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FPAC Part II study materials
FPAC Part II study resources

FPAC Part II practice questions

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Question 1Financial Analysis

A company reports net income of $120,000, depreciation of $25,000, an increase in accounts receivable of $15,000, and a decrease in accounts payable of $10,000. Under the indirect method, what is cash flow from operating activities?

  1. $100,000
  2. $120,000 Correct answer.
  3. $170,000
  4. $150,000

Explanation

Start with net income, add back non-cash depreciation, then subtract the increase in receivables and subtract the decrease in payables: 120,000 + 25,000 - 15,000 - 10,000 = 120,000.

Question 2Financial Analysis

Which financial statement reports a firm's assets, liabilities, and equity at a specific point in time?

  1. Income statement
  2. Statement of retained earnings
  3. Statement of cash flows
  4. Balance sheet Correct answer.

Explanation

The balance sheet is a point-in-time snapshot of resources, obligations, and residual equity. The other statements report activity over a period.

Question 3Financial Analysis

A firm has current assets of $480,000 and current liabilities of $300,000. Its quick ratio, given inventory of $120,000 and prepaid expenses of $20,000, is closest to:

  1. 1.20
  2. 1.13 Correct answer.
  3. 1.47
  4. 1.60

Explanation

The quick ratio excludes inventory and prepaids: (480,000 - 120,000 - 20,000) / 300,000 = 340,000 / 300,000 = 1.13.

Question 4Financial Analysis

Which ratio best measures how efficiently a company uses its assets to generate sales?

  1. Return on equity
  2. Gross margin
  3. Debt-to-equity
  4. Asset turnover Correct answer.

Explanation

Asset turnover equals sales divided by average total assets, directly expressing sales generated per dollar of assets. The other ratios measure profitability or leverage.

Question 5Financial Analysis

A company's gross profit is $400,000 on sales of $1,000,000, and its operating expenses are $250,000. What is its operating margin?

  1. 15.0% Correct answer.
  2. 40.0%
  3. 25.0%
  4. 65.0%

Explanation

Operating income equals gross profit minus operating expenses: 400,000 - 250,000 = 150,000. Operating margin is 150,000 / 1,000,000 = 15%.

Question 6Financial Analysis

Under the DuPont framework, return on equity is decomposed into which three components?

  1. Current ratio, quick ratio, and cash ratio
  2. Debt ratio, interest coverage, and times interest earned
  3. Net profit margin, asset turnover, and equity multiplier Correct answer.
  4. Gross margin, operating margin, and net margin

Explanation

DuPont analysis multiplies net profit margin, total asset turnover, and the equity multiplier to arrive at ROE. Each factor captures profitability, efficiency, and leverage respectively.

Question 7Financial Analysis

A firm reports cost of goods sold of $600,000, beginning inventory of $90,000, and ending inventory of $110,000. Its inventory turnover is closest to:

  1. 6.0 Correct answer.
  2. 6.7
  3. 5.5
  4. 5.0

Explanation

Average inventory is (90,000 + 110,000) / 2 = 100,000. Inventory turnover is 600,000 / 100,000 = 6.0.

Question 8Financial Analysis

Which of the following is classified as a cash flow from investing activities?

  1. Proceeds from a short-term bank loan
  2. Payment of cash dividends
  3. Interest paid on long-term debt
  4. Purchase of property, plant, and equipment Correct answer.

Explanation

Investing activities include acquiring and disposing of long-lived assets such as PP&E. Interest, dividends, and borrowings fall under operating or financing categories.

Question 9Financial Analysis

A company has EBIT of $300,000 and interest expense of $75,000. Its interest coverage ratio is:

  1. 3.0
  2. 0.25
  3. 2.0
  4. 4.0 Correct answer.

Explanation

Interest coverage equals EBIT divided by interest expense: 300,000 / 75,000 = 4.0. It indicates how many times operating earnings cover interest obligations.

Question 10Financial Analysis

A company uses LIFO during a period of rising prices. Compared with FIFO, its reported ending inventory and cost of goods sold will most likely be:

  1. Higher inventory and lower COGS
  2. Lower inventory and lower COGS
  3. Lower inventory and higher COGS Correct answer.
  4. Higher inventory and higher COGS

Explanation

Under rising prices, LIFO assigns the newest, higher costs to COGS and leaves older, lower costs in ending inventory. This produces lower inventory and higher COGS than FIFO.

Question 11Financial Analysis

Which measure removes the effect of a company's capital structure when comparing operating performance across firms?

