Department of Education

Republic of the Philippines

NATIONAL CAPITAL REGION

Fundamentals Of Accountancy,
Business And Management II

ANALYSIS AND INTERPRETATION OF FINANCIAL STATEMENTS

First Quarter - Module 5

Writer: Sandra H. Gali

 FUNDAMENTALS OF ACCOUNTANCY, BUSINESS AND MANAGEMENT II

This is an 80-hour course offered in the ABM strand in the Senior High School. This course
deals with the preparation and analysis of financial statements of a service business and
merchandising business using horizontal and vertical analyses and financial ratios. Knowledge
and skills in the analysis of financial statements will aid the future entrepreneurs in making
sound economic decisions.

CONTENT

This is a self-instructional module for Senior High School (SHS) learners in the Department
of Education - Division of City Schools Las Piñas – Las Piñas National Senior High Schools, Main
Campus under the Alternative Delivery Mode or ADM. There are exercises to be accomplished in
this particular module which are expected to be submitted to the faculty or teacher during the
face-to-face encounter in field or in classroom sessions or other means of submission.

The exercises provided give emphasis in bridging the gap between theory and practice.
SHS learners are expected to analyze the concepts presented and apply these eventually in their
work, for those who are already have jobs. Before answering the exercises, the learners should
have fully understood the concepts presented. No one could stop the learners to read the
modules as many times as they desire.

Email:
[email protected]
 FUNDAMENTALS OF ACCOUNTANCY, BUSINESS AND MANAGEMENT II

HOW TO USE THIS MODULE

Before starting the module, I want you to set aside other tasks that will disturb you while
enjoying the lessons. Read the simple instructions below to successfully enjoy the
objectives of this kit. Have fun!

Follow carefully all the contents and instructions indicated in every page of this module.

Write on your notebook the concepts about the lessons. Writing enhances learning that is
important to develop and keep in mind.

Perform all the provided activities in the module. Let your facilitator/guardian assess your
answers using the answer key card. Analyze conceptually the posttest and apply what you have learned.

Enjoy studying! What is this module all about?

PARTS OF THE MODULE

Expectations These are what you will be able to know after completing the lessons in the
module
Pre-test This will measure your prior knowledge and the concepts to be mastered
throughout the lesson.
Looking Back to This section will measure what learning and skills did you understand from the
your Lesson previous lesson.
Introduction This section will give you an overview of the lesson.
Brief Discussion This section provides a brief discussion of the lesson. This aims to help you
discover and understand new concepts and skills.
Activities This is a set of activities you will perform to process what you have learned from
the lesson
Remember This section summarizes the concepts and applications of the lessons.
Check your It will verify how you learned from the lesson.
Understanding
Assessment This will measure how much you have learned from the entire module.
References This is a list of all sources used in developing this module.
Answer keys This contains answers to all activities in this module.
 FUNDAMENTALS OF ACCOUNTANCY, BUSINESS AND MANAGEMENT II
NAME: ___________________________________________ Score: ___________________

GRADE & SECTION __________________________ Teacher: ___________________

QUARTER 1 WEEK 6-7

CONTENT: ANALYSIS AND INTERPRETATION OF FINANCIAL STATEMENTS

This module is divided into three lessons, namely:

• Lesson 1 – The Concept of Measurement Tools of Financial Statements

• Lesson 2 – Horizontal and Vertical Analysis of Financial Statements
• Lesson 3 – Different Financial Ratios, Its Computation And Interpretation

This module will help you to

• define the measurement levels, namely, liquidity, solvency, stability, and

profitability; ABM_FABM12-Ig-h12
• perform vertical and horizontal analyses of financial statements of a single
proprietorship; ABM_FABM12-Ig-h13
• compute and interpret financial ratios such as current ratio, working capital, gross
profit ratio, net profit ratio, receivable turnover, inventory turnover, debt-to-
equity ratio, and the like. ABM_FABM12-Ig-h14

Let us start your journey in learning how to analyze and interpret a financial
statement. I am sure you are ready and excited to answer the Pretest. Smile and
cheer up!

Directions: Read carefully and write the letter on the box the correct answer of the
given question/sentence.

1. A financial statement that shows the performance of the company is ____________.

A. statement of financial position C. statement of changes in equity
B. income statement D. cash flow statement

2. Which of the following most likely pertains to liquidity?

A. inventory turnover C. debt-to-equity ratio
B. gross profit margin D. current ratio

3. Which of the following is the most liquid asset?

A. trading securities C. cash
B. accounts receivable D. inventory

4. Which profit margin measures the overall operating efficiency of the firm?
a. gross profit margin C. net profit margin
b. operating profit margin D. return on equity

5. Which ratio measures the overall efficiency of the firm in managing its investment in assets and in
generating return to shareholders?
A. gross profit margin and net profit margin
B. total asset turnover and operating profit margin
C. return on investment and return on equity
 FUNDAMENTALS OF ACCOUNTANCY, BUSINESS AND MANAGEMENT II
D. inventory turnover and return on investment

6. Working capital is ___________________________

A. total assets minus total liabilities
B. total noncurrent assets minus total noncurrent liabilities
C. total current assets minus total current liabilities
D. total current assets divide by total current liabilities

7. If total current assets are ₱570,000 and total assets are ₱1,210,000, what percentage of total
assets are non-current assets?
A. 60% B. 53% C. 50% D. 47%

8. Comparing the amount of a balance sheet item in one year to the amount for the same item in a
prior year is called ________________.
A. ratio analysis C. common-size analysis
B. vertical analysis D. horizontal analysis

9. The total Sales for 2018 and 2019 was ₱400,000 and ₱500,000 respectively, and the total cost of
goods sold was ₱125,000 and ₱150,000 for 2018 and 2019 respectively. What is the rate of
increase in Sales?
A. 20% B. 25% C. 27% D. 30%

10. What measurement tool is used to measure the company’s ability to generate earnings?
A. Solvency B. Profitability C. Liquidity D. Efficiency

11. If current ratio is 1.7, what is the total accounts receivable if cash is ₱30,000, inventory is
₱70,500, and accounts payable is ₱90,000?
A. ₱152,500 B. ₱100,000 C. ₱52,500 D. ₱30,000

12. If the total current assets is ₱52,500, and the total non-current assets is 80%, how much is the
total assets?
A. ₱152,500 B. ₱262,500 C. ₱312,500 D. ₱350,000

