NSA Spying Directly Harms Internet Companies, Silicon Valley, California … And the Entire U.S. Economy Submitted by George Washington on 07/31/2013 13:47 -0400 Apple Brazil China European Union fixed France Germany Golden Goose GOOG Google Japan Nancy Pelosi national security New York Times None Obama Administration Securities and Exchange Commission SPY Transparency Twitter United Kingdom Mass surveillance by the NSA may directly harm the bottom of line of Internet companies, Silicon Valley, California … and the entire national economy. Money News points out : The company whose shares you own may be lying to you — while Uncle Sam looks the other way. Let’s step through this. I think you will see the problem. Fact 1: U.S. financial markets are the envy of the world because we have fair disclosure requirements, accounting standards and impartial courts. This is the foundation of shareholder value. The company may lose money, but they at least told you the truth. Fact 2: We now know multiple public companies, including Microsoft (MSFT), Google (GOOG), Facebook (FB) and other, gave their user information to NSA. Forget the privacy implications for a minute. Assume for the sake of argument that everything complies with U.S. law. Even if true, the businesses may still be at risk. Fact 3: All these companies operate globally. They get revenue from China, Japan, Russia, Germany, France and everywhere else. Did those governments consent to have their citizens monitored by the NSA? I think we can safely say no. Politicians in Europe are especially outraged. Citizens are angry with the United States and losing faith in American brand names. Foreign companies are already using their non-American status as a competitive advantage. Some plan to redesign networks specifically to bypass U.S. companies. By yielding to the NSA, U.S. companies likely broke laws elsewhere. They could face penalties and lose significant revenue. Right or wrong, their decisions could well have damaged the business. Securities lawyers call this “materially adverse information” and companies are required to disclose it. But they are not. Only chief executives and a handful of technical people know when companies cooperate with the NSA. If the CEO can’t even tell his own board members he has placed the company at risk, you can bet it won’t be in the annual report. The government also gives some executives immunity documents, according to Bloomberg. Immunity is unnecessary unless someone thinks they are breaking the law. So apparently, the regulators who ostensibly protect the public are actively helping the violators. This is a new and different investment landscape. Public companies are hiding important facts that place their investors at risk. If you somehow find out, you will have no recourse because regulators gave the offender a “get out of jail free” card. The regulatory structure that theoretically protects you knowingly facilitates deception that may hurt you, and then silences any witnesses. This strikes to the very heart of the U.S. financial system. Our markets have lost any legitimate claim to “full and fair disclosure.” Every prospectus, quarterly report and news release now includes an unwritten NSA asterisk. Whenever a CEO speaks, we must assume his fingers are crossed. *** Every individual investor or money manager now has a new risk factor to consider. Every disclosure by every company is in doubt. The rule of law that gave us the most-trusted markets in the world may be just an illusion. In a subsequent article, Money News wrote : Executives at publicly traded companies are lying to shareholders and probably their own boards of directors. They are exposing your investments to real, material, hard-dollar losses and not telling you. The government that allegedly protects you, Mr. Small Investor, knows all this and actually encourages more of it. Who lies? Ah, there’s the problem. We don’t know. Some people high in the government know. The CEOs themselves and a few of their tech people know. You and I don’t get to know. We just provide the money. Since we don’t know which CEOs are government-approved liars, the prudent course is to assume all CEOs are government-approved liars. We can no longer give anyone the benefit of the doubt. If you are a money manager with a fiduciary responsibility to your investors, you are hereby on notice. A CEO may sign those Securities and Exchange Commission filings where you get corporate information with his fingers crossed. Your clients pay you to know the facts and make good decisions. You’re losing that ability. For example, consider a certain U.S. telecommunications giant with worldwide operations. It connects American businesses with customers everywhere. Fast-growing emerging markets like Brazil are very important to its future growth. Thanks to data-sharing agreements with various phone providers in Brazil, this company has deep access to local phone