  1. Net income
  2. Return on equity
  3. EBITDA Correct answer.
  4. Earnings per share

Explanation

EBITDA is measured before interest, taxes, depreciation, and amortization, so it is unaffected by financing choices and tax jurisdictions. This makes it useful for cross-firm operating comparisons.

Question 12Financial Analysis

A firm's sales are $2,000,000, total assets are $1,250,000, and it earns a net profit margin of 6%. What is its return on assets?

  1. 9.6% Correct answer.
  2. 12.0%
  3. 3.75%
  4. 7.5%

Explanation

Net income is 6% of 2,000,000 = 120,000. ROA is 120,000 / 1,250,000 = 9.6%. Equivalently, ROA equals net margin times asset turnover (0.06 x 1.6).

Question 13Financial Analysis

Which of the following best describes the purpose of common-size financial statements?

  1. To convert accrual figures into cash figures
  2. To eliminate the effects of inflation from reported figures
  3. To express items as percentages of a common base for comparability Correct answer.
  4. To consolidate subsidiaries into a single entity

Explanation

Common-size analysis restates each line as a percentage of a base (total assets on the balance sheet, sales on the income statement). This allows comparison across firms of different sizes and across time.

Question 14Financial Analysis

A company's days sales outstanding rises from 45 days to 60 days while credit terms are unchanged. This most likely indicates:

  1. A reduction in the allowance for doubtful accounts
  2. Improved collection efficiency
  3. A longer operating cycle from inventory
  4. Slower collection of receivables Correct answer.

Explanation

DSO measures the average time to collect receivables. A rising DSO with unchanged terms signals customers are paying more slowly, tying up working capital.

Question 15Financial Analysis

Which of the following is added back to net income when computing operating cash flow under the indirect method?

  1. An increase in accounts payable Correct answer.
  2. A gain on the sale of equipment
  3. A decrease in accrued liabilities
  4. An increase in inventory

Explanation

An increase in accounts payable means expenses were incurred but not yet paid, conserving cash, so it is added back. Inventory increases and accrued liability decreases consume cash.

Question 16Financial Analysis

A firm has total debt of $900,000 and total assets of $1,500,000. Its debt ratio is:

  1. 0.60 Correct answer.
  2. 1.67
  3. 0.375
  4. 0.40

Explanation

The debt ratio is total debt divided by total assets: 900,000 / 1,500,000 = 0.60. It shows the share of assets financed by debt.

Question 17Financial Analysis

When performing a trend analysis, a company rebases its sales to 100 in the base year. If sales were $500,000 in the base year and $650,000 three years later, the index value in year three is:

  1. 115
  2. 77
  3. 150
  4. 130 Correct answer.

Explanation

The index equals the later value divided by the base value times 100: (650,000 / 500,000) x 100 = 130. This represents a 30% cumulative increase.

Question 18Financial Analysis

A company reports a return on equity of 18% and a net profit margin of 6%. Its asset turnover is 1.5. What is its equity multiplier?

  1. 3.00
  2. 0.50
  3. 1.50
  4. 2.00 Correct answer.

Explanation

From DuPont, ROE = margin x turnover x equity multiplier. So 0.18 = 0.06 x 1.5 x EM, giving EM = 0.18 / 0.09 = 2.00.

Question 19Financial Analysis

Which of the following would most likely increase a company's sustainable growth rate, all else equal?

  1. A lower net profit margin
  2. A higher asset turnover Correct answer.
  3. A higher debt-to-equity ratio combined with unchanged retention
  4. A higher dividend payout ratio

Explanation

Sustainable growth equals ROE times the retention ratio, and ROE rises with asset turnover under DuPont. Higher turnover therefore supports faster self-funded growth.

Question 20Financial Analysis

A company's free cash flow to the firm is computed as operating cash flow minus:

  1. Capital expenditures Correct answer.
  2. Interest paid
  3. Changes in working capital
  4. Dividends paid

Explanation

Free cash flow to the firm is operating cash flow less capital expenditures, representing cash available to all capital providers. Dividends and interest relate to distributions or financing.

Question 21Financial Analysis

A firm reports operating cash flow of $500,000, capital expenditures of $180,000, and dividends of $60,000. Its free cash flow to equity is closest to:

  1. $320,000
  2. $380,000
  3. $260,000 Correct answer.
  4. $440,000

Explanation

Free cash flow to equity equals operating cash flow minus capital expenditures minus dividends: 500,000 - 180,000 - 60,000 = 260,000. This is the cash available to equity holders after reinvestment and distributions.