13. For its most recent year a company had Sales (all on credit) of ₱830,000 and Cost of Goods
Sold of ₱525,000. At the beginning of the year, its Accounts Receivable were ₱80,000 and
its Inventory was ₱100,000. At the end of the year, its Accounts Receivable were ₱86,000 and its
Inventory was ₱110,000. The inventory turnover ratio for the year was ________.
A. 4.8 B. 5.0 C. 7.9 D. 8.5

14. Refer on number 13, the accounts receivable turnover ratio for the year was __________.
A. 4.2 B. 6.3 C. 7.7 D. 10.0

15. Refer on number 13, on average how many days of sales were in Accounts Receivable and in
Inventory during the year?
A. 37 and 49 B. 49 and 14 C. 27 and 46 D. 37 and 73

16. Net Income is ₱206,500, tax expense is ₱88,500, interest expense is ₱3,600 and depreciation
expense is ₱7,500. What is EBITDA?
A. ₱206,500 B. ₱275,000 C. ₱300,000 D. ₱306,100

17. How are the following used in the calculation of Accounts receivable turnover?
Cash sales Credit sales
A. not used numerator
B. not used denominator
 FUNDAMENTALS OF ACCOUNTANCY, BUSINESS AND MANAGEMENT II
C. numerator denominator
D. denominator numerator

18. Inventory is ₱150. Accounts payable is ₱450. Cash and accounts receivable total ₱800. What is
the current ratio?
A. 1.78 B. 2.00 C. 2.11 D. 3.00

19. Statement 1: The higher the accounts receivable turnover indicate efficiency in the collection of
receivable.
Statement 2: The higher the average collection period indicate a better quality of receivables.
A. Only statement 1 is correct C. Both statements are correct
B. Only statement 2 is correct D. Both statements are incorrect

20. The total liabilities this year increased by 10%, how much is the total liabilities last year if the
amount of total liabilities this year is ₱165,000?
A. ₱181,500 B. ₱165,000 C. ₱152,500 D.₱150,000

Great! You finished answering the questions. You may request your facilitator to check your work.
Congratulations and keep on learning!
 FUNDAMENTALS OF ACCOUNTANCY, BUSINESS AND MANAGEMENT II
Lesson The Measurement Tools/Levels of
1 Financial Statements
Competency codes: ABM_FABM12-Ig-h12

MELC: Define the measurement levels, namely, liquidity, solvency, stability, and profitability.

Objectives: At the end of this lesson, the learners will be able to……
1. Determine the measurement tools used in analyzing financial statements;
2. Identify the different measurements tools; and
3. Discuss/define the measurement levels, namely, liquidity, solvency, stability and profitability.

LOOKING BACK TO YOUR LESSON:

Direction: Identify the following if it belongs to Operating, Investing or Financing. Write your
answer on the blank before the number.
________________1. Gain from sale of obsolete equipment.
________________2. Sales revenue.
________________3. Investment of owner.
________________4. Rent income received.
________________5. Insurance paid in advance.

MOTIVATION:
Direction: Match the following words to the pictures below. Give your own idea on what the picture is
telling. Write your answer on the provided space below the picture.
Profitability Solvency Stability Efficiency Liquidity
 FUNDAMENTALS OF ACCOUNTANCY, BUSINESS AND MANAGEMENT II
INTRODUCTION

Financial statement analysis is a process in the field of finance and accounting, that serves as a
cornerstone for understanding the financial health and performance of a company or organization. It
involves the systematic examination of a company’s financial statements, including income statement,
balance sheet, and cash flow statement to evaluate a company’s past, present, and potential future
financial performance, assess its ability to generate profits, manage debt, allocate resources efficiently,
and measure the return on investment for its shareholders. This analytical process is employed by
investors, creditors, analysts, and management to make informed decisions regarding investment,
lending, operational strategies, and corporate governance.

DISCUSSION:

The key users in financial statement analysis:

1. Owners, Investors and shareholders – includes individual and institutional investors.
• They are concerned about the company’s financial health, growth potential, and profitability.
• It helps them make investment decisions, such as buying and selling stocks, based on their
expectations of future returns.
2. Creditors and Lenders - banks and bondholders
• They are interested in the company’s ability to meet its debt obligations as they come due.
• They assess the creditworthiness of a company
• To determine the terms and interest rates for loans or bonds.
3. Management and Board of Directors – includes the owners.
• To monitor and evaluate the performance of the business.
• To make strategic decisions, allocate resources efficiently, and identify areas for improvement.
• To ensure that management is acting in the best interest of shareholders.
4. Customers and suppliers
• To assess a company’s financial stability.
• For customers, if they can provide assurance of a stable source of products or services.
• For suppliers, to evaluate the company’s ability to pay its bills promptly.
5. Prospective business partners
• To understand the financial position, including outstanding liabilities or potential risk when
considering mergers, partnerships, or acquisitions.
6. Competitors
• To gain insights into their rival’s financial strategies, strengths, and weaknesses.
7. Regulatory agencies and Tax authorities
• To ensure that companies comply with accounting standards and tax regulations.
8. Employees and Labor Unions
• To gauge the company’s financial stability, which can affect job security, wage negotiations, and
benefits.

LIQUIDITY

• is a measure of your company’s ability to cover its immediate and short-term debts and obligation
• describes how well you can cover your current liabilities using your current assets
• describes the degree to which an asset can be quickly bought or sold in the market at a price
reflecting its intrinsic value.
• means how quickly you can get your hands on your cash.
• is the ability you have to convert any asset into cash quickly.
• Importance:
o It can help your business secure the credit it needs.
o It can allow you to make smart internal decisions about your business’ finances.
 FUNDAMENTALS OF ACCOUNTANCY, BUSINESS AND MANAGEMENT II
SOLVENCY
• demonstrates a company’s ability to continue operations into the foreseeable future.
• Is the ability of a company to meet its long-term debts and financial obligations.
• means having enough assets to cover its liabilities.
• relates directly to a business’ balance sheet, which shows the relationship of assets on one side to
liabilities and equity on the other side.
• Importance:
o It can help ensure your company’s financial health
o It can help businesses evaluate their capital structure.
o It may assist business owners in determining whether they must redistribute internal and
eternal equities.

STABILITY
• is the ability to generate healthy profits, avoid heavily increasing expenses and have a better chance
of long-term success.
• making enough money from your operations to pay for your regular business expenses and feeling
that the long-term financial success of your business is secure.
• it reflects a sound financial system, which in turn is important as it reinforces trust in the system and
prevents phenomena such as a run on banks, which can destabilize an economy.
• Importance:
o It ensures you can continue to pay your business expenses and handle potential
downturns in the market as well as take advantage of opportunities to expand.
o It provides opportunities for business expansion and growth.