calls. One day someone from NSA calls up the CEO and asks to tap into that stream. He says OK, tells his engineers to do it and moves on. A few years later, Edward Snowden informs Brazilian media that U.S. intelligence is capturing these data. They tell the Brazilian public. It is not happy. Nor are its politicians, who are already on edge for entirely unrelated reasons. What would you say are this company’s prospects for future business in Brazil? Your choices are “slim” and “none.” They won’t be the only ones hurt. If the U.S. government won’t identify which American company cheated its Brazilian partners, Brazil will just blame all of them. The company can kiss those growth plans good-bye. This isn’t a fantasy. It is happening right now. The legality of cooperating with the NSA within the United States is irrelevant. Immunity letters in the United States do not protect the company from liability elsewhere. *** Shouldn’t shareholders get to know when their company’s CEO takes these risks? Shouldn’t the directors who hire the CEO have a say in the matter? Yes, they should. We now know that they don’t. The trust that forms the bedrock under U.S. financial markets is crumbling. If we cannot believe CEOs when they swear to tell the truth, if companies can hide material risks, if boards cannot know what the executives they hire are actually doing, any pretense of “fair markets” is gone. When nothing is private, people and businesses soon cease to trust each other. Without trust, modern financial markets cannot function properly. If U.S. disclosure standards are no better than those in the third world, then every domestic stock is overvalued. Our “rule of law” premium is gone. This means a change for stock valuations — and it won’t be bullish. CNN reports : Officials throughout Europe, most notably French President Francois Hollande, said that NSA spying threatens trade talks. *** For the Internet companies named in reports on NSA surveillance, their bottom line is at risk because European markets are crucial for them. It is too early assess the impact on them, but the stakes are clearly huge. For example, Facebook has about 261 million active monthly European users, compared with about 195 million in the U.S. and Canada, and 22% of Apple’s net income came from Europe in the first quarter of 2013. *** In June 2011, Microsoft admitted that the United States could bypass EU privacy regulations to get vast amounts of cloud data from their European customers. Six months later, BAE Systems, based in the United Kingdom, stopped using the company’s cloud services because of this issue. *** The NSA scandal has brought tensions over spying to a boil. German prosecutors may open a criminal investigation into NSA spying. On July 3, Germany’s interior minister said that people should stop using companies like Google and Facebook if they fear the U.S. is intercepting their data. On July 4, the European Parliament condemned spying on Europeans and ordered an investigation into mass surveillance. The same day, Neelie Kroes, the EU’s chief telecom and Internet official, warned of “multi-billion euro consequences for American companies” because of U.S. spying in the cloud. *** Transparency is an important first step. Its absence only exacerbates a trust deficit that companies already had in Europe. And trust is crucial. Google’s chief legal officer recognized this on June 19 when he said, “Our business depends on the trust of our users,” during a Web chat about the NSA scandal. Some companies have been aggressive in trying to disclose more, and others have not. But unless the U.S. government loosens strictures and allows greater disclosure, all U.S. companies are likely to suffer the backlash. *** The Obama administration needs to recognize and mitigate the serious economic risks of spying while trying to rebuild its credibility on Internet freedom. The July 9 hearing of the Privacy and Civil Liberties Oversight Board is a start, but much more is needed. More disclosure about the surveillance programs, more oversight, better laws, and a process to work with allied governments to increase privacy protections would be a start. The European customers of Internet companies are not all al Qaeda or criminals, but that is essentially how U.S. surveillance efforts treat them. If this isn’t fixed, this may be the beginning of a very costly battle pitting U.S. surveillance against European business, trade, and human rights. The Atlantic notes : Most communications flow over the Internet and a very large percentage of key Internet infrastructure is in the United States. Thus, foreigners’ communications are much more likely to pass through U.S. facilities even when no U.S. person is a party to a particular message. Think about a foreigner using Gmail, or Facebook, or Twitter — billions of these communications originate elsewhere in the world but pass through, and are stored on, servers located in