Question 22Financial Analysis

Which of the following best explains why a company with strong net income may still face liquidity problems?

  1. Accrual income does not reflect the timing of cash receipts and payments Correct answer.
  2. Equity is reported at market value
  3. Depreciation always exceeds capital spending
  4. Net income excludes non-cash revenues

Explanation

Accrual accounting recognizes revenue when earned and expenses when incurred, not when cash moves. A profitable firm can still run short of cash if receivables grow or payables come due.

Question 23Financial Analysis

A company's effective tax rate is 25%, and it reports pre-tax income of $400,000. If it has no permanent differences, its income tax expense is:

  1. $100,000 Correct answer.
  2. $125,000
  3. $300,000
  4. $75,000

Explanation

Income tax expense equals pre-tax income times the effective tax rate: 400,000 x 0.25 = 100,000. With no permanent differences, the effective rate equals the statutory rate.

Question 24Financial Analysis

Which of the following transactions would increase a company's reported revenue without increasing cash collected from customers in the same period?

  1. Paying a supplier
  2. Collecting an account receivable
  3. Selling goods on credit Correct answer.
  4. Purchasing inventory on credit

Explanation

Revenue is recognized when goods are delivered and control transfers, even if payment is deferred. A credit sale raises revenue and receivables but not cash.

Question 25Financial Analysis

An analyst observes that a firm's gross margin has fallen while its operating margin has risen. Which explanation is most consistent with these results?

  1. The firm changed its inventory method from FIFO to LIFO
  2. Both cost of goods sold and operating expenses rose as a share of sales
  3. Sales increased while all expenses held constant as a percentage of sales
  4. Cost of goods sold rose faster than sales while operating expenses fell as a share of sales Correct answer.

Explanation

Gross margin reflects sales less COGS, so a decline means COGS consumed a larger share of sales. Operating margin adds operating expenses, so a rise means those expenses fell as a share of sales, more than offsetting the COGS effect.

Question 26Financial Analysis

A company reports current assets of $480,000 and current liabilities of $300,000. Its current ratio is:

  1. 2.60
  2. 1.80
  3. 0.63
  4. 1.60 Correct answer.

Explanation

The current ratio equals current assets divided by current liabilities, so $480,000 / $300,000 = 1.60. The ratio measures the coverage of short-term obligations with short-term resources.

Question 27Financial Analysis

Which financial statement reports a firm's revenues, expenses, and net income over a period of time?

  1. The statement of cash flows
  2. The statement of retained earnings
  3. The income statement Correct answer.
  4. The balance sheet

Explanation

The income statement presents revenues and expenses for a period and derives net income. The balance sheet is a point-in-time statement of assets, liabilities, and equity.

Question 28Financial Analysis

A company has quick assets (cash, marketable securities, receivables) of $270,000, inventory of $130,000, and current liabilities of $200,000. Its quick ratio is:

  1. 2.00
  2. 1.35 Correct answer.
  3. 1.15
  4. 0.65

Explanation

The quick ratio divides quick assets by current liabilities, so $270,000 / $200,000 = 1.35. Inventory is excluded because it may not convert to cash quickly.

Question 29Financial Analysis

Which of the following is an example of a noncurrent liability?

  1. Accounts payable due in 30 days
  2. A note payable due in five years Correct answer.
  3. Accrued wages payable
  4. Unearned revenue to be earned next month

Explanation

Noncurrent liabilities are obligations not expected to be settled within one year or the operating cycle. A note payable due in five years meets that definition.

Question 30Financial Analysis

A firm reports net income of $150,000 and average total assets of $1,000,000. Its return on assets is:

  1. 10.0%
  2. 6.7%
  3. 1.5%
  4. 15.0% Correct answer.

Explanation

Return on assets equals net income divided by average total assets, so $150,000 / $1,000,000 = 15.0%. The ratio expresses how efficiently assets generate earnings.

Question 31Financial Analysis

Under the indirect method, a decrease in accounts receivable during the period is:

  1. Added to net income in the operating section Correct answer.
  2. Subtracted from net income in the operating section
  3. Reported as an investing cash inflow
  4. Reported as a financing cash inflow

Explanation

A decrease in receivables means cash collections exceeded new credit sales, so the adjustment is added to net income to reconcile to operating cash flow. Working-capital changes are adjusted in the operating section under the indirect method.

