Very Very Very Imp Part 2

CMA Learning System, Version 3.
0, 2nd Edition
Part 2 Instructor’s Guide
Session 1
Updated Slides
These updated slides are being provided to update the CMA Learning System with suggestions received by
instructors of the CMA Learning System, and to provide further discussions and clarifications relevant to the
content of the CMA Exam. These slides are to provide replacements of those slides that have been requested
be updated. In the updates and errata process, it is important to include those suggestions that are deemed
necessary and in alignment with the CMA Exam.
Session 1
Explain that the CMALS books use a number of features to draw attention to certain
types of content:
Key terms are bolded where they appear in the text with their definition, to allow you to
quickly scan through and study these.
Key formulas are indicated with a “key” symbol. Be sure you understand these formulas
and practice applying them.
Study tips offer ideas and strategies for studying and preparing for the exam and are
indicated with a “light bulb” symbol.
Knowledge checks are indicated with a “book” symbol—note that the answers are
provided after all the questions. These appear at the end of each topic.
Practice questions are indicated with a “question mark” symbol. These are presented at
the end of each section.
CMA Learning System, Part 2: Financial Decision Making, Version 3.0, 2nd Edition, January 2012
Copyright © 2009, 2012 Institute of Management Accountants. All rights reserved.
Session 1
Explain that this is a vertical common-size balance sheet.

In vertical common-size statements, a base amount (generally total assets on the balance
sheet and net sales on the income statement) will be valued at 100%, and the elements
within that statement are expressed as a percentage of the total (total assets or net sales).
A vertical common-size balance sheet is used to understand the relationship between
total assets and other items included on the balance sheet of a company.
Session 1
Explain that common-size statement analysis can be done to compare the financial
statements of companies operating in different industries.
Discuss the variations in detail and relate it to the nature of the industry. Give examples of
commonly known companies to encourage discussion. Some examples would be companies
that are major employers or have major presence in the area with which the participants are
familiar. As a default, use Dell, Wal-Mart, Pfizer, and Morgan Stanley.
Discuss why a retailer would have low receivables (cash business) and high inventory
(merchandise on shelf), and a bank would have no inventory and high investments.
Session 1
Ask participants to answer the question.

Click to reveal the answer.
Answer: a. Purchase of land and building.
The purchase of land or building would be part of the investing activities section of the
Statement of Cash Flows.
Session 1

