Financial Statements Interpretation Flashcards
6 cards from real AAT L4 practice questions. Tap to flip, then mark Knew It or Still Learning — missed cards come back until you master them.
Read the first 6 Financial Statements Interpretation flashcards as text
A company's earnings per share (EPS) is 45p and its share price is £9.00. What is the price-earnings (P/E) ratio, and what does a high P/E ratio indicate?
Answer: P/E = 20; a high P/E indicates the market expects strong future earnings growth
P/E ratio = Share price ÷ EPS = £9.00 ÷ £0.45 = 20. A high P/E indicates that investors are willing to pay a premium for each pound of current earnings, reflecting expectations of strong future growth.
Under IAS 1, which of the following items must be presented 'other comprehensive income' (OCI) rather than in profit or loss?
Answer: Gains and losses on revaluation of property, plant and equipment
IAS 1 requires revaluation gains on PPE (under IAS 16) to be recognised in OCI and accumulated in a revaluation reserve. They bypass the income statement (profit or loss) unless realised.
A company's cash generated from operations is £500,000, but its profit before tax is £650,000. Which of the following explains this difference?
Answer: The company has significant non-cash income or working capital has increased, absorbing cash
When cash from operations is less than profit, the difference is caused by non-cash items (e.g., unrealised gains, deferred revenue recognised) or increases in working capital (e.g., receivables or inventory rising faster than payables).
Two companies operate in the same industry. Company A uses straight-line depreciation and Company B uses reducing balance. Company B shows lower profits in year 1 of an asset's life. When comparing performance, what adjustment is necessary?
Answer: Use EBITDA to compare, which eliminates the depreciation difference
EBITDA (Earnings Before Interest, Tax, Depreciation and Amortisation) removes the impact of depreciation differences, enabling a like-for-like comparison of operating performance between companies using different accounting policies.
A company's return on equity (ROE) is 22%, but its return on capital employed (ROCE) is only 12%. What does this indicate?
Answer: The company is generating higher returns for equity holders due to effective use of financial leverage (debt)
When ROE exceeds ROCE, financial leverage is amplifying returns to equity holders. Debt magnifies equity returns because interest is paid at a fixed rate (lower than the overall ROCE), leaving a higher proportional return for equity holders.
When comparing a manufacturing company's gross profit margin of 25% to an industry average of 35%, what potential issues should an analyst investigate?
Answer: High production costs, inefficient purchasing, excessive discounting of selling prices, or product mix issues
A gross profit margin below the industry average suggests the company is either paying more for its inputs (cost of sales) or receiving less for its outputs (revenues) than competitors, both of which warrant investigation.