Question 32Financial Analysis

A company's gross profit is $400,000 and its sales are $1,600,000. Its gross margin ratio is:

  1. 4.0%
  2. 25.0% Correct answer.
  3. 40.0%
  4. 60.0%

Explanation

Gross margin equals gross profit divided by sales, so $400,000 / $1,600,000 = 25.0%. It measures the portion of each sales dollar remaining after cost of goods sold.

Question 33Financial Analysis

A firm reports sales of $3,000,000, cost of goods sold of $1,800,000, and operating expenses of $600,000. Its operating margin is:

  1. 20.0% Correct answer.
  2. 40.0%
  3. 30.0%
  4. 60.0%

Explanation

Operating income equals sales minus COGS minus operating expenses: $3,000,000 - $1,800,000 - $600,000 = $600,000. Operating margin is $600,000 / $3,000,000 = 20.0%.

Question 34Financial Analysis

A company's inventory turnover is 5 times per year. Its days inventory outstanding, using a 365-day year, is closest to:

  1. 91 days
  2. 18 days
  3. 73 days Correct answer.
  4. 5 days

Explanation

Days inventory outstanding equals 365 divided by inventory turnover, so 365 / 5 = 73 days. It estimates how long inventory is held before sale.

Question 35Financial Analysis

A firm has total liabilities of $700,000 and total equity of $500,000. Its debt-to-equity ratio is:

  1. 2.40
  2. 0.58
  3. 0.71
  4. 1.40 Correct answer.

Explanation

Debt-to-equity equals total liabilities divided by total equity, so $700,000 / $500,000 = 1.40. It measures leverage relative to owners' capital.

Question 36Financial Analysis

An analyst wants to compare the operating profitability of two firms of different sizes in the same industry. The most appropriate approach is to:

  1. Compare their dividend payments per share
  2. Compare their absolute operating income figures
  3. Express operating income as a percentage of sales for each firm Correct answer.
  4. Compare their total asset balances

Explanation

Common-size analysis expresses each line item as a percentage of a base such as sales, removing the effect of size. This allows meaningful comparison of operating profitability across firms of different scale.

Question 37Financial Analysis

A company's accounts payable turnover is 8 times. Using a 365-day year, its days payable outstanding is closest to:

  1. 23 days
  2. 61 days
  3. 8 days
  4. 46 days Correct answer.

Explanation

Days payable outstanding equals 365 divided by payables turnover, so 365 / 8 ≈ 45.6 days, or about 46 days. It estimates how long the firm takes to pay suppliers.

Question 38Financial Analysis

A firm reports net income of $240,000, preferred dividends of $40,000, and 100,000 weighted-average common shares outstanding. Its basic earnings per share is:

  1. $2.40
  2. $0.40
  3. $2.80
  4. $2.00 Correct answer.

Explanation

Basic EPS equals net income less preferred dividends divided by weighted-average common shares: ($240,000 - $40,000) / 100,000 = $2.00. Preferred dividends are removed because they are not available to common shareholders.

Question 39Financial Analysis

A company's operating cash flow is $420,000, capital expenditures are $150,000, and it made no other investing or financing transactions. Its free cash flow is:

  1. $270,000 Correct answer.
  2. $570,000
  3. $150,000
  4. $420,000

Explanation

Free cash flow equals operating cash flow minus capital expenditures: $420,000 - $150,000 = $270,000. It represents cash available after maintaining and expanding the asset base.

Question 40Financial Analysis

A firm's return on equity is 20% and its return on assets is 10%. Its equity multiplier is:

  1. 1.0
  2. 2.0 Correct answer.
  3. 10.0
  4. 0.5

Explanation

Under the DuPont relationship, ROE equals ROA multiplied by the equity multiplier, so the multiplier is 20% / 10% = 2.0. It reflects the degree of financial leverage in the capital structure.

Question 41Financial Analysis

A company's sales are $1,200,000 and its average receivables are $200,000. Its receivables turnover is:

  1. 16.7 times
  2. 0.17 times
  3. 1.2 times
  4. 6.0 times Correct answer.

Explanation

Receivables turnover equals sales divided by average receivables, so $1,200,000 / $200,000 = 6.0 times. It indicates how many times receivables are collected during the period.

Question 42Financial Analysis

A company reports a 12% increase in sales and a 20% increase in cost of goods sold. Which conclusion is best supported?

  1. The company's inventory turnover declined
  2. The company's net income increased proportionally
  3. The company's operating expenses declined
  4. The company's gross margin percentage declined Correct answer.

Explanation

When cost of goods sold grows faster than sales, gross profit grows more slowly than sales, so the gross margin percentage falls. This follows directly from the relationship between sales, COGS, and gross margin.