Answer: a. Purchase of treasury stock.
The purchase of treasury stock would be classified as financing activity. Recall that the
financing activity section includes cash outflows that are made to reacquire stock in the
entity.
Remind participants that investing activities involve the purchase or sale of fixed assets
and investments in another company’s securities, while financing activities involve the
issuance and redemption of a company’s own equity and debt securities.
Session 1
Ask participants to answer the question, then click to reveal the answer.
Click to show answer: b. $480,000
Click again to show calculation.
The A/P balance increased by $20,000 implying that the payments were less than
purchases by $20,000.
Conclude the discussion of this topic by asking participants if they have any questions on
Topic 1: Basic Financial Statement Analysis.
Session 1
Review the formula for working capital.
Allow participants time to calculate working capital from the ABC Company balance sheet.
Click again to show calculation.
Session 1
Ask participants to answer the question. Then click to reveal the answer.
Explain the right and wrong answers.
Session 1
Explain the formula for the quick, or acid test, ratio.
Remind participants that the ratio used is a function of the information given.
Allow participants a moment to calculate the quick ratio for ABC Company.
Session 1
Explain that the cash flow ratio measures a firm’s ability to meet its debt obligations with
cash generated in the normal course of business. Calculating cash flow requires a balance
sheet (to obtain current liabilities) and a cash flow statement (to obtain operating cash flow).
Explain that higher ratios of operating cash flow to debt indicate a higher likelihood that the
firm will be able to meet its long-term debt obligations with cash generated from day-to-day
business activities.
Allow participants a moment to calculate ABC Company’s cash flow ratio.
Click again to review calculation.
Session 1
Review the days’ purchases in accounts payable formula. Current liabilities to suppliers
who depend on and value the firm’s business are less urgent than taxes or other debts.
Postponement and renegotiation of vendor liabilities do occur. Judgment regarding
current liabilities should be in the light of the degree of urgency of payment.
Explain that measurement of days’ purchases in accounts payable indicates the degree to
which accounts payable are current or overdue. It is difficult for an outside analyst to
determine credit purchases. For the formula on the slide, the analyst can use cost of
goods sold instead of credit purchases for a close approximation. Using cost of goods
sold does not account for changes in inventory balances or cash purchases. If this
formula results in a number that is larger than the firm’s credit terms, then that would
indicate that accounts payable obligations are past-due.
Allow participants a moment to calculate the answer to the question using cost of goods
sold, then click to reveal the answer. Click again to review calculation.
Explain that the answer is calculated using average accounts payable: ($148,000 +
$154,021)/2 = $151,010.50. Note that this average assumes that purchasing patterns
occur evenly throughout the year. Sometimes this equation is calculated using ending
accounts payable, but the CMA exam uses the average accounts payable amount, as
shown on the slide.
Session 1
Explain that the debt to total assets ratio measures the proportion of assets financed
through debt. This ratio shows the percentage of assets financed by creditors and
indicates how well creditors are protected in case the company becomes insolvent.
A lower debt to total assets ratio indicates a better position for creditors, because the
company has enough assets to cover long-term debt obligations. A higher ratio, which
indicates that creditors are not well protected, may make it more difficult and expensive
for the company to issue additional debt securities.
Allow participants time to calculate the answer to the question, then click to reveal the
slide. Click again to review calculation.
Session 1
Explain that the debt to equity ratio also measures the firm’s ability to pay long-term debt
and how well long-term creditors are protected.
The lower the ratio, the stronger the company’s solvency. An unusually low debt to
equity ratio can also be troublesome. The debt to equity ratio can be compared with
previous years’ records for the same company as well as with competitors’ and industry
averages.
Allow participants time to calculate the answer to the question.
Session 1
Explain that the long-term debt to equity ratio compares long-term debt (which is
calculated by taking total debt less current liabilities) with shareholders’ equity. A
company with a low long-term debt to equity ratio probably has the capacity to raise
debt capital if it is needed. Fixed expenses tend to be lower for a low long-term debt to
equity company because there are few or no interest payments, but the return on capital
will probably be lower. Debt creates financial leverage, which can magnify returns.
Session 1
Explain that this ratio shows the comparison of the total debt of an organization compared
to the amount of contributed capital to the company, which includes debt and equity.
Click to show the answer.
Session 1
Explain that this ratio compares the Cash Generated from Operations and Fixed Charges
and Taxes to the Fixed Charges of the Company. Fixed Charges are those charges that
occur on a month to month basis and support the operations of the business. This ratio
maps to the CMA Exam Ratio Definitions.
NOTE:
Cash from Operations after Taxes = Net Income + Depreciation & Amortization – Taxes
Click to show answer.
Session 1
Explain that this ratio compares the Earnings Before Fixed Charges and Taxes to the Fixed
Charges of the Company. Fixed Charges are those charges that occur on a month to month
basis and support the operations of the business.
Earnings before fixed charges and taxes are equal to the Earnings Before Interest and Taxes
+ Fixed Charges.
Session 1
Explain that the times interest earned ratio (also called interest coverage) measures a firm’s
ability to manage long-term debt by indicating how many times the annual interest
obligation is earned. If the ratio is sufficient, the firm should be able to meet its interest
obligation. And, with a healthy times interest earned ratio, the firm should be able to