PROFITABILITY
• is the ability of a business to earn profit.
• Is the ability of a company to use its resources to generate revenues in excess of its expenses.
• It shows the relationship between the revenues and expenses to see how well a company is
performing and the future growth a company might have.
• Importance:
o It impacts whether a company can secure financing from a bank.
o It attracts investors to fund its operations and grow its business.

EFFICIENCY
• is the ability to do things well, successfully, and without waste.
• Is ability to avoid wasting materials, energy, efforts, money, and time in doing something or in
producing a desired result.
• The ability of the business to use its assets and liabilities to generate sales.
• measures how well a company uses its assets and liabilities internally
• Importance:
o It allows you to save time
o It allows you to save money
o It allows you to ensure accountability
o It allows you to provide the right environment.
o It helps the organization to know whether the business making the best use of its
resources and generating adequate sales from its investment in equipment and people.

Tools to analyze Financial Statement:

1. Horizontal analysis – also known as trend analysis, this method involves comparing financial data
over multiple periods to identify trends and changes.
 FUNDAMENTALS OF ACCOUNTANCY, BUSINESS AND MANAGEMENT II
Purpose: helps assess a company’s growth and performance over time.
2. Vertical Analysis – also known as common-sized financial statement analysis, this involves
expressing items on the financial statements as a percentage of total assets (for the balance sheet)
or net sales (for the income statement).
Purpose: helps in understanding the composition of assets, liabilities and expenses relative to the
size of the company.
3. Ratio analysis – involves calculating and interpreting various financial ratios
Purpose: to assess different aspects of a company’s performance such as its liquidity, efficiency of
the operation, and profitability. There are two ways:
a. trendline – calculating each ratio over a large number of reporting periods, to see if there is a
trend in the calculated information.
b. Industry comparison – calculating the same ratios for competitors in the same industry and
comparing the results across all of the companies reviewed.

Lesson Horizontal and Vertical Analysis of

2 Financial Statement
Competency codes: ABM_FABM12-Ig-h13

MELC: perform vertical and horizontal analyses of financial statements of a single proprietorship.

Objectives: At the end of this lesson, the learners will be able to….

1. Solve problems using vertical and horizontal approaches;

2. Analyze a financial statement using vertical and horizontal approaches; and
3. Perform vertical and horizontal analyses of financial statement of a single proprietorship.

LOOKING BACK TO YOUR LESSON:

Direction: Match the following measurement levels with its corresponding purpose to the
users of financial statements. Choose from the given measurement levels below. Write your
answer on the space before the number.
Profitability Solvency Stability Efficiency Liquidity

____________________1. It impacts whether a company can secure financing from a bank.

 FUNDAMENTALS OF ACCOUNTANCY, BUSINESS AND MANAGEMENT II
____________________2. It allows you to save money.
____________________3. It provides opportunities for business expansion and growth.
____________________4. It can help businesses evaluate their capital structure.
____________________5. It can allow you to make smart internal decision about your business’
finances.
____________________6. It helps the organization to know whether the business making the best use of
its resources and generating adequate sales from its investment in equipment
and people.
____________________7. It attracts investors to fund its operations and grow its business.
____________________8. It ensures you can continue to pay your business expenses and handle
potential downturns in the market as well as take advantage of opportunities
to expand.
____________________9. It may assist business owners in determining whether they must redistribute
internal and external equities
___________________10. It allows you to save time

INTRODUCTION:
Financial statement analysis is the process of analyzing a company's ABM Company
financial statements for decision-making purposes. Financial Comparative Income Statement
statements are usually compiled on a quarterly and annual basis and For the years 2023 and 2022
provide useful financial information to the user of financial 2023 2022
statement. One of the tool that we will be using as our basis of
Sales 10,000 8,000
analyzing the financial statement is the Comparative Financial
Statement. Cost of Sales (5,200) (4,000)
Gross Profit 4,800 4,000
Comparative Financial Statements is the most commonly used Operating
Exp (1,500) (1,300)
technique for analyzing financial statements. This technique
determines the profitability and financial position of a business by Net Profit 3,300 2,700
comparing financial statements for two or more time periods. Hence,
this technique is also termed as Horizontal Analysis. Typically, the
income statements and balance sheets are prepared in a comparative
form to undertake such an analysis.

DISCUSSION

HORIZONTAL ANALYSIS
Figure 1 Comparative Income Statement
• This is also known as Trend Analysis.
• It is a technique that involves the comparison of a line item (account) over a number of periods.
• It is the comparison of historical financial information over a series of reporting periods, or of
the ratios derived from this information.
• It answers the following questions:
o What is the behavior of the account over time? Is it increasing, decreasing or not
moving?
Peso change = Balance of Current Year – Balance of Prior Year
o What is the relative or percentage change in the balances of the account over time?
𝐵𝑎𝑙.𝑜𝑓 𝐶𝑌−𝐵𝑎𝑙.𝑜𝑓 𝑃𝑟𝑖𝑜𝑟 𝑌𝑒𝑎𝑟 𝑃𝑒𝑠𝑜 𝑐ℎ𝑎𝑛𝑔𝑒
Percentage change = 𝐵𝑎𝑙𝑎𝑛𝑐𝑒 𝑜𝑓 𝑃𝑟𝑖𝑜𝑟 𝑌𝑒𝑎𝑟 x100 or 𝐵𝑎𝑙𝑎𝑛𝑐𝑒 𝑜𝑓 𝑃𝑟𝑖𝑜𝑟 𝑌𝑒𝑎𝑟 x 100
• For example:
o Sales for 2022 is ₱10,000; sales for 2021 is ₱8,000 – this means that there is an increase in
peso sales of ₱2,000; and the percentage increase is 25%.
 FUNDAMENTALS OF ACCOUNTANCY, BUSINESS AND MANAGEMENT II
Peso change = ₱10,000 – ₱8,000 = ₱2,000
₱2,000
Percentage change = ₱8,000 x 100 = 25%
o Interpretation: Based on horizontal analysis, sales increased by ₱2,000 this year which
means it grew by 25% from last year.
• The baseline in calculating horizontal analysis is the amount or value from the previous period
between the two comparative amounts.

