CA Inter P6 · Chapter 3
Financial Analysis and Planning – Ratio Analysis MCQs with Answers
9 multiple-choice questions on Financial Analysis and Planning – Ratio Analysis for CA Inter P6 Financial Management and Strategic Management. Try each one before revealing the answer and explanation.
Practise this chapter interactivelyQuestion 1
Vardhan Ltd has current liabilities of ₹ 4,00,000, a current ratio of 2.5 : 1 and a quick ratio of 1.5 : 1. Inventory is the only current asset excluded from quick assets. The value of inventory is:
- A) ₹ 2,00,000
- B) ₹ 6,00,000
- C) ₹ 4,00,000
- D) ₹ 10,00,000
Show answer & explanation
Answer: C) ₹ 4,00,000
Current assets = 2.5 x ₹ 4,00,000 = ₹ 10,00,000. Quick assets = 1.5 x ₹ 4,00,000 = ₹ 6,00,000. Inventory = current assets - quick assets = ₹ 10,00,000 - ₹ 6,00,000 = ₹ 4,00,000. The figures ₹ 10,00,000 and ₹ 6,00,000 are total current assets and quick assets, not inventory.
Question 2
A company has a net profit margin of 8%, a total asset turnover of 1.5 times and an equity multiplier (total assets / shareholders' equity) of 2. Using the DuPont analysis, its return on equity is:
- A) 12%
- B) 24%
- C) 16%
- D) 9.5%
Show answer & explanation
Answer: B) 24%
Under DuPont analysis, ROE = net profit margin x asset turnover x equity multiplier = 8% x 1.5 x 2 = 24%. The figure 12% is return on assets (8% x 1.5), which leaves out financial leverage. The figure 16% multiplies the margin by the equity multiplier only.
Question 3
Annual credit sales of Kesar Foods Ltd are ₹ 36,00,000 and average trade receivables are ₹ 6,00,000. Assuming 360 days in a year, the average collection period is:
- A) 6 days
- B) 45 days
- C) 72 days
- D) 60 days
Show answer & explanation
Answer: D) 60 days
Receivables turnover = credit sales / average receivables = ₹ 36,00,000 / ₹ 6,00,000 = 6 times. Average collection period = 360 / 6 = 60 days. The figure 6 is the turnover ratio (in times), not days.
Question 4
Sales are ₹ 50,00,000 and the gross profit ratio is 20% on sales. Opening inventory is ₹ 3,80,000 and closing inventory is ₹ 4,20,000. The inventory turnover ratio based on cost of goods sold and average inventory is:
- A) 12.5 times
- B) 9.52 times
- C) 10.0 times
- D) 10.53 times
Show answer & explanation
Answer: C) 10.0 times
Cost of goods sold = ₹ 50,00,000 x 80% = ₹ 40,00,000. Average inventory = (₹ 3,80,000 + ₹ 4,20,000) / 2 = ₹ 4,00,000. Inventory turnover = ₹ 40,00,000 / ₹ 4,00,000 = 10.0 times. Using sales gives 12.5 times, which overstates turnover because inventory is carried at cost.
Question 5
For the year, Ojas Engineering Ltd reports profit after tax of ₹ 6,00,000, depreciation of ₹ 2,00,000, interest on term loan of ₹ 3,00,000 and a principal instalment of ₹ 4,00,000 due on the term loan. The debt service coverage ratio is (to two decimals):
- A) 3.67 times
- B) 1.57 times
- C) 1.14 times
- D) 2.75 times
Show answer & explanation
Answer: B) 1.57 times
Earnings available for debt service = PAT + depreciation + interest = ₹ 6,00,000 + ₹ 2,00,000 + ₹ 3,00,000 = ₹ 11,00,000. Debt service = interest + principal instalment = ₹ 3,00,000 + ₹ 4,00,000 = ₹ 7,00,000. DSCR = ₹ 11,00,000 / ₹ 7,00,000 = 1.57 times. Leaving out the instalment, or leaving interest out of the numerator, gives the other figures.
Question 6
Profit after tax is ₹ 45,00,000, preference dividend is ₹ 5,00,000 and there are 8,00,000 equity shares in issue. If the market price per equity share is ₹ 60, the price-earnings (P/E) ratio is:
- A) 12 times
- B) 5 times
- C) 10.67 times
- D) 9.60 times
Show answer & explanation
Answer: A) 12 times
EPS = (PAT - preference dividend) / number of equity shares = (₹ 45,00,000 - ₹ 5,00,000) / 8,00,000 = ₹ 5.00. P/E = market price / EPS = 60 / 5 = 12 times. Leaving out the preference dividend gives EPS of ₹ 5.625 and a P/E of 10.67, which is wrong because equity holders are entitled only to profit after preference dividend.
Question 7
Which of the following ratios is the most stringent test of a firm's short-term liquidity?
- A) Current ratio
- B) Quick (acid test) ratio
- C) Inventory turnover ratio
- D) Absolute liquidity (cash) ratio
Show answer & explanation
Answer: D) Absolute liquidity (cash) ratio
The absolute liquidity or cash ratio compares only cash, bank balances and marketable securities with current liabilities, so it is the strictest liquidity test. The quick ratio leaves out inventory and prepaid expenses but still counts receivables. The current ratio counts all current assets. Inventory turnover is an activity ratio, not a liquidity ratio.
Question 8
Ruchi Traders has sales of ₹ 30,00,000 and earns a gross profit of 25% on sales. Its inventory turnover ratio (based on cost of goods sold and average inventory) is 6 times, and closing inventory is ₹ 50,000 more than opening inventory. Closing inventory is:
- A) ₹ 5,00,000
- B) ₹ 4,00,000
- C) ₹ 3,75,000
- D) ₹ 3,50,000
Show answer & explanation
Answer: B) ₹ 4,00,000
Cost of goods sold = ₹ 30,00,000 x 75% = ₹ 22,50,000. Average inventory = ₹ 22,50,000 / 6 = ₹ 3,75,000. If opening = X and closing = X + 50,000, then (2X + 50,000) / 2 = ₹ 3,75,000, so X = ₹ 3,50,000 and closing inventory = ₹ 4,00,000. Dividing sales by 6 (₹ 5,00,000) is wrong because the ratio is based on cost of goods sold.
Question 9
A company makes a large repayment to creditors just before the year end, using a short-term loan that it takes again immediately after the year end, so that its current ratio looks better. This shows which limitation of ratio analysis?
- A) Ratios can be distorted by window dressing of year-end figures
- B) Ratios cannot be calculated for companies with losses
- C) Ratios ignore the effect of inflation on historical costs
- D) Ratios measure only qualitative factors
Show answer & explanation
Answer: A) Ratios can be distorted by window dressing of year-end figures
Ratios are based on balance sheet figures at a single date, so management can change transactions around the reporting date to improve the reported position. This is called window dressing. Inflation is a separate limitation. Ratios are quantitative, and they can still be calculated for loss-making firms.