Wall Street Prep Test with Correct Answers
What is working capital? - Answer-Working capital is defined as current assets minus current liabilities; it tells the financial statement user how much cash is tied up in the business through items such as receivables and inventories and also how much ...
Wall Street Prep Test with
Correct Answers
What is working capital? - Answer-Working capital is defined as current assets minus
current liabilities; it tells the financial statement user how much cash is tied up in the
business through items such as receivables and inventories and also how much cash is
going to be needed to pay off short term obligations in the next 12 months.
Is it possible for a company to show positive cash flows but be in grave trouble? -
Answer-Absolutely. Two examples involve unsustainable improvements in working
capital (a company is selling off inventory and delaying payables), and another example
involves lack of revenues going forward.in the pipeline
How is it possible for a company to show positive net income but go bankrupt? -
Answer-Two examples include deterioration of working capital (i.e. increasing accounts
receivable, lowering accounts payable), and financial shenanigans.
I buy a piece of equipment, walk me through the impact on the 3 financial statements. -
Answer-Initially, there is no impact (income statement); cash goes down, while PP&E
goes up (balance sheet), and the purchase of PP&E is a cash outflow (cash flow
statement)
Over the life of the asset: depreciation reduces net income (income statement); PP&E
goes down by depreciation, while retained earnings go down (balance sheet); and
depreciation is added back (because it is a non-cash expense that reduced net income)
in the cash from operations section (cash flow statement).
Why are increases in accounts receivable a cash reduction on the cash flow statement?
- Answer-Since our cash flow statement starts with net income, an increase in accounts
receivable is an adjustment to net income to reflect the fact that the company never
actually received those funds.
How is the income statement linked to the balance sheet? - Answer-Net income flows
into retained earnings.
What is goodwill? - Answer-Goodwill is an asset that captures excess of the purchase
price over fair market value of an acquired business. Let's walk through the following
example: Acquirer buys Target for $500m in cash. Target has 1 asset: PPE with book
value of $100, debt of $50m, and equity of $50m = book value (A-L) of $50m.
Acquirer records cash decline of $500 to finance acquisition
Acquirer's PP&E increases by $100m
, Acquirer's debt increases by $50m
Acquirer records goodwill of $450m
What is a deferred tax liability and why might one be created? - Answer-Deferred tax
liability is a tax expense amount reported on a company's income statement that is not
actually paid to the IRS in that time period, but is expected to be paid in the future. It
arises because when a company actually pays less in taxes to the IRS than they show
as an expense on their income statement in a reporting period.
Differences in depreciation expense between book reporting (GAAP) and IRS reporting
can lead to differences in income between the two, which ultimately leads to differences
in tax expense reported in the financial statements and taxes payable to the IRS.
Assets - Answer-resources a company uses to operate its business
includes cash, A/R, PP&E
Liabilities - Answer-represents the company's contractual obligations and includes A/P,
debt, accrued expenses
Shareholder's equity - Answer-is the residual
the value of the business available to the owners (shareholders) after debts have been
paid off
Income statement - Answer-illustrates the profitability of the company over a specified
period of time
broad sense: shows revenue-expenses
Balance sheet - Answer-snapshot of the company economic resources and funding for
those resources at a given point in time (A = L + SE)
Revenue - Answer-"top-line"
represents the sale of goods and services
it is recorded when earned (even though cash might not have been received at the time
of transaction)
Expenses - Answer-netted against revenue to arrive at net income
COGS (directly associate with good production), SG&A (indirectly associated with
production), interest expense (expense related to paying debt holders periodic
payments), taxes, depreciation expense (non-cash expense accounting for the use of
PP&E, often imbedded within COGS and SG&A)
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