Noesis
Level 2 — RecallFinancial Ratios

Financial Ratios

⏱ 30 minutes40 marksprintable — key stays hidden on paper

Subject: Stock-Market | Chapter: Financial Ratios Level: 2 — Recall & Standard Problems Time Limit: 30 minutes Total Marks: 40

Instructions: Answer all questions. Show working for numerical questions. Round monetary answers to 2 decimals and ratios to 2 decimals unless stated.

Q1. (3 marks) Define Earnings Per Share (EPS) and state its formula. A company reports net income of \12{,}000{,}000,preferreddividendsof, preferred dividends of $2{,}000{,}000,andhas, and has 5{,}000{,}000$ weighted average common shares outstanding. Calculate the EPS.

Q2. (4 marks) (a) State the formula for the P/E ratio. (1) (b) A stock trades at \150withanEPSofwith an EPS of$6$. Compute its P/E. (1) (c) State two limitations of the P/E ratio. (2)

Q3. (5 marks) For a firm with the following data, compute (a) P/B, (b) P/S, and (c) EV/EBITDA:

  • Market price per share = \40,Sharesoutstanding=, Shares outstanding = 10{,}000{,}000$
  • Book value of equity = \200{,}000{,}000$
  • Revenue = \500{,}000{,}000$
  • Total debt = \150{,}000{,}000,Cash=, Cash = $50{,}000{,}000$
  • EBITDA = \80{,}000{,}000$

Q4. (5 marks) Define ROE, ROA, and ROCE. Given net income = \30{,}000{,}000,totalassets, total assets = $250{,}000{,}000,shareholders′equity, shareholders' equity = $150{,}000{,}000,EBIT, EBIT = $45{,}000{,}000,andcapitalemployed, and capital employed = $200{,}000{,}000$, compute all three.

Q5. (4 marks) A company has: Revenue = \400{,}000{,}000,COGS, COGS = $240{,}000{,}000,operatingincome, operating income = $60{,}000{,}000,netincome, net income = $40{,}000{,}000$. Compute the gross margin, operating margin, and net margin (as percentages).

Q6. (4 marks) Given current assets = \120{,}000{,}000,inventory, inventory = $45{,}000{,}000,andcurrentliabilities, and current liabilities = $60{,}000{,}000$: (a) Compute the current ratio. (2) (b) Compute the quick ratio. (2)

Q7. (4 marks) (a) State the formulas for debt-to-equity and interest coverage ratio. (2) (b) A firm has total debt = \300{,}000{,}000,equity, equity = $200{,}000{,}000,EBIT, EBIT = $60{,}000{,}000,interestexpense, interest expense = $15{,}000{,}000$. Compute both ratios. (2)

Q8. (4 marks) A company sells goods on credit. COGS = \180{,}000{,}000,averageinventory, average inventory = $30{,}000{,}000,annualcreditsales, annual credit sales = $240{,}000{,}000,averagereceivables, average receivables = $40{,}000{,}000$. Compute the inventory turnover and receivables turnover.

Q9. (4 marks) A stock pays an annual dividend of \3pershare,hasEPSofper share, has EPS of$5,andamarketpriceof, and a market price of $60$. (a) Compute the dividend payout ratio. (2) (b) Compute the dividend yield. (2)

Q10. (3 marks) (a) State the PEG ratio formula and what a PEG of 11 implies. (2) (b) A stock has P/E =24= 24 and an expected earnings growth rate of 20%20\%. Compute its PEG. (1)

Answer keyMark scheme & solutions

Q1. (3 marks)

  • Definition (1): EPS is the portion of a company's net profit allocated to each outstanding common share; it measures per-share profitability.
  • Formula (1): EPS=Net Income−Preferred DividendsWeighted Avg Common Shares\text{EPS} = \dfrac{\text{Net Income} - \text{Preferred Dividends}}{\text{Weighted Avg Common Shares}}
  • Calculation (1): \dfrac{12{,}000{,}000 - 2{,}000{,}000}{5{,}000{,}000} = \dfrac{10{,}000{,}000}{5{,}000{,}000} = \2.00$ Why: preferred dividends are removed since they don't belong to common holders.

Q2. (4 marks)

  • (a) P/E=Market Price per ShareEPS\text{P/E} = \dfrac{\text{Market Price per Share}}{\text{EPS}} (1)
  • (b) 1506=25\dfrac{150}{6} = 25 (1)
  • (c) Any two (1 each): P/E is meaningless/negative for loss-making firms; ignores growth differences; distorted by accounting/one-off items; not comparable across industries; based on backward-looking earnings.