the U.S. *** Foreigners … comprise a growing majority of any global company’s customers . *** From the perspective of many foreign individuals and governments, global Internet companies headquartered in the U.S. are a security and privacy risk. And that means foreign governments offended by U.S. snooping are already looking for ways to make sure their citizens’ data never reaches the U.S. without privacy concessions. We can see the beginnings of this effort in the statement by the vice president of the European Commission, Viviane Reding, who called in her June 20 op-ed in the New York Times for new EU data protection rules to “ensure that E.U. citizens’ data are transferred to non-European law enforcement authorities only in situations that are well defined, exceptional and subject to judicial review.” While we cheer these limits on government access, the spying scandal also puts the U.S. government and American companies at a disadvantage in ongoing discussions with the EU about upcoming changes to its law enforcement and consumer-privacy-focused data directives, negotiations critical to the Internet industry’s ongoing operations in Europe. Even more troubling, some European activists are calling for data-storage rules to thwart the U.S. government’s surveillance advantage. The best way to keep the American government from snooping is to have foreigners’ data stored locally so that local governments – and not U.S. spy agencies — get to say when and how that data may be used. And that means nations will force U.S.-based Internet giants like Google, Facebook, and Twitter, to store their user data in-country, or will redirect users to domestic businesses that are not so easily bent to the American government’s wishes. So the first unintended consequence of mass NSA surveillance may be to diminish the power and profitability of the U.S. Internet economy. America invented the Internet , and our Internet companies are dominant around the world. The U.S. government, in its rush to spy on everybody, may end up killing our most productive golden goose. San Diego Union-Tribune writes : California and its businesses have a problem. It’s called the National Security Agency. *** The problem for California is not that the feds are collecting all of our communications. It is that the feds are (totally unapologetically) doing the same to foreigners, especially in communications with the U.S. California depends for its livelihood on people overseas — as customers, trade partners, as sources of talent. Our leading industries — shipping, tourism, technology, and entertainment — could not survive, much less prosper, without the trust and goodwill of foreigners . We are home to two of the world’s busiest container ports, and we are a leading exporter of engineering, architectural, design, financial, insurance, legal, and educational services. All of our signature companies — Apple, Google, Facebook, Oracle, Intel, Hewlett-Packard, Chevron, Disney — rely on sales and growth overseas. And our families and workplaces are full of foreigners; more than one in four of us were born abroad, and more than 50 countries have diaspora populations in California of more than 10,000. *** News that our government is collecting our foreign friends’ phone records, emails, video chats, online conversations, photos, and even stored data, tarnishes the California and American brands. *** Will tourists balk at visiting us because they fear U.S. monitoring? Will overseas business owners think twice about trading with us because they fear that their communications might be intercepted and used for commercial gain by American competitors? Most chilling of all: Will foreigners stop using the products and services of California technology and media companies — Facebook, Google, Skype, and Apple among them — that have been accomplices (they say unwillingly) to the federal surveillance? The answer to that last question: Yes. It’s already happening. Asian governments and businesses are now moving their employees and systems off Google’s Gmail and other U.S.-based systems, according to Asian news reports. German prosecutors are investigating some of the American surveillance. The issue is becoming a stumbling block in negotiations with the European Union over a new trade agreement. Technology experts are warning of a big loss of foreign business. John Dvorak, the PCMag.com columnist, wrote recently, “Our companies have billions and billions of dollars in overseas sales and none of the American companies can guarantee security from American spies. Does anyone but me think this is a problem for commerce?” *** It doesn’t help when our own U.S. Sen. Dianne Feinstein is backing the surveillance without acknowledgment of the huge potential costs to her state. It’s time for her and House Minority Leader Nancy Pelosi, who has been nearly as tone-deaf on this issue, to be forcefully reminded that protecting California