TREND ANALYSIS
• It is a technique used in technical analysis that attempts to predict future stock price movements
based on recently observed trend data.
• It is based on the idea that what has happened in the past gives traders an idea of what will
happen in the future.
• It focuses on three typical time horizons: short; intermediate; and long-term.
• It calculates the percentage change for one account over a period of time of two years or more.
To calculate follow the steps below:
o Select the base year
o For each line item, divide the amount in each non-base year by the amount in the base
year and multiply by 100.
o Example:
2017 2018 2019 2020 2021
Inventory 11,743 11,973 12,102 12,202 12,309
Current liabilities 26,737 28,259 27,670 30,347 27,945
Sales 81,000 87,000 95,000 97,000 129,000
Cost of sales 45,500 47,200 48,100 59,740 70,950
Net Income/(Loss) 3,812 5,093 7,869 (1,400) 8,130

TREND PERCENTAGE 2017 2018 2019 2020 2021

Inventory 100 102.0 103.1 103.9 104.8
Current liabilities 100 105.7 103.5 113.5 104.5
Sales 100 107.4 117.3 119.8 159.3
Cost of sales 100 103.7 105.7 131.3 155.9
Net Income/(Loss) 100 133.6 206.4 (36.7) 213.3
Interpretation:
The sales have increased by 59.3% over the five-year period while the
cost of goods sold has increased by 55.9% and the operating expenses have
increased by 57.5%. The trends look different if evaluated after four years. It
reflects an unfavorable impact on the net income because costs increased at a
faster rate than sales.

VERTICAL ANALYSIS
• This is also called common-size analysis.
• It is a technique that expresses each financial statement line item as a percentage of a base
amount.
o In the Statement of Financial Position, the base is the total assets.
𝑡ℎ𝑒 𝑎𝑚𝑜𝑢𝑛𝑡 𝑜𝑓 𝑒𝑎𝑐ℎ 𝑎𝑐𝑐𝑜𝑢𝑛𝑡 𝑖𝑛 𝑆𝐹𝑃
Formula: 𝒕𝒐𝒕𝒂𝒍 𝒂𝒔𝒔𝒆𝒕𝒔
x 100
o In income Statement, the base is the total sales or net sales.
𝑡ℎ𝑒 𝑎𝑚𝑜𝑢𝑛𝑡 𝑜𝑓 𝑒𝑎𝑐ℎ 𝑎𝑐𝑐𝑜𝑢𝑛𝑡 𝑖𝑛 𝐼𝑆
Formula: x 100
𝒕𝒐𝒕𝒂𝒍 𝒏𝒆𝒕 𝒔𝒂𝒍𝒆𝒔
• It shows the relative sizes of the different accounts on a financial statement.
• For example:
o For 2022, Sales is ₱10,000; Cost of Sales is ₱5,200; Gross profit is ₱4,800; Operating
expense is ₱1,500; and Net profit is ₱3,300.
 FUNDAMENTALS OF ACCOUNTANCY, BUSINESS AND MANAGEMENT II
o Solution:
5,200 1,500
Cost of sales = 10,000 x 100 = 52% Operating expense = 10,000 x 100 = 15%
4,800 3,300
Gross profit = 10,000 x 100 = 48% Net profit = 10,000 x 100 = 33%

o Interpretation: For 2022, the cost of sales is 52% of sales which brings the gross profit
margin of 48%. The expenses incurred from operation this year are 15% of sales,
compared last year of 16.25%. The net profit margin is 33% of sales.

COMMON-SIZE ANALYSIS
• It displays items on a financial statement as a percentage of a common base figure.
• Investors use common-size financial statements to make it easier to compare a company to its
competitors and to identify significant changes in a company’s financials.
• If total sales revenue is used as the common base figure, then other financial statement items
such as operating expenses and cost of goods sold will be compared as a percentage of total sales
revenue.
• Example:
2020 2021 2022
Sales Revenue 109,800 165,700 188,540
Cost of sales 59,215 88,003 97,796
Gross profit 50,585 77,697 90,744
Selling and Administrative expenses 24,013 36,570 42,497
Research and Development cost 6,621 9,693 11,369
Operating Income 19,951 31,433 36,878
Interest expense 483 481 490
Other income(expense) 2,130 1,756 (1,942)
Income before tax 21,598 32,709 34,446
Provision for income tax 5,380 7,970 9,559
Net Income 16,217 24,739 24,887

Common-size Income Statement

2020 2021 2022
Sales Revenue 100.00% 100.00% 100.00%
Cost of sales 53.93% 53.11% 51.87%
Gross profit 46.07% 46.89% 48.13%
Selling and Administrative expenses 21.87% 22.07% 22.54%
Research and Development cost 6.03% 5.85% 6.03%
Operating Income 18.17% 18.97% 19.56%
Interest expense 0.44% 0.29% 0.26%
Other income(expense) 1.94% 1.06% (1.03%)
Income before tax 19.67% 19.74% 18.27%
Provision for income tax 4.90% 4.81% 5.07%
Net Income 14.77% 14.93% 13.20%
Interpretation:
It is noticeable that the cost of goods sold ranges from 52% to 54% of sales
revenue yielding a gross profit of 46% to 48% of the total revenue. The research
and development expenses, though it is increasing in peso value, its percentage
based on sales remains at an average of 6%. The interest expense indicates that
its trend is decreasing based on sales. Though the sales are increasing, it is
noticeable that the net income effect based on sales is lower than in the two
previous years. This may be the effect of the other expenses incurred by the
company during 2022.
 FUNDAMENTALS OF ACCOUNTANCY, BUSINESS AND MANAGEMENT II
Lesson Different Financial Ratios,
3 Its Computation And Interpretation
Competency codes: ABM_FABM12-Ig-h14

MELC: compute and interpret financial ratios such as current ratio, working capital, gross profit ratio, net
profit ratio, receivable turnover, inventory turnover, debt-to-equity ratio, and the like.

Objectives: At the end of this less, the learners will be able to……

1. Solve problems using different financial ratios;

2. Compute and interpret different financial ratios; and
3. Perform analysis of financial statement using different financial ratios.

LOOKING BACK TO YOUR LESSON:

TRUE OR FALSE: Read each sentence carefully and determine whether the statement is true or
false. Write your answer on the blank before the number. If the statement is false, underline
the word/s that makes the statement false and write beside “false” the correct word.
___________________1. Horizontal analysis is the financial analysis technique that compares the
balances of two accounts in one reporting period.
___________________ 2. Vertical analysis compares the balances of one account over different periods.
___________________ 3. A horizontal analysis of statement of financial position data involves a
comparison of the amount on a given date with the amount for the same
statement of financial position item on a previous date.
___________________4. A common-size Statement of Financial Position presents accounts expressed as
percentage of total liabilities and equity.
___________________5. A common-size Income Statement presents accounts expressed as percentage
of net income.
___________________6. Vertical analysis is also known as perpendicular analysis.
___________________7. Horizontal analysis is also known as linear analysis,
___________________8. The baseline of computing the percentage increase or decrease in a horizontal
analysis is the prior period.
___________________9. Using vertical analysis of the income statement, a company's net income as a
percentage of net sales is 10%; therefore, the cost of goods sold as a
percentage of sales must be 90%.
__________________10. Vertical analysis is useful in making comparisons of companies of different sizes.