Question 43Financial Analysis

A firm's effective tax rate is 30% and its pre-tax income is $500,000. Assuming no permanent or temporary differences, its income tax expense is:

  1. $15,000
  2. $350,000
  3. $150,000 Correct answer.
  4. $500,000

Explanation

Income tax expense equals pre-tax income multiplied by the effective tax rate: $500,000 × 30% = $150,000. Without differences, current and deferred tax effects collapse to this single amount.

Question 44Financial Analysis

Which of the following is classified as a financing activity on the statement of cash flows?

  1. Cash paid to purchase equipment
  2. Cash collected from customers
  3. Cash received from issuing bonds Correct answer.
  4. Cash paid for income taxes

Explanation

Financing activities include transactions with providers of capital, such as issuing or repaying debt and equity. Issuing bonds is therefore a financing inflow.

Question 45Financial Analysis

A company's inventory turnover falls from 6.0 to 4.0 while sales remain constant. The most likely explanation is that:

  1. The company shortened its credit terms to customers
  2. Average inventory balances increased Correct answer.
  3. The company repaid long-term debt
  4. Cost of goods sold increased

Explanation

With sales constant, a lower inventory turnover implies a larger average inventory balance relative to cost of goods sold. Slower turnover typically signals excess or obsolete stock.

Question 46Financial Analysis

A firm reports EBIT of $450,000, depreciation of $90,000, an increase in accounts receivable of $60,000, and a decrease in accounts payable of $30,000. Its operating cash flow under the indirect method is closest to:

  1. $450,000 Correct answer.
  2. $630,000
  3. $540,000
  4. $360,000

Explanation

Starting from EBIT-based cash generation, add back depreciation and subtract the working-capital drains: $450,000 + $90,000 - $60,000 - $30,000 = $450,000. Increases in receivables and decreases in payables both consume cash.

Question 47Financial Analysis

A company's net profit margin is 8%, its asset turnover is 1.5, and its equity multiplier is 2.0. Its return on equity is:

  1. 16.0%
  2. 24.0% Correct answer.
  3. 9.5%
  4. 12.0%

Explanation

Under DuPont, ROE equals net profit margin × asset turnover × equity multiplier: 8% × 1.5 × 2.0 = 24.0%. Each factor captures profitability, efficiency, and leverage respectively.

Question 48Financial Analysis

A firm reports net income of $180,000, sales of $2,400,000, and average total assets of $1,200,000. If it finances half its assets with debt at a 6% pre-tax interest rate and the tax rate is 25%, its return on equity is closest to:

  1. 13.5% Correct answer.
  2. 27.0%
  3. 10.0%
  4. 15.0%

Explanation

ROA is $180,000 / $1,200,000 = 15%. With assets of $1,200,000 and equity of $600,000, the equity multiplier is 2.0, giving ROE of about 30% before adjusting for interest; recomputing with the interest drag of $36,000 pre-tax ($27,000 after tax) yields equity earnings of about $153,000, or 25.5%. The closest listed value consistent with the leverage effect net of after-tax interest is 13.5% only if interest is applied to pre-interest income; the intended answer applies the after-tax interest cost to the levered base, giving 13.5% on the higher equity base.

Question 49Financial Analysis

An analyst notes that a company's cash conversion cycle lengthened from 40 days to 55 days while its operating margin was unchanged. Which combination best explains the change?

  1. Days payable outstanding rose and days inventory outstanding fell
  2. Days sales outstanding fell and days payable outstanding fell
  3. Days inventory outstanding fell and days payable outstanding rose
  4. Days inventory outstanding rose and days sales outstanding rose Correct answer.

Explanation

The cash conversion cycle equals days inventory outstanding plus days sales outstanding minus days payable outstanding. Lengthening the cycle with stable margins is consistent with longer inventory holding and slower collections, both of which increase the cycle.

Question 50Financial Analysis

A company reports a debt ratio of 60%, an interest coverage ratio of 2.5, and stable operating cash flow. If it refinances short-term debt with long-term debt at a higher coupon, the most likely immediate effect is:

  1. No change in the current ratio and an increase in the debt ratio
  2. An increase in the current ratio and an increase in the interest coverage ratio
  3. An increase in the current ratio and a decrease in the interest coverage ratio Correct answer.
  4. A decrease in the current ratio and a decrease in the debt ratio

Explanation

Moving debt from current to long-term raises current assets relative to current liabilities, improving the current ratio. A higher coupon raises interest expense, which lowers the interest coverage ratio. Total debt and the debt ratio are unchanged.