Question

Discussion Form

1. Explain what types of transactions are reported in the Operating, Investing, and Financing activity sections of the statement of cash flows.

2. Explain the price-earnings ratio and how it is used.

3. If you were given a set of Financial Statements, how would you go about analyzing them to learn about the company?

4. When inventory turnover is very high, what are the implications for the company with respect to its optimal acid-test ratio?

Answer 1

1. In the statement of cash flows the transactions are shown which the affect the balance of cash & equivalent to cash items due to the change in balance sheet and income statement.
In Operating activity mainly cash received from sale of goods and services, any other cash receipts in the form of royalties, commissions, fees or any other form of revenue are shown. And deductions are made in the form of cash paid to the suppliers for goods, services, raw materials and the tax payment are deducted.
In Investing activity the cash paid for acquiring fixed assets assets, projects, shares, warrants, etc. are shown. and the cash receipts from sale of any assets are shown in this section.
In Financing activity cash received from issuing shares, bonds or any other securities are shown. Also the amount received from taking loan or any other debt instrument are shown here. The cash paid for repaying those securities, bonds and dividend paid out sare shown here.
*Dividend received if a consistent case then shown in operating activity, if not then it is shown in investing activity.

2. Price earning ratio is a good way to measure that how much the market is willing to pay for the share. This ratio is drawn by comparing the current value per share to the earning per share.
For companies it is used to determine the market value of any share. And from the investors side this is used as a measure to invest in any company. A good and high price earning ratio indicates the scope for high future return from the money invested. It also indicates the scope for future growth of the company.

3. Financial statements are the report card of any company. And it is important to understand and analyze the financial statement to get idea about any company. From Income statement the overview of how much income the organisation is earning, how much is spending and what remains after spending all the expenses are got. The Balance sheet provides a picture of what is owned, what is owed, shareholders' portion and net worth of the organisation. Another important aspect is reading the financial ratios. Financial ratios tell a lot about how a company is doing, it's profit earning capacity, is it taking too much risk in debt, or does it have more potential to grow and invest, how fast the stocks are selling out and lot more. Financial ratios and cash flow statement help in this matter. All this matters are needed to be read to understand the profile and investment scope of the company.

4.   High inventory ratio indicates a quick sell out of the stocks of the company. It maybe for the high demand of the product in the market or maybe from the high discount rate. But with high inventory turnover it also to be pointed that there is profit from the sales. The good or optimal acid test ratio is 1:1. If things remains so, that indicates that there is not increase in the cash balance. That implies that although the inventory turnover is high but there is low rate of profit from the sales. Which is needed to be corrected.