INTRODUCTION:

Financial ratios are created with the use of numerical values taken from financial statements to
gain meaningful information about a company. The numbers found on a company’s financial statements –
balance sheet, income statement, and cash flow statement – are used to perform quantitative
analysis and assess a company’s liquidity, leverage, growth, margins, profitability, rates of return,
valuation, and more.
 FUNDAMENTALS OF ACCOUNTANCY, BUSINESS AND MANAGEMENT II

Analysis of financial ratios serves two main purposes:

1. track the company performances
Determining individual financial ratios per period and tracking the change in their values over
time is done to spot trends that may be developing in a company. For example, an increasing debt-to-
asset ratio may indicate that a company is overburned with debt and may eventually be facing default
risk.
2. make comparative judgments regarding company performances
Comparing financial ratios with that of major competitors is done to identify whether a company
is performing better or worse than the industry average. For example, comparing the return on assets
between companies helps an analyst or investor determine which company is making the most
efficient use of its assets.

DISCUSSION:
Liquidity Ratios – these are financial ratios that measure a company’s ability to repay short-term and long-
term obligations when it comes due.
𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐴𝑠𝑠𝑒𝑡𝑠 Measures a company’s ability to pay off short-
Current Ratio
𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐿𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠 term liabilities using current assets
Measures a company’s ability to pay off short-
Quick Ratio or Acid 𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐴𝑠𝑠𝑒𝑡𝑠 − 𝐼𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑖𝑒𝑠 term liabilities using quick assets.
test Ratio 𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐿𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠 Quick assets are cash, marketable securities,
and accounts receivables.
𝐶𝑎𝑠ℎ 𝑎𝑛𝑑 𝐶𝑎𝑠ℎ 𝐸𝑞𝑢𝑖𝑣𝑎𝑙𝑒𝑛𝑡 Measures a company’s ability to pay off short-
Cash Ratio
𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐿𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠 term liabilities using cash and cash equivalent
Measures the number of times a company
Operating Cash Flow 𝑂𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝐶𝑎𝑠ℎ 𝐹𝑙𝑜𝑤
can pay off current liabilities with the cash
Ratio 𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐿𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠 generated from operation.
Denotes the amount of funds needed for
Working Capital Current Assets – Current Liabilities
meeting day-to-day operations of a concern.

Solvency Ratio – is a financial ratio used to measure the ability of a company to meet its long-term debts.

Stability Ratio - Stability analysis investigates how much debt can be supported by the company and whether
debt and equity are balanced. A company with too much debt may not have the flexibility to manage its cash
 FUNDAMENTALS OF ACCOUNTANCY, BUSINESS AND MANAGEMENT II
flow if interest rates rise or business conditions deteriorate.
𝑇𝑜𝑡𝑎𝑙 𝑙𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠 Calculates the weight of total debt and
Debt-to-Equity Ratio
𝑇𝑜𝑡𝑎𝑙 𝐸𝑞𝑢𝑖𝑡𝑦 financial liabilities against the owner’s equity
𝑇𝑜𝑡𝑎𝑙 𝑙𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠 Measures the relative amount of a company’s
Debt Ratio
𝑇𝑜𝑡𝑎𝑙 𝐴𝑠𝑠𝑒𝑡𝑠 assets that are provided from debt.
Measures the portion of the company’s
𝑇𝑜𝑡𝑎𝑙 𝐸𝑞𝑢𝑖𝑡𝑦
Equity Ratio resources that are funded by contributions of
𝑇𝑜𝑡𝑎𝑙 𝐴𝑠𝑠𝑒𝑡𝑠 its equity participants and its earnings
Shows how easily a company pays its interest
Interest Coverage 𝑂𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝑖𝑛𝑐𝑜𝑚𝑒 expenses. Operating Income is the earnings
Ratio 𝐼𝑛𝑡𝑒𝑟𝑒𝑠𝑡 𝑒𝑥𝑝𝑒𝑛𝑠𝑒 before interest, tax, depreciation and
amortization (EBITDA).

Profitability Ratios –are financial ratios that measure a company’s ability to generate income relative to
revenue, balance sheet assets, operating costs, and equity
𝐺𝑟𝑜𝑠𝑠 𝑃𝑟𝑜𝑓𝑖𝑡 Measures how profitable a company sells its
Gross Profit Margin
𝑁𝑒𝑡 𝑆𝑎𝑙𝑒𝑠 inventory.
Operating Profit 𝑂𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝐼𝑛𝑐𝑜𝑚𝑒 Measures how well the company’s operation
Margin 𝑁𝑒𝑡 𝑆𝑎𝑙𝑒𝑠 contributes to its profitability.
𝑁𝑒𝑡 𝐼𝑛𝑐𝑜𝑚𝑒 Measure how profitable a company is after all
Net Profit Margin
𝑁𝑒𝑡 𝑆𝑎𝑙𝑒𝑠 expenses are paid by the business.
𝑁𝑒𝑡 𝐼𝑛𝑐𝑜𝑚𝑒 Measure how efficiently a company is using
Return on Assets
𝑇𝑜𝑡𝑎𝑙 𝐴𝑠𝑠𝑒𝑡𝑠 its assets to generate profit.
𝑁𝑒𝑡 𝐼𝑛𝑐𝑜𝑚𝑒 Measures how efficiently a company is using
Return on Equity
𝑇𝑜𝑡𝑎𝑙 𝐸𝑞𝑢𝑖𝑡𝑦 its equity to generate profit.

Efficiency Ratios – typically used to analyze how well a company uses its assets and liabilities internally.