expand its debt, thereby increasing leverage.
answer.
Explain that EBIT is calculated here as operating income (loss) plus other income
(expenses): $249,520 + (–$4,884) = $244,636.
Session 1
Explain that solvency is a company’s ability to pay debts as they mature. Following are the
two methods for analyzing leverage:
• Operating leverage is the existence of fixed operating costs.
• Financial leverage is the use of debt to increase returns on investment.
Point out that the focus here will be on financial leverage.
Explain that the financial leverage ratio shown on the slide is the one that is used on the
CMA exam. This ratio measures the relative relationship between assets and equity. A
higher ratio implies that the assets of the company are financed primarily through debt. A
financial leverage ratio of 2.0 reflects that the liabilities of the company are equal to the
equity. A ratio of greater than 2.0 implies that liabilities are larger than equity and a ratio of
less than 2.0 implies higher equity than the liabilities of the company.
Financial leverage has a magnifying effect on earnings. When the earnings are positive, a
marginal percentage change in revenue translates to a greater percentage change on earnings
per share or on return on equity measures. Correspondingly, however, as debt represents
fixed costs, leverage also has a magnifying effect on losses.
Session 1
Discuss the link between debt and interest payments.
Click to reveal each of the four bullet points.
Discuss the fact that many business activities have certain levels of uncertainty. There can be
fluctuations in cash flows in the short term as expectations or projections are not met.
Explain this interest payment obligations are easier to meet with there is a lower amount of
debt. As debt payment obligations increase, there is also an increase in the probability that
payments will not be met.
Stress the point that interest costs are fixed costs.
Session 1
Explain that operating activity analysis is done over a period of an operating cycle—the time
elapsed between when goods are acquired and when cash is received from the sale of the
goods.
“Generic industry” means retailing or manufacturing.
Discuss the fact that working capital would be different in other industries, such as airlines or
financial services (no inventory and no accounts receivable). Note that for these other
industries, the ratios in the following slides may not be relevant.
Session 1
Review the formula for the accounts receivable turnover ratio.
Explain that this ratio measures the number of times that receivables from net credit sales
are collected during an accounting period. Because net credit sales are often unavailable to
an outside analyst, the calculation can use net sales as the numerator.
Explain that an analyst must be careful to compare accounts receivable turnover ratios
between companies with similar seasonal sales and fiscal years.
answer.
Session 1
Review the days’ sales in receivables ratio, also known as the average collection period.
Explain that measuring accounts receivable turnover in days measures the liquidity of
receivables. An internal analyst compares days’ sales in receivables with the company’s
credit terms as an indication of how efficiently the company manages its receivables. If a
company’s credit term is 30 days, days’ sales in receivables should not be substantially over
30 days.
Discuss: Ratio analysis is not an exact science and people may use different methods, so
sometimes days’ sales in receivables is calculated using average accounts receivable, as
shown. Other times, it is calculated using ending values. The formula shown is the one that
is used on the CMA exam. Because credit sales are often unavailable to an outside analyst,
the calculation in the slide uses (net) sales.
answer.
Session 1
Explain that the inventory turnover ratio measures the average number of times that the
inventory was sold during the accounting period. Inventory is one of the most significant
assets in determining liquidity. The inventory account will often represent more than half of
a company’s total current assets.
Explain that the inventory of a retailer is often the merchandise available for sale. In a
manufacturing environment, inventory is divided between raw materials, work in process,
and finished goods.
Explain that Cost of Goods Sold is from the income statement.
answer.
Session 1
Review the days’ sales in inventory ratio. If sales are fairly constant, a lower number of days
or a greater number of times of turnover of inventory indicates better inventory control.
Successful companies are able to keep their inventory low with high turnovers while still
meeting customer orders on a timely basis.
Explain that Cost of Goods Sold is from the income statement.
answer.
Topic 2: Financial Performance Metrics – Financial Ratios.
Session 1
Explain that the earnings per share (EPS) calculation examines the investor’s earnings on
one share of stock. EPS is an important measure that investors use to determine whether to
purchase or sell a security. The basic formula to compute EPS is shown here.
Ask participants to calculate basic EPS, then click to reveal the answer.
Session 1
Review the equation for calculating diluted earnings per share.
Explain that the diluted EPS adjusts common shares by adding shares that may be issued for
convertible securities and option. Diluted EPS is a company's EPS calculated using fully
diluted shares outstanding. Fully diluted shares include the impact of stock option grants
and convertible bonds. Diluted EPS indicates a "worst case" scenario, in which all
stakeholders who could have received stock without purchasing it directly for the full market
value would do so.
Review the explanation for using a weighted average of common stock — that the weighting
reflects the number of months each block of shares was outstanding during the year.
Session 1
Review the explanation for using a weighted average of common stock — that the weighting
reflects the number of months each block of shares was outstanding during the year.
Click to show answer.
Click to show how to solve.
Session 1
Give participants time to calculate the diluted earnings per share, using the information on
CBA, Inc. on the slide plus the diluted EPS equation and the weighted average common
shares number calculated in the previous question.
Ask participants to answer the question and explain their calculations.
Session 1
Review the calculation for Price Earnings Ratio.

