can be used
• Importance of analysing trend
• Company’s turnover figure and its market capitalisation relationship
- Where a company’s market capitalisation is higher than its turnover, the shares are overpriced
• Earnings before interest, tax, depreciation and amortisation (EBITDA)
- Market capitalisation should be three times EBITDA?
• Past performance is not necessarily a predictor of future performance

FIN1003 Financial Reporting and Analysis (22 decks)

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