industry, and the culture of openness and trust that is so vital to it, is at least as important as protecting massive government data-mining. Such reminders should take the force not merely of public statements but of law. California has a robust history of going its own way — on vehicle standards, energy efficiency, immigration, marijuana. Now is the time for another departure — this one on the privacy of communications. *** We need laws, perhaps even a state constitutional amendment, to make plain that California considers the personal data and communications of all people, be they American or foreign, to be private and worthy of protection. And see this . The bigger picture is that a country’s economic health is correlated with a strong rule of law more than any other factor . Yet America has rapidly fallen into a state of lawlessness , where fundamental rights – such as protection against mass spying by the government – have been jettisoned . The government is spying on just about everything we do . Even the government’s attempted denials of this fact confirm it . BONUS: Cheat-Sheet On Spying Average: 5 Your rating: None Average: 5 ( 18 votes)
Another WTF Chart Submitted by Tyler Durden on 04/24/2013 15:26 -0400 Reality Forget the papered over cracks of manufactured EPS 'beats', or the talking-head anecdotes of one or two companies chosen to represent the 'earnings season' visibility. This chart from SP shows the simple reality that operating earnings per share has been growing at an ever-decreasing pace since QE began . Of course, just as they were saying in June 2011, the next few quarters will see this growth re-accelerate... (h/t Brad Wishak) Average:
Four Reasons Why There Is No 'Pent-Up' Capex Spend Submitted by Tyler Durden on 12/17/2012 12:36 -0500 Morgan Stanley Consensus seems convinced (and short-term market prevarications suggest) that once we get past the 'uncertainty' of the fiscal cliff, then there will be a surge in pent-up spending from companies in the first half of 2013 . Morgan Stanley's Adam Parker snubs the mainstream meme and looks at the data - finding four significant reasons why a surge in capital spending is unlikely. From 'average' sales-to-capex ratios and manufacturing utlization to inventory levels and the overall trend in deprecation , Parker interestingly questions whether "high capital spending is ever good?" Via Morgan Stanley, The consensus sees pent-up demand for capital spending from C-level executives ready to spend , but who want clarity on a number of laws that may change in the coming year. While no doubt uncertainty has weighed on corporate decision-making, we thought it might be timely to look at capital spending trends a bit more holistically. Our conclusion – a large capital spending surge is unlikely. Is high capital spending ever good? We analyzed the correlation between changes in capex-to-sales and prior, current and future sales growth. If capital spending picked up in the energy sector following a fiscal compromise, that would likely be more bullish than it would be for telecom, as the former is historically associated with future sales growth, whereas the latter is generally a reaction to past sales growth. While we don’t see it as likely, a capex ramp in technology and materials is typically positive for higher sales later in the subsequent year, even if it causes a nearer-term sell-off in stocks. Generally, though, low capital spenders have usually been rewarded relative to their high-spending counterparts. In health care and materials, higher capital spending historically has been much better than in technology or telecommunications. Investment conclusion: Four reasons why we don’t think a large capital spending surge is likely. 1. Current and forecasted capital spending-to-sales levels: While global capital spending relative to sales is forecasted to be down in 2013, it is close to average levels over the past decade. Four of ten sectors (utilities, materials, energy, and technology) are forecasted to have above “trend” capital spending to sales for 2013, so upside surprise is not as likely here . 2. Manufacturing utilization: While utilization levels have risen sharply from the 2008 lows, recent trends have slowed. The steadiness of the recent decline and the ample room for higher utilization until capacity is tight suggest that a surge is not likely . Only six of 22 major industries have utilization levels above their long-term average. 3. Trend analysis: We analyzed the cyclical level of DA expense (above the trend level) and compared it with capital spending expectations at the industry group level. On the margin, we think staples and technology may spend more capex in 2013 than industrials and consumer discretionary stocks, relative to current expectations. 