Q3. (5 marks)

  • Market cap = 40 \times 10{,}000{,}000 = \400{,}000{,}000$
  • (a) P/B =400,000,000200,000,000=2.00= \dfrac{400{,}000{,}000}{200{,}000{,}000} = 2.00 (1.5)
  • (b) P/S =400,000,000500,000,000=0.80= \dfrac{400{,}000{,}000}{500{,}000{,}000} = 0.80 (1.5)
  • (c) EV = \text{Mkt Cap} + \text{Debt} - \text{Cash} = 400 + 150 - 50 = \500{,}000{,}000(1)∗∗EV/EBITDA∗∗(1) **EV/EBITDA**= \dfrac{500{,}000{,}000}{80{,}000{,}000} = 6.25$ (1) Why: EV reflects the total takeover cost; cash reduces it, debt adds to it.

Q4. (5 marks)

  • Definitions (2): ROE = net income ÷ shareholders' equity (return to owners); ROA = net income ÷ total assets (asset efficiency); ROCE = EBIT ÷ capital employed (return on all long-term capital).
  • ROE (1) =30,000,000150,000,000=20%= \dfrac{30{,}000{,}000}{150{,}000{,}000} = 20\%
  • ROA (1) =30,000,000250,000,000=12%= \dfrac{30{,}000{,}000}{250{,}000{,}000} = 12\%
  • ROCE (1) =45,000,000200,000,000=22.5%= \dfrac{45{,}000{,}000}{200{,}000{,}000} = 22.5\%

Q5. (4 marks)

  • Gross profit =400−240=160M= 400 - 240 = 160M; Gross margin =160400=40%= \dfrac{160}{400} = 40\% (1.5)
  • Operating margin =60400=15%= \dfrac{60}{400} = 15\% (1.5)
  • Net margin =40400=10%= \dfrac{40}{400} = 10\% (1)

Q6. (4 marks)

  • (a) Current ratio =120,000,00060,000,000=2.00= \dfrac{120{,}000{,}000}{60{,}000{,}000} = 2.00 (2)
  • (b) Quick ratio =120,000,000−45,000,00060,000,000=75,000,00060,000,000=1.25= \dfrac{120{,}000{,}000 - 45{,}000{,}000}{60{,}000{,}000} = \dfrac{75{,}000{,}000}{60{,}000{,}000} = 1.25 (2) Why: quick ratio excludes inventory as it is the least liquid current asset.

Q7. (4 marks)

  • (a) D/E=Total DebtEquity\text{D/E} = \dfrac{\text{Total Debt}}{\text{Equity}}; Interest Coverage=EBITInterest Expense\text{Interest Coverage} = \dfrac{\text{EBIT}}{\text{Interest Expense}} (2)
  • (b) D/E =300,000,000200,000,000=1.50= \dfrac{300{,}000{,}000}{200{,}000{,}000} = 1.50 (1) Interest Coverage =60,000,00015,000,000=4.00×= \dfrac{60{,}000{,}000}{15{,}000{,}000} = 4.00\times (1)

Q8. (4 marks)

  • Inventory turnover =COGSAvg Inventory=180,000,00030,000,000=6.00×= \dfrac{\text{COGS}}{\text{Avg Inventory}} = \dfrac{180{,}000{,}000}{30{,}000{,}000} = 6.00\times (2)
  • Receivables turnover =Credit SalesAvg Receivables=240,000,00040,000,000=6.00×= \dfrac{\text{Credit Sales}}{\text{Avg Receivables}} = \dfrac{240{,}000{,}000}{40{,}000{,}000} = 6.00\times (2) Why: inventory turnover uses COGS (cost basis), receivables turnover uses sales.

Q9. (4 marks)

  • (a) Payout ratio =DPSEPS=35=60%= \dfrac{\text{DPS}}{\text{EPS}} = \dfrac{3}{5} = 60\% (2)
  • (b) Dividend yield =DPSPrice=360=5%= \dfrac{\text{DPS}}{\text{Price}} = \dfrac{3}{60} = 5\% (2)

Q10. (3 marks)

  • (a) PEG=P/EAnnual EPS Growth Rate (%)\text{PEG} = \dfrac{\text{P/E}}{\text{Annual EPS Growth Rate (\%)}}. A PEG of 11 implies the stock is fairly valued relative to its growth (price fully reflects growth). (2)
  • (b) 2420=1.20\dfrac{24}{20} = 1.20 (1)
[
  {"claim":"Q1 EPS = 2.00","code":"result = ((12000000-2000000)/5000000)==2.00"},
  {"claim":"Q3 EV/EBITDA = 6.25","code":"ev=400000000+150000000-50000000; result = (ev/80000000)==6.25"},
  {"claim":"Q4 ROCE = 22.5%","code":"result = round(45000000/200000000*100,2)==22.5"},
  {"claim":"Q6 quick ratio = 1.25","code":"result = ((120000000-45000000)/60000000)==1.25"},
  {"claim":"Q10 PEG = 1.20","code":"result = round(24/20,2)==1.20"}
]