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Free Test Prep CFA-Level-I Exam Questions (page: 93)

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Which of the following is/are true about liquidity ratios, all else equal?

  1. The cash ratio increases as average receivables increase.
    II. The quick ratio is a more conservative liquidity ratio than the current ratio.
    III. Liquidity ratios decrease as total liabilities decrease.
  2. III only
  3. II only
  4. I, II & III
  5. I & III

Answer(s): B

Explanation:

Receivables are not part of the cash ratio and hence, changes in receivables do not directly affect the cash ratio. The quick ratio does consider receivables in addition to cash and marketable securities but ignores all other current assets. Thus, it is more conservative than the current ratio.



Which of the following is/are true about stock dividends?

  1. stock dividends lead to a decrease in the retained earnings account.
    II. large stock dividends are valued at their par value.
    III. small stock dividends are valued at their fair market value at the time of issuance.
  2. II & III
  3. I & III
  4. I, II & III
  5. I only

Answer(s): C

Explanation:

Stock dividends are given to move retained earnings into capital accounts and hence represent a permanent capitalization of earnings. In that sense, stock dividends do not have any economic significance but are an accounting bookkeeping device. The recapitalization does have legal implicationsfor future distributions since the retained earnings account is the primary source of cash dividends and other accounts are more difficult to dip into for distributions. If the stock dividend is less than 20-25%, the additional stocks are valued at fair market value on the declaration date and the resultant amount moved from retained earnings account to the "par-value" account and the "additional paid-in capital" account. Larger stock dividends are valued at par.



Which of the following items is deducted from net income to arrive at cash flow from operations when using the indirect method?

  1. depreciation expense
  2. decrease in accounts receivable
  3. decrease in accounts payable
  4. amortization expense

Answer(s): C

Explanation:

A decrease in accounts payable is an outflow.



The peaks and valleys of the business cycle tend to be smoothed out using which inventory method?

  1. weighted average
  2. LIFO
  3. gross profit method
  4. FIFO

Answer(s): B

Explanation:

When prices are moving either upward or downward, the cost of goods sold (under LIFO) will show costs closer to the price level at the time the goods were sold. Therefore the LIFO method tends to show a smaller net income during inflationary times and a larger net income during deflationary times than other methods of inventory valuation.



Profit margin is a ratio that:

  1. shows the return on net sales
  2. is calculated as net sales divided by operating expenses
  3. yields the company's financial position at a point in time
  4. compares total assets to net sales

Answer(s): A

Explanation:

Profit margin, also called return on net sales, is calculated by dividing net income by net sales. This ratio measures the average portion of each dollar of revenue that ends up as profit.



Tracy company reports the following in its statement of cash flows:

Net Income $1,000
Depreciation and Amortization 350
Decrease (Increase) in Accounts receivable (10)
Decrease (increase) in inventory 200
Decrease (increase) in prepaid expenses 80
Increase (decrease) in trade payables (300)
Increase (decrease) in taxes payable 75
Cash Flow from operations 1,395

If Tracy shows depreciation expense of $275 in its income statement, cash paid for amortization is ________.

  1. $75
  2. $525
  3. not determinable
  4. $0

Answer(s): D

Explanation:

No cash outflow.



The following information should be used according to the provisions of SFAS 95 (Statement of Cash flows) and using the following data.

Net Income $50,000
Provision for bad debts $2,000
Increase in Inventory $1,000
Increase in accounts payable $2,000
Purchase of new equipment $15,000
Sale of equipment for $10,000 gain $20,000
Depreciation expense $5,000
Repurchase of common stock $10,000
Payment of dividend $4,000
Interest payment $3,000

What is change in cash?

  1. $39,000
  2. $45,000
  3. $46,000
  4. $49,000

Answer(s): A

Explanation:

$50,000 + (-$1,000 + $2,000 - $15,000 + $20,000 - $10,000 - $4,000 - $3,000)



Excerpts from the balance sheet of Milton Corporation as of April 30, 1997 are presented as follows:

Cash $725,000
Accounts receivable (net) $1,640,000
Inventories $2,945,000
Total current assets $5,310,000
Accounts payable $1,236,000
Accrued liabilities $831,000
Total current liabilities $2,067,000

The board of directors of Milton met on May 5, 1997 and declared a quarterly cash dividend in the amount of $200,000 ($0.50 per share). The dividend was paid on May 28, 1997 to shareholders of record as of May 15, 1997.

Assume that the only transactions that affected Milton during May 1997 were the dividend transactions. If the dividend declared by Milton had been a 10% stock dividend instead of a cash dividend, Milton's total shareholders' equity would have been

  1. unchanged by either the dividend declaration or the dividend distribution.
  2. increased by the dividend declaration and unchanged by the dividend distribution.
  3. decreased by the dividend declaration and increased by the dividend distribution.
  4. unchanged by the dividend declaration and decreased by the dividend distribution.
  5. increased by the dividend declaration and decreased by the dividend distribution.

Answer(s): A

Explanation:

The declaration and distribution of a stock dividend involves transferring an amount from retained earnings to common stock. However, the total shareholders' equity remains the same.



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