109. Indicate whether each of the following statements about financial statement analysis is true or false.
_____ a) Both dividends and earnings performance are indicators of the value of a company's stock.
_____ b) The most widely quoted measure of a company's earnings performance is earnings per share.
_____ c) Earnings per share is calculated for a company's preferred stock.
_____ d) Investors need to understand that the value of a company's earnings per share is affected by its choices of accounting principles and assumptions.
_____ e) The book value per share measures the market value of a corporation's stock.
a) F b) T c) F d) T e) F
a) This is false. Dividends themselves do not necessarily indicate the value of a company’s stock. Most investors view rising stock prices as the primary reward for investing in stock. The amount of dividends paid are affected by several factors and some companies pay no dividends at all. Earnings per share, however, is perhaps the most frequently quoted measure of earnings performance.
b) This is true. The most widely quoted measure of a company’s earnings performance is earnings per share. Earnings per share is calculated for a company’s common, not preferred stock.
c) This is false. Earnings per share is calculated for a company’s common stock, not preferred stock.
d) This is true. The amounts used in calculating EPS have limitations. Many accounting choices, assumptions, and estimates underlie net income computations, including alternative depreciation methods, different inventory cost flow assumptions, and estimates of future bad debt or warranty expenses.
e) This is false. The book value per share is: (shareholders’ equity – preferred rights)/outstanding common shares. Shareholder equity is not equivalent to market value.
110. Indicate whether each of the following statements about financial statement analysis is true or false.
_____ a) The value of a corporation's price-earnings ratio indicates how optimistic investors are about a company's growth potential.
_____ b) The dividend yield ratio indicates the percentage of a company's net income that it paid out in dividends.
_____ c) Comparing financial statement ratios of companies in different industries may provide misleading results.
_____ d) Changes in general economic conditions (such as rate of inflation) can cause the values for a company's financial statement ratios to change from one year to the next.
_____ e) Conservatism produces a positive bias in a company's financial statements and thus in the ratios calculated from the financial statements.
a) T b) F c) T d) T e) F
a) This is true. In general, a higher P/E ratio indicates the market is more optimistic about a company’s growth potential than it is about a company with a lower P/E ratio. The market price of a company’s stock reflects judgments about both the company’s current results and expectations about future results.
b) This is false. Dividend yield measures dividends received as a percentage of a stock’s market price not net income.
c) This is true. Ratios of companies in different industries are not comparable without considering industry characteristics.
d) This is true. When comparing firms, analysts must be alert to changes in general economic trends from year to year. Changes in ratios from year to year could be due to changing economic conditions such as inflation.
e) This is false. Conservatism dictates recognizing estimated losses as soon as they occur, but gain recognition is almost always deferred until the gains are actually realized. Conservatism produces a negative bias in financial statements. Users should be alert to distortions it may cause in accounting information.