𝐵𝑒𝑔𝑖𝑛𝑛𝑖𝑛𝑔+𝐸𝑛𝑑𝑖𝑛𝑔
Average =
2
𝑁𝑒𝑡 𝑆𝑎𝑙𝑒𝑠 Measures of overall investment efficiency.
Asset turnover ratio It indicates how effectively the entire funds of
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑡𝑜𝑡𝑎𝑙 𝐴𝑠𝑠𝑒𝑡𝑠
a company are used.
𝑁𝑒𝑡 𝑆𝑎𝑙𝑒𝑠 Measure the efficiency of a company’s long-
Fixed Asset turnover
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝐹𝑖𝑥𝑒𝑑 𝐴𝑠𝑠𝑒𝑡𝑠 term capital investments
Measures how efficiently a company manages
its inventory.
𝐶𝑜𝑠𝑡 𝑜𝑓 𝐺𝑜𝑜𝑑𝑠 𝑆𝑜𝑙𝑑 Lower turnover indicates the company is not
Inventory Turnover managing its inventory well.
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑖𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦
Higher turnover indicates that inventory does
not remain on shelves but rather turns over
rapidly.
Ave. No. of Days 365 Indicates the average number of days an
Inventory Outstanding/ inventory is held until sold.
𝐼𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦 𝑡𝑢𝑟𝑛𝑜𝑣𝑒𝑟
Sales Period
Measures how efficient a company’s credit
policies are and indicates the level of
Accounts Receivable 𝑁𝑒𝑡 𝐶𝑟𝑒𝑑𝑖𝑡 𝑆𝑎𝑙𝑒𝑠 investment in receivables needed to maintain
Turnover 𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝐴𝑐𝑐𝑜𝑢𝑛𝑡𝑠 𝑅𝑒𝑐𝑒𝑖𝑣𝑎𝑏𝑙𝑒 the firm’s sales level.
A higher turnover is better for the company.
Low turnover indicates that a company is
 FUNDAMENTALS OF ACCOUNTANCY, BUSINESS AND MANAGEMENT II
having difficulty in collecting from its
customers.
Ave. No. of Days Indicates the average number of days a
Accounts Receivable 365 company is collecting its bills.
Outstanding/ Collection 𝐴𝑐𝑐𝑜𝑢𝑛𝑡𝑠 𝑅𝑒𝑐𝑒𝑖𝑣𝑎𝑏𝑙𝑒 𝑡𝑢𝑟𝑛𝑜𝑣𝑒𝑟
Period
Measure how a company manages its own
𝑁𝑒𝑡 𝐶𝑟𝑒𝑑𝑖𝑡 𝑃𝑢𝑟𝑐ℎ𝑎𝑠𝑒 bills.
Accounts Payable
High turnover indicates that the firm is not
Turnover 𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝐴𝑐𝑐𝑜𝑢𝑛𝑡𝑠 𝑃𝑎𝑦𝑎𝑏𝑙𝑒
managing its bills very well.
Low turnover is better.
No. of Days Accounts 365 Indicates the average number of days in
Payable Outstanding/ which a company pays its suppliers.
𝐴𝑐𝑐𝑜𝑢𝑛𝑡𝑠 𝑃𝑎𝑦𝑎𝑏𝑙𝑒 𝑡𝑢𝑟𝑛𝑜𝑣𝑒𝑟
Payment Period
Reflects the amount of operating capital
𝑁𝑒𝑡 𝑆𝑎𝑙𝑒𝑠 needed to maintain a given level of sales.
Working Capital
High turnover is better. It indicates that a
Turnover 𝐴𝑐𝑐𝑜𝑢𝑛𝑡𝑠 𝑊𝑜𝑟𝑘𝑖𝑛𝑔 𝐶𝑎𝑝𝑖𝑡𝑎𝑙
company is utilizing its working capital very
efficiently.
shows the length of time it takes a company
Average Sales Period to buy inventory, convert it into sales and
Operating Cycle
+ Average Collection period collect the "accounts receivable" revenue
from the sales
Shows the average time it takes for a
Operating cycle company to convert its investment in
Cash Conversion Cycle
– Average Payment Period inventory to cash and pay bills without
incurring penalties
To illustrate: Hyper Company is asking your help to analyze and interpret its financial statements. The
Comparative Statement of Financial Position and Income Statement were provided below. Determine the
liquidity, solvency, profitability and efficiency of the company for the year 2019.

Hyper Company Hyper Company

Comparative Statement of Financial Position Comparative Income Statement
For the years 2022 and 2021 For the years 2022 and 2021
2022 2021
2022 2021 Sales Revenue ₱538,586 ₱492,185
Cash and Cash Equivalents ₱47,031 ₱51,986 Cost of Goods sold 137,479 125,486
Accounts Receivable, net 66,011 56,517 Gross profit 401,107 366,699
Merchandise inventory 65,306 55,548 Selling&Administrative Expense 340,646 312,715
Prepaid Expenses 17,374 22,881 Operating Income 60,461 53,984
Total Current Assets 195,722 186,932 Interest Expense 1,182 2,304
Property, Plant & Equipment 591,053 550,166 Net Income ₱59,279 ₱51,680
Intangible Assets 74,520 72,191
Total Assets ₱861,295 ₱809,289

Current Liabilities ₱127,305 ₱112,370

Long-term Liabilities 57,758 54,154
Total Liabilities 185,063 166,524
Hyper, Capital 676,232 642,765
Total Liabilities & Equity ₱861,295 ₱809,289
 FUNDAMENTALS OF ACCOUNTANCY, BUSINESS AND MANAGEMENT II
Solution:
LIQUIDITY:
𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐴𝑠𝑠𝑒𝑡𝑠 195,722
Current Ratio = 1.54
𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐿𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠 127,305
𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐴𝑠𝑠𝑒𝑡𝑠 − 𝐼𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑖𝑒𝑠 195,722−65,306
Quick Ratio or Acid test Ratio = 1.02
𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐿𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠 127,305
𝐶𝑎𝑠ℎ 𝑎𝑛𝑑 𝐶𝑎𝑠ℎ 𝐸𝑞𝑢𝑖𝑣𝑎𝑙𝑒𝑛𝑡 47,031
Cash Ratio = 0.37
𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐿𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠 127,305
𝑂𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝐶𝑎𝑠ℎ 𝐹𝑙𝑜𝑤 60,461
Operating Cash flow Ratio = 0.47
𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐿𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠 127,305
Working Capital Current Assets – Current Liabilities 195,722-127,305 = 68,417
Interpretation:
In terms of liquidity, Hyper Company’s current ratio of 1.54 indicates that it has available ₱1.54 current
assets to settle every ₱1 current liability. Its quick ratio of 1.02 indicates that the company has available
₱1.02 quick asset to settle every ₱1 current liability. However, the available cash and cash equivalent as well
as the cash generated from operation is not enough to pay off its current dues as shown by the cash ratio
and operating cash flow ratio of below 1. It is noteworthy that the working capital has a positive figure of
₱68,417 which indicates that the fund can still meet the day to day operation of the company. Therefore, the
status of the company is liquid.

SOLVENCY
𝑇𝑜𝑡𝑎𝑙 𝑙𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠 185,063
Debt-to-Equity Ratio = 0.27
𝑇𝑜𝑡𝑎𝑙 𝐸𝑞𝑢𝑖𝑡𝑦 676,232

𝑇𝑜𝑡𝑎𝑙 𝑙𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠 185,063

Debt Ratio = 0.21
861,295
𝑇𝑜𝑡𝑎𝑙 𝐴𝑠𝑠𝑒𝑡𝑠
𝑇𝑜𝑡𝑎𝑙 𝐸𝑞𝑢𝑖𝑡𝑦 676,232
Equity Ratio = 0.79
861,295
𝑇𝑜𝑡𝑎𝑙 𝐴𝑠𝑠𝑒𝑡𝑠
Interest Coverage 𝑂𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝑖𝑛𝑐𝑜𝑚𝑒 60,461
= 51.15
Ratio 𝐼𝑛𝑡𝑒𝑟𝑒𝑠𝑡 𝑒𝑥𝑝𝑒𝑛𝑠𝑒 1,182

Interpretation:
In terms of Solvency, the company has a relatively low level of financial risk as shown in the debt-to-equity
ratio of 0.27. This indicates that only 27% of the owner’s fund are debt. This means that the company is using
a smaller amount of debt to finance its operation and investments. This is supported by the debt ratio of 0.21
which indicates that only 21% of the total assets are financed by creditors and majority are financed by the
owners as shown in the equity ratio of 0.79. the interest coverage ratios shows that the income from
operation can cover the interest expense 51 times. Therefore, it is safe to say that the company is stable and
solvent because they have a lower financial burden and have enough operating income to settle the interest.

PROFITABILITY
𝐺𝑟𝑜𝑠𝑠 𝑃𝑟𝑜𝑓𝑖𝑡 401,107
x100 = 74.47%
Gross Profit Margin 538,586
𝑁𝑒𝑡 𝑆𝑎𝑙𝑒𝑠
60,461
Operating Profit 𝑂𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝐼𝑛𝑐𝑜𝑚𝑒 x100 = 11.23%
538,586
Margin 𝑁𝑒𝑡 𝑆𝑎𝑙𝑒𝑠
𝑁𝑒𝑡 𝐼𝑛𝑐𝑜𝑚𝑒 59,279
x100 = 11.00%
Net Profit Margin 538,586
𝑁𝑒𝑡 𝑆𝑎𝑙𝑒𝑠
𝑁𝑒𝑡 𝐼𝑛𝑐𝑜𝑚𝑒 59,279
x100 = 6.88%
Return on Assets 861,295
𝑇𝑜𝑡𝑎𝑙 𝐴𝑠𝑠𝑒𝑡𝑠
𝑁𝑒𝑡 𝐼𝑛𝑐𝑜𝑚𝑒 59,279
x100 = 8.77%
Return on Equity 676,232
𝑇𝑜𝑡𝑎𝑙 𝐸𝑞𝑢𝑖𝑡𝑦
Interpretation:
The gross profit margin of 74.47% indicates that the company is earning from selling its goods because the
mark up is more than the cost of goods sold. The operating profit margin of 11.23% indicates that the
company has a positive performance after settling all its operational expenses. While the net profit margin of
 FUNDAMENTALS OF ACCOUNTANCY, BUSINESS AND MANAGEMENT II
11.00% indicates that the company is profitable because the result of operation is still positive after
considering some expenses other than operating expenses. Moreover, the rate of return on assets, 6.88%,
and on equity 8.77% are still a good sign of profitability because still have a positive return.

EFFICIENCY
𝑁𝑒𝑡 𝑆𝑎𝑙𝑒𝑠 538,586
Asset turnover ratio = 0.64
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑡𝑜𝑡𝑎𝑙 𝐴𝑠𝑠𝑒𝑡𝑠 (861,295+809,289)/2

𝑁𝑒𝑡 𝑆𝑎𝑙𝑒𝑠 538,586

Fixed Asset turnover = 0.94
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝐹𝑖𝑥𝑒𝑑 𝐴𝑠𝑠𝑒𝑡𝑠 ( 591,053 +550,166)/2

𝐶𝑜𝑠𝑡 𝑜𝑓 𝐺𝑜𝑜𝑑𝑠 𝑆𝑜𝑙𝑑 137,479

Inventory Turnover = 2.275
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑖𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦 ( 65,306 +55,548)/2

Ave. No. of Days 365 365

Inventory Outstanding/ = 160 days
𝐼𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦 𝑡𝑢𝑟𝑛𝑜𝑣𝑒𝑟 2.275
Sales Period
Accounts Receivable 𝑁𝑒𝑡 𝐶𝑟𝑒𝑑𝑖𝑡 𝑆𝑎𝑙𝑒𝑠 538,586
= 8.792
Turnover 𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝐴𝑐𝑐𝑜𝑢𝑛𝑡𝑠 𝑅𝑒𝑐𝑒𝑖𝑣𝑎𝑏𝑙𝑒 ( 66,011 +56,517)/2

Ave. No. of Days

Accounts Receivable 365 365
= 41.5 days
Outstanding/ Collection 𝐴𝑐𝑐𝑜𝑢𝑛𝑡𝑠 𝑅𝑒𝑐𝑒𝑖𝑣𝑎𝑏𝑙𝑒 𝑡𝑢𝑟𝑛𝑜𝑣𝑒𝑟 8.792
Period
Accounts Payable 𝑇𝑜𝑡𝑎𝑙 𝑁𝑒𝑡 𝐶𝑟𝑒𝑑𝑖𝑡 𝑃𝑢𝑟𝑐ℎ𝑎𝑠𝑒 127,721
= 1.066
Turnover 𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝐴𝑐𝑐𝑜𝑢𝑛𝑡𝑠 𝑃𝑎𝑦𝑎𝑏𝑙𝑒 ( 127,305 +112,370)/2

No. of Days Accounts 365 365

Payable Outstanding/ = 342.5 days
𝐴𝑐𝑐𝑜𝑢𝑛𝑡𝑠 𝑃𝑎𝑦𝑎𝑏𝑙𝑒 𝑡𝑢𝑟𝑛𝑜𝑣𝑒𝑟 1.066
Payment Period
Working Capital 𝑇𝑜𝑡𝑎𝑙 𝑆𝑎𝑙𝑒𝑠 538,586
= 7.87
Turnover 𝐴𝑐𝑐𝑜𝑢𝑛𝑡𝑠 𝑊𝑜𝑟𝑘𝑖𝑛𝑔 𝐶𝑎𝑝𝑖𝑡𝑎𝑙 68,417