4. Inventory levels: Structurally, global inventory-to-sales has been downward sloping for years. However, over the last decade or so, inventory levels have stabilized at just less than 10% of sales. While US inventory levels seem leaner than those outside the US, a big inventory build requiring a capacity surge seems implausible. Perhaps auto components, electrical equipment, and construction could see some build, particularly relative to communications equipment. Source: Morgan Stanley Average: 4.6 Your rating: None Average: 4.6 ( 5 votes) Tweet Login or register to post comments 4840 reads Printer-friendly version Send to friend Similar Articles You Might Enjoy: David Rosenberg: "RIP Wealth Effect" Watch The NAR's Larry Yun Explain The Pending Home Sales Miss What Every Farmer And Commodity Trader Will Be Glued To Tomorrow at 830ET Is The Inexplicable American Consumer Rebelling? From Cautious Optimist To Skeptical Pessimist
Chapter 2 Introduction to Financial Statement Analysis 2.1 The Disclosure of Financial Information 1) U.S. public companies are required to file their annual financial statements with the U.S. Securities and Exchange Commission on which form? A) 10-A B) 10-K C) 10-Q D) 10-SEC Answer: B Diff: 1 Skill: Definition 2) Which of the following is not a financial statement that every public company is required to produce? A) Income Statement B) Statement of Sources and Uses of Cash C) Balance Sheet D) Statement of Stockholdersʹ Equity Answer: B Diff: 2 Skill: Conceptual 3) The third party who checks annual financial statements to ensure that they are prepared according to GAAP and verifies that the information reported is reliable is the A) NYSE Enforcement Board. B) Accounting Standards Board. C) Securities and Exchange Commission (SEC). D) auditor. Answer: D Diff: 1 Skill: Definition 4) What is the role of an auditor in financial statement analysis? Answer: Key points: 1. To ensure that the annual financial statements are prepared accurately. 2. To ensure that the annual financial statements are prepared according to GAAP. 3. To verify that the information used in preparing the annual financial statements is reliable. Diff: 2 Skill: Conceptual Chapter 2 Introduction to Financial Statement Analysis 11 5) What are the four financial statements that all public companies must produce? Answer: 1. Balance Sheet 2. Income Statement 3. Statement of Cash Flows 4. Statement of Stockholderʹs Equity Diff: 2 Skill: Conceptual 2.2 The Balance Sheet 1) Which of the following balance sheet equations is incorrect? A) Assets - Liabilities = Shareholdersʹ Equity B) Assets = Liabilities + Shareholdersʹ Equity C) Assets - Current Liabilities = Long Term Liabilities D) Assets - Current Liabilities = Long Term Liabilities + Shareholdersʹ Equity Answer: C Diff: 2 Skill: Conceptual 2) Cash is a A) Long-term asset. B) Current Asset. C) Current Liability. D) Long-term liability. Answer: B Diff: 1 Skill: Definition 3) Accounts payable is a A) Long-term liability. B) Current Asset. C) Long-term asset. D) Current Liability. Answer: D Diff: 1 Skill: Definition 12 Berk/DeMarzo · Corporate Finance 4) A 30 year mortgage loan is a A) Long-term liability. B) Current Liability. C) Current Asset. D) Long-term asset. Answer: A Diff: 1 Skill: Definition 5) Which of the following statements regarding the balance sheet is incorrect? A) The balance sheet provides a snapshots of the firmʹs financial position at a given point in time. B) The balance sheet lists the firmʹs assets and liabilities. C) The balance sheet reports stockholdersʹ equity on the right hand side. D) The balance sheet reports liabilities on the left hand side. Answer: D Diff: 2 Skill: Conceptual Chapter 2 Introduction to Financial Statement Analysis 13 Use the table for the question(s) below. Consider the following balance sheet: Luther Corporation Consolidated Balance Sheet December 31, 2006 and 2005 (in $ millions) Assets 2006 2005 Liabilities and Stockholdersʹ Equity 2006 2005 Current Assets Current Liabilities Cash 63.6 58.5 Accounts payable 87.6 73.5 Accounts receivable 55.5 39.6 Notes payable / short-term debt 10.5 9.6 Inventories 45.9 42.9 Current maturities of long-term debt 39.9 36.9 Other current assets 6.0 3.0 Other current liabilities 6.0 12.0 Total current assets 171.0 144.0 Total current liabilities 144.0 132.0 Long-Term Assets Long-Term Liabilities Land 66.6 62.1 Long-term debt 239.7 168.9 Buildings 109.5 91.5 Capital lease obligations --- --- Equipment 119.1 99.6 Total Debt 239.7 168.9 Less accumulated depreciation (56.1) (52.5) Deferred taxes 22.8 22.2 Net property, plant, and equipment 239.1 200.7 Other long-term liabilities --- --- Goodwill 60.0 -- Total long-term liabilities 262.5 191.1 Other long-term assets 63.0 42.0 Total liabilities 406.5 323.1 Total long-term assets 362.1 242.7 Stockholdersʹ Equity 126.6 63.6 Total Assets 533.1 386.7 Total liabilities and Stockholdersʹ Equity 533.1 386.7 6) What is Lutherʹs net working capital in 2005? A) $12 million B) $27 million C) $39 million D) $63.6 million Answer: A Explanation: A) NWC = current assets - current liabilities = 144 - 132 = $12 million Diff: 2 Skill: Analytical 14 Berk/DeMarzo · Corporate Finance 7) If in 2006 Luther has 10.2 million shares outstanding and these shares are trading at $16 per share, then Lutherʹs Market-to-book ratio would be closest to: A) 0.39 B) 0.76 C) 1.29 D) 2.57 Answer: C Explanation: C) MTB = market cap / book value of equity = (10.2 million × 16) / 126.6 = 163.2 / 126.6 = 1.289 Diff: 2 Skill: Analytical 8) When using the book value of equity, the debt to equity ratio for Luther in 2006 is closest to: A) 2.21 B) 2.29 C) 2.98 D) 3.03 Answer: B Explanation: B) D/E = Total Debt / Total Equity Total Debt = (notes payable (10.5) + current maturities of long-term debt (39.9) + long-term debt (239.7) = 290.1 million Total Equity = 126.6, so D/E = 290.1 / 126.6 = 2.29 Diff: 2 Skill: Analytical 9) If in 2006 Luther has 10.2 million shares outstanding and these shares are trading at $16 per share, then using the market value of equity, the debt to equity ratio for Luther in 2006 is closest to: A) 1.71 B) 1.78 C) 2.31 D) 2.35 Answer: B Explanation: B) D/E = Total Debt / Total Equity Total Debt = (notes payable (10.5) + current maturities of long-term debt (39.9) + long-term debt (239.7) = 290.1 million Total Equity = 10.2 × $16 = 163.2, so D/E = 290.1 / 163.2 = 1.78 Diff: 2 Skill: Analytical Chapter 2 Introduction to Financial Statement Analysis 15 10) If in 2006 Luther has 10.2 million shares outstanding and these shares are trading at $16 per share, then what is Lutherʹs Enterprise Value? A) -$63.3 million B) $353.1 million C) $389.7 million D) $516.9 million Answer: C Explanation: C) Enterprise value = MVE + Debt - Cash = 10.2 × $16 + 290.1 - 63.6 = 389.7 Diff: 2 Skill: Analytical 11) Lutherʹs current ratio for 2006 is closest to: A) 0.84 B) 0.87 C) 1.15 D) 1.19 Answer: D Explanation: D) current ratio = current assets / current liabilities = 171 / 144 = 1.19 Diff: 2 Skill: Analytical 12) Lutherʹs quick ratio for 2005 is closest to: A) 0.77 B) 1.31 C) 1.09 D) 0.92 Answer: A Explanation: A) quick ratio = (current assets - inventory) / current liabilities quick ratio = (144.0 - 42.9) / 132 = 0.77 Diff: 2 Skill: Analytical 16 Berk/DeMarzo · Corporate Finance 13) The change in Lutherʹs quick ratio from 2005 to 2006 is closest to: A) a decrease of .10 B) an increase of .10 C) a decrease of .15 D) an increase of .15 Answer: B Explanation: B) quick ratio in 2006 = (171.0 - 45.9)/144 = .87 quick rat io 2005 = (144.0 - 42.9) / 132 = .77 so the quick ratio increased by .87 - .77 = .10 Diff: 3 Skill: Analytical 14) If on December 31, 2005 Luther has 8 million shares outstanding trading at $15 per share., then what is Lutherʹs market-to-book ratio? Answer: market-to-book = market value of equity / book value of equity market-to-book = 8 million × $15 / $63.6 = 1.89 Diff: 2 Skill: Analytical 15) If on December 31, 2005 Luther has 8 million shares outstanding trading at $15 per share., then what is Lutherʹs enterprise value? Answer: Enterprise value = Market value of equity + Debt - Cash market value of equity = 8 million × $15 = $120 million Debt = notes payable + current maturities of long-term debt + long-term debt Debt = 9.6 + 36.9 + 168.9 = 215.4 Cash = 58.5 So, enterprise value = $120 + 215.4 - 58.5 = $276.90 Diff: 2 Skill: Analytical 2.3 The Income Statement 1) Which of the following statements regarding the income statement is incorrect? A) The income statement shows the earnings and expenses at a given point in time. B) The income statement shows the flow of earnings and expenses generated by the firm between two dates. C) The last or ʺbottomʺ line of the income statement shows the firmʹs net income. D) The first line of an income statement lists the revenues from the sales of products or services. Answer: A Diff: 2 Skill: Conceptual Chapter 2 Introduction to Financial Statement Analysis 17 2) Gross profit is calculated as A) Total sales - cost of sales - selling, general and administrative expenses - depreciation and amortization B) Total sales - cost of sales - selling, general and administrative expenses C) Total sales - cost of sales D) None of the above Answer: C Diff: 2 Skill: Conceptual 3) Which of the following is not an operating expense? A) Interest expense B) Depreciation and amortization C) Selling, general and administrative expenses D) Research and development Answer: A Diff: 2 Skill: Conceptual 18 Berk/DeMarzo · Corporate Finance Use the table for the question(s) below. Consider the following income statement and other information: Luther Corporation Consolidated Income Statement Year ended December 31 (in $ millions) 2006 2005 Total sales 610.1 578.3 Cost of sales (500.2) (481.9) Gross profit 109.9 96.4 Selling, general, and administrative expenses (40.5) (39.0) Research and development (24.6) (22.8) Depreciation and amortization (3.6) (3.3) Operating income 41.2 31.3 Other income --- --- Earnings before interest and taxes (EBIT) 41.2 31.3 Interest income (expense) (25.1) (15.8) Pretax income 16.1 15.5 Taxes (5.5) (5.3) Net income 10.6 10.2 Price per share $16 $15 Shares outstanding (millions) 10.2 8.0 Stock options outstanding (millions) 0.3 0.2 Stockholdersʹ Equity 126.6 63.6 Total Liabilities and Stockholdersʹ Equity 533.1 386.7 4) For the year ending December 31, 2006 Lutherʹs earnings per share are closest to: A) $1.01 B) $1.04 C) $1.58 D) $4.04 Answer: B Explanation: B) EPS = Net Income / Shares Outstanding = $10.6 / 10.2 = $1.04 Diff: 1 Skill: Analytical Chapter 2 Introduction to Financial Statement Analysis 19 5) Assuming that Luther has no convertible bonds outstanding, then for the year ending December 31, 2006 Lutherʹs diluted earnings per share are closest to: A) $1.01 B) $1.04 C) $1.53 D) $3.92 Answer: A Explanation: A) Diluted EPS = Net Income / (shares outstanding + options contracts outstanding + shares possible from convertible bonds outstanding) = 10.6 / (10.2 + 0.3 + 0.0) = $1.01 Diff: 2 Skill: Analytical 6) Lutherʹs Operating Margin for the year ending December 31, 2005 is closest to: A) 1.8% B) 2.7% C) 5.4% D) 16.7% Answer: C Explanation: C) Operating Margin = Operating Income / Sales OM = 31.3 / 578.3 = .054 or 5.4% Diff: 1 Skill: Analytical 7) Lutherʹs Net Profit Margin for the year ending December 31, 2005 is closest to: A) 1.8% B) 2.7% C) 5.4% D) 16.7% Answer: A Explanation: A) Net Profit Margin = Net Income / Total Sales = 10.2 / 578.3 = .018 or 1.8% Diff: 1 Skill: Analytical 20 Berk/DeMarzo · Corporate Finance 8) Lutherʹs earnings before interest, taxes, depreciation, and amortization (EBITDA) for the year ending December 31, 2006 is closest to: A) 19.7 million B) 37.6 million C) 41.2 million D) 44.8 million Answer: D Explanation: D) EBITDA = EBIT + Depreciation Amortization = 41.2 + 3.6 = $ 44.8 million Diff: 1 Skill: Analytical 9) Lutherʹs return on equity (ROE) for the year ending December 31, 2006 is closest to: A) 2.0% B) 6.5% C) 8.4% D) 12.7% Answer: C Explanation: C) ROE = Net income / shareholdersʹ equity = 10.6 / 126.6 = .084 or 8.4% Diff: 2 Skill: Analytical 10) Lutherʹs return on assets (ROA) for the year ending December 31, 2006 is closest to: A) 2.0% B) 6.5% C) 8.4% D) 12.7% Answer: A Explanation: A) ROA = Net income / total assets. This is a little tricky in that total assets arenʹt given in the problem. The student must remember the basic balance sheet equation A = L + SE. Total Liabilities and Shareholdersʹ Equity is given and this is the same as total assets. So ROA = 10.6 / 533.1 = .020 or 2.0% Diff: 3 Skill: Analytical Chapter 2 Introduction to Financial Statement Analysis 21 11) Lutherʹs price - earnings ration (P/E) for the year ending December 31, 2006 is closest to: A) 7.9 B) 10.1 C) 15.4 D) 16.0 Answer: C Explanation: C) P/E = Price / EPS or Market Cap / Earnings = (10.2 × $16) / $10.6 = 15.4 Diff: 3 Skill: Analytical 12) Calculate Lutherʹs return of equity (ROE), return of assets (ROA), and price-to-earnings ratio (P/E) for the year ending December 31, 2005. Answer: ROE = NI / shareholder equity = 10.2 / 63.6 = .160 or 16.0% ROA = NI/ total assets Here total assets are not given, but we know that Total Assets = Total Liabilities + Shareholder Equity, so ROA = 10.2 / 386.7 = .026 or 2.6% P/E = price / EPS or Market Cap / NI = (8.0 × $15) / $10.2 = 11.8 Diff: 2 Skill: Analytical 13) If Lutherʹs accounts receivable were $55.5 million in 2006, then calculate Lutherʹs accounts receivable days for 2006. Answer: Accounts receivable days = accounts receivable sales / 365 = 55.5 610.1/365 = 33.2 days Diff: 2 Skill: Analytical 2.4 The Statement of Cash Flows 1) Which of the following is not a section on the cash flow statement? A) Income generating activities B) Investing activities C) Operating activities D) Financing activities Answer: A Diff: 1 Skill: Conceptual 22 Berk/DeMarzo · Corporate Finance 2) Which of the following statements regarding net income transferred to retained earnings is correct? A) Net income = net income transferred to retained earnings - dividends B) Net income transferred to retain earnings = net income + dividends C) Net income = net income transferred to retain earnings + dividends D) Net income transferred to retain earnings - net income = dividends Answer: C Diff: 2 Skill: Conceptual 3) Which of the following is not a reason why cash flow may not equal net income? A) Amortization is added in when calculating net income. B) Changes in inventory will change cash flows but not income. C) Capital expenditures are not recorded on the income statement. D) Depreciation is deducted when calculating net income. Answer: A Diff: 1 Skill: Conceptual 4) Which of the following adjustments to net income is not correct if you are trying to calculate cash flow from operating activities? A) Add increases in accounts payable B) Add back depreciation C) Add increases in accounts receivable D) Deduct increases in inventory Answer: C Diff: 2 Skill: Conceptual 5) Which of the following adjustments is not correct if you are trying to calculate cash flow from financing activities? A) Add dividends paid B) Add any increase in long term borrowing C) Add any increase in short-term borrowing D) Add proceeds from the sale of stock Answer: A Diff: 2 Skill: Conceptual Chapter 2 Introduction to Financial Statement Analysis 23 Use the tables for the question(s) below. Consider the following financial information: Luther Corporation Consolidated Balance Sheet December 31, 2006 and 2005 (in $ millions) Assets 2006 2005 Liabilities and Stockholdersʹ Equity 2006 2005 Current Assets Current Liabilities Cash 63.6 58.5 Accounts payable 87.6 73.5 Accounts receivable 55.5 39.6 Notes payable / short-term debt 10.5 9.6 Inventories 45.9 42.9 Current maturities of long-term debt 39.9 36.9 Other current assets 6.0 3.0 Other current liabilities 6.0 12.0 Total current assets 171.0 144.0 Total current liabilities 144.0 132.0 Long-Term Assets Long-Term Liabilities Land 66.6 62.1 Long-term debt 239.7 168.9 Buildings 109.5 91.5 Capital lease obligations --- --- Equipment 119.1 99.6 Total Debt 239.7 168.9 Less accumulated depreciation (56.1) (52.5) Deferred taxes 22.8 22.2 Net property, plant, and equipment 239.1 200.7 Other long-term liabilities --- --- Goodwill 60.0 -- Total long-term liabilities 262.5 Other long-term assets 63.0 42.0 Total liabilities 406.5 323.1 Total long-term assets 362.1 242.7 Stockholdersʹ Equity 126.6 63.6 Total Assets 533.1 386.7 Total liabilities and Stockholdersʹ Equity 533.1 386.7 24 Berk/DeMarzo · Corporate Finance Luther Corporation Consolidated Income Statement Year ended December 31 (in $ millions) 2006 2005 Total sales 610.1 578.3 Cost of sales (500.2) (481.9) Gross profit 109.9 96.4 Selling, general, and administrative expenses (40.5) (39.0) Research and development (24.6) (22.8) Depreciation and amortization (3.6) (3.3) Operating income 41.2 31.3 Other income --- --- Earnings before interest and taxes (EBIT) 41.2 31.3 Interest income (expense) (25.1) (15.8) Pretax income 16.1 15.5 Taxes (5.5) (5.3) Net income 10.6 10.2 Dividends Paid 5.1 5.0 Price per Share $16 $15 Shares outstanding (millions) 10.2 8.0 Stock options outstanding (millions) 0.3 0.2 Stockholders’ Equity 126.6 63.6 Total Liabilities and Stockholders’ Equity 533.1 386.7 6) For the year ending December 31, 2006 Lutherʹs cash flow from operating activities is ? Answer: Operating cash flow = NI + Depreciation - chg in AR + chg in AP - chg in INV Operating cash flow = 10.6 + 3.6 - (55.5 - 39.6) + (87.6 - 73.5) - (45.9 - 42.9) = 9.4 Diff: 3 Skill: Analytical Chapter 2 Introduction to Financial Statement Analysis 25 7) For the year ending December 31, 2006 Lutherʹs cash flow from financing activities is? Answer: Cash flow from financing: - dividends paid (5.1) + sale or (purchase) of stock 57.5* + increase in ST borrowing 3.9 + increase in LT borrowing 70.8 Cash flow from financing 127.1 NI transferred to RE(2006) = NI - Dividends paid = 10.6 - 5.1 = 5.6 sale of stock = Equity(2006) - NI transferred to RE(2006) - Equity(2005) = 126.6 - 5.5 - 63.6 = 57.5 increase in ST borrowing = chg in notes payable + chg in current portion of LT debt = (10.5 - 9.6) + (39.9 - 36.9) = 3.9 increase in LT borrowing = 239.7 - 168.9 = 70.8 Diff: 3 Skill: Analytical 2.5 Other Financial Statement Information 1) In addition to the balance sheet, income statement, and the statement of cash flows, a firmʹs complete financial statements will include all of the following except: A) Management discussion and Analysis B) Notes to the financial statements C) Securities and Exchange Commissionʹs (SEC) commentary D) Statement of stockholdersʹ equity Answer: C Diff: 1 Skill: Conceptual 2) Off-balance sheet transactions are required to be disclosed A) in the management discussion and analysis. B) in the auditorʹs report. C) in the Securities and Exchange Commissionʹs commentary. D) in the statement of stockholdersʹ equity. Answer: A Diff: 2 Skill: Conceptual 26 Berk/DeMarzo · Corporate Finance 3) Details of acquisitions, spin-offs, leases, taxes, and risk management activities are given A) in the management discussion and analysis. B) in the Securities and Exchange Commissionʹs commentary. C) in the auditorʹs report. D) in the notes to the financial statements. Answer: D Diff: 2 Skill: Conceptual 2.6 Accounting Manipulation 1) In response to corporate scandals such as Enron and WorldCom, in 2002 congress passed a law that requires, among other things, that CEOs and CFOs certify the accuracy and appropriateness of their firmʹs financial statements and increases he penalties against them if the financial statements later prove to be fraudulent. The name of this act is? A) The Glass-Steagall Act B) The Sarbanes-Oxley Act C) The Accuracy in Accounting Act D) The McCain-Feingold Act Answer: B Diff: 1 Skill: Definition
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