Explain that earnings per share was previously computed as $2.06 per share.
Therefore if the current price is $44 per share, and the earnings per share is $2.06, then the
PE Ratio is 21.36, which means that the stock is trading at 21.36 times earnings.
Session 1
Explain what dividends are, and stress that they are given at the discretion of management.
Dividends are discretionary and are not mandatory (unlike interest payments).
Introduce the two common measures used to evaluate dividends: the dividend payout ratio
and the dividend yield.
• The dividend payout ratio is useful because it compares common stock dividends to
earnings available to common shareholders, so that shareholders can evaluate the
relationship between these two amounts.
• The dividend yield compares annual dividends to the market price per share of the
stock. It is a measure of the cash return realized by the investor, against the current
market value of the stock, by the payout of the dividend. This ratio is helpful to
investors seeking income from their securities investments.
Session 1
Review the formula for the dividend payout ratio.

Allow participants time to calculate the answer based upon the numbers provided.
Click to review the answer.
Session 1
Explain that unlike the dividend payout ratio, dividend yield is a market-based measure
because it uses the market price as an input to the computation.
Allow time for the participants to compute the answer.
Click to review the answer.
Session 1
Explain that the return on equity measure will be introduced later and to just use the ROE
number provided to compute the growth rate in this example.
Ask participants to calculate the answer to the question, then click to reveal the answer. Click
again to review calculation.
Explain why this measure is important. Why wouldn’t a company pay out all of its earnings
as dividends? Ask participants to consider the issue before answering the question.
Session 1
Ask participants to answer the question, then click to display the answer:
“Idle or unused assets” are not included in the investment base.
Explain that:
• The basic components of return on invested capital are profits and assets.
• There are differing views on how the elements of assets and profits should be
defined. Invested capital for return on assets or return on invested capital can be
defined as all assets, modified investment bases, or shareholders’ equity only.
• Some analysts believe that some components of assets can skew the results and use
the modified investment basis to calculate ROI or ROA.
Session 1
Review the three profit margin ratios.

Ask participants to identify the importance of these three ratios and how they relate to one
another.
Explain that gross profit is equal to sales less cost of goods sold.
• Gross margin derives its meaning by comparison to past performance of the
company as well as industry averages. A declining gross profit ratio is troublesome.
A firm with such a pattern should consider ways to either increase revenues (increase
prices) or decrease cost of goods sold (cheaper product costs). Explain some
implications of either action.
• The operating profit margin is earnings before interest and taxes (also known as
EBIT) — the gross margin minus operating expenses. Investors will be concerned if
the operating margin declines in relation to the gross margin, because that would
reflect a rise in operating expenses, perhaps due to rising costs of supplies or energy,
or to growing inefficiencies. Operating margins should be interpreted in relation to
margins within the industry.
• Net profits include all the expenses in gross and operating profits and also include
interest and taxes, which are two other costs that can reduce (or eliminate) gross
profits. If the net profit margin diverges progressively from gross and operating
margins, then the company may need to rethink its tax or borrowing strategies. Like
the other ratios, this one should be interpreted in relation to ratios of similar
businesses.
Session 1
answer.
Session 1
Explain that calculation of ROA in its simplest form compares net income before taxes to
the value of all assets.
Explain that “average” total assets is calculated by adding the beginning of period balance to
the end of period balance and dividing by two.
Session 1
Indicate that the simple ROA equation here, the same as that shown on the previous slide.
Click to show how the DuPont Model expands upon the simple ROA equation by
multiplying ROA by Sales/Sales. Sales is factored into both the numerator and
denominator.
Click to show how the ROA equation can be expanded into two components: net
income/sales (which is also how net profit margin is calculated) and sales/average total
assets (which is how asset turnover is calculated). This example illustrates how ROA is a
function of a company’s performance related to net profit margin and asset turnover.
Explain that the DuPont model breaks the simple formula for ROA down and calculates
ROA by multiplying the profit margin by asset turnover. Those two components are implied
in the simple ROA calculation at the top of the slide, but they are not separately visible.
Session 1
Explain that this example illustrates how ROA can be calculated either by using the
simple ROA formula (net income divided by total assets) or by using the DuPont
method. Either calculation yields the same result: ROA of 25% in this case.
Click to display the first calculation of ROA, using the simple ROA formula.
Click to show how the net profit margin and asset turnover can be calculated separately
with the given information. ROA can be computed using the DuPont Model by
multiplying net profit margin by the asset turnover. The example shows that a net profit
margin of 10% combined with an asset turnover of 2.5 times results in an ROA of 25%.
Discuss the advantages of the DuPont approach:
• Breaking the ROA formula into the two components of profit margin and asset
turnover allows analysts to further examine causes for increases or decreases in ROA.
• The net-income-to-sales ratio measures the company’s operating performance and
profitability. The asset-turnover ratio measures the efficiency of the use of assets.
Both profitability and asset utilization determine the return realized on a company’s
assets.
• A higher ROA value indicates a more efficient use of assets to generate profits. A
higher ROA (compared to the previous year) would result from increased net income,
a lower asset value, or both.
Session 1