Average Sales Period 160 + 41.5 = 201.5 days

Operating Cycle
+ Average Collection period
Operating cycle 201.5 – 342.5 = -141
Cash Conversion Cycle
– Average Payment Period
Interpretation:
In terms of efficiency, the asset turnover ratio of 0.64 indicates that every peso of assets used, it generated a
revenue of ₱0.64, in addition, the fixed asset turnover of 0.94 mean that the used of every peso of fixed assets
contributed a ₱0.94 revenue. Meanwhile, the turnover of inventory is only 2.275 times in a year which has an
average of 160 days. This indicates that inventories remain on shelves for an average of 160 days before they
sell. The accounts receivable turnover of 8.792 implies that the company has been collecting its accounts
almost 8 times a year equivalent to 42 days, which means that the average credit terms to customers is 42
days. The accounts payable turnover of 1.066 is a good sign that the company is using its opportunity to use
the money from the goods to operate the business because this indicates that in a year, it takes 343 days to
pay its suppliers. Therefore, the money is used as additional working capital of the business. The working
capital turnover of 7.87 indicates that in a year, the company is utilizing its capital almost 8 times. Moreover,
it takes 202 days to convert the inventory sold into cash. Finally, the cash conversion cycle of negative 141
days indicates that it takes less than a day that a company converts its investment in inventory into cash
without incurring any penalties. This is because the payment to suppliers was delayed, therefore the cash
intended for payment is used to operate the business. At this time, the company is efficient.

LIMITATIONS OF FINANCIAL RATIO ANALYSIS:

While ratios are very important tools of financial analysis, they have some limitations, such as
✓ Historical performance may provide an indication but will not ensure future performance.
✓ A good financial analysis will be worthless if the financial statements are erroneous or fraudulent.
 FUNDAMENTALS OF ACCOUNTANCY, BUSINESS AND MANAGEMENT II
✓ Financial statements of companies may not be directly comparable if there are differences in the
accounting treatment of like transactions.
✓ Accounting ratios do not resolve any financial problems of the company. They are a means to the
end, not the actual solution.

pp
ASSESSMENT:
Before we move on to the next journey, answer the following:

Read carefully and choose the correct answer on the given question and write the letter
on the box.

1. A financial ratios that tell how well a company can pay off its short-term debts and meet unexpected
needs for cash
a. current ratio b. acid test ratio c. cash ratio d. operating cash flow ratio

2. What do the asset turnover ratios measure?

a. the liquidity of the firm’s current assets.
b. the overall efficiency and profitability of the firm.
c. the distribution of assets in which funds are invested.
d. the management’s effectiveness in generating sales from investment in assets.

3. Which of the following is not considered as quick assets?

a. cash b. inventory c. accounts receivable d. marketable securities

4. Which of the following usually is least important as a measure of short-term liquidity?

a. current ratio b. debt ratio c. cash ratio d. quick ratio

5. If a company’s current ratio declined in a year during which its quick ratio improved, which of the
following is the most likely explanation?
a. inventory is increasing
b. inventory is declining
c. receivables are being collected more rapidly than in the past
d. receivables are being collected more slowly than in the past

6. How do you interpret a current ratio of 2.1?

a. A company has available cash of P2.1 pay off every current liability.
b. A company has available asset of P2.1 to pay off every liability.
c. A company has available current asset of P2.1 to pay off every current liability.
d. A company has available quick asset of P2.1 to pay off every current liability.

7. Cost of goods sold is P195,000, inventory turnover is 6, beginning inventory is 25,000, how much is
ending inventory?
a. ₱65,000 b. ₱40,000 c. ₱32,500 d. ₱25,000

8. Which of the following measures profitability?

a. The company extends credit terms to customers.
b. The company generates a profit after consideration of cost of goods sold.
c. The company effectively employ borrowed funds and owner’s equity.
d. The company replenish inventory promptly.

9. Which of the following measurement tools indicates how efficient a company in disposing its
inventory?
 FUNDAMENTALS OF ACCOUNTANCY, BUSINESS AND MANAGEMENT II
a. accounts receivable turnover
b. accounts payable turnover
c. inventory turnover
d. operating cycle

10.Sales for the year is ₱500,000. The gross profit margin is 40%. Operating expenses is 8%. Assume that
the tax rate is 30%, how much is the net income for the year?
a. ₱40,000 b. ₱112,000 c. ₱160,000 d. ₱200,000

For item nos 11 to 14:

The following records were provided by Provident Company:
Total Assets ₱685,000
Total Liabilities ₱397,300
Net Income ₱206,500
Tax Expense ₱88,500
Interest Expense ₱3,600
Depreciation Expense ₱7,500

11. What is the Debt Ratio of the Company?

a. 40% b. 58% c. 63% d. 75%

12. What is the Equity Ratio?

a. 42% b. 62% c. 52% d. 72%

13. How much is the EBITDA?

a. ₱106,100 b. ₱306,100 c. ₱206,100 d. ₱406,100

14. What is the Debt to Equity ratio?

a. 0.20 b. 0.58 c. 0.42 d. 1.38

15. Long-term liabilities are ₱100,000 which is equivalent to 30% of the total liabilities, the owners equity
is 50% of the total assets, how much would be the total assets?

16. Current assets amount to ₱79,000 while noncurrent assets are PHP166,000. Sales amount to
PHP870,000. What is the total asset turnover?
a. 1.55 b. 2.55 c. 3.55 d. 4.55

17. A company has total assets of ₱120,000, current assets of ₱80,000, total liabilities of ₱50,000, and
current liabilities of ₱25,000. What is the current ratio?
a. 4.8 b. 3.2 c. 2.4 d. 1.6

18. How are the following used in the calculation of Accounts receivable turnover?
Cash sales Credit sales
a. not used numerator
b. not used denominator
c. numerator denominator
d. denominator numerator

19. Total Sales ₱662,500, cost of goods sold ₱265,000, what is the gross profit margin?
a. 30% b. 60% c. 40% d. 70%

20. Net Income is ₱206,500, tax expense is ₱88,500, interest expense is ₱3,600 and depreciation expense
is ₱7,500. What is EBITDA?
a. ₱206,500 b. ₱300,000 c. ₱275,000 d. ₱306,100
 FUNDAMENTALS OF ACCOUNTANCY, BUSINESS AND MANAGEMENT II

References:
Cabrera, et al. Management Accounting Concepts and Applications 2017 Edition
Guerrero et al. Advance Accounting principles and Procedural Applications 2017 Edition
Salazar, Dani Rose, Fundamentals of Accountancy, Business and Management 2
Valencia, E. G., &Roxas, G. F. (2010). Basic Accounting (3rd ed.). Mandaluyong City, Philippines: Valencia
Educational Supply
Valix et al, Financial Accounting 2017 Edition volume 1
Vera Cruz-Manuel, Zenaida, 21st Century Accounting Process, Basic Concepts and Procedures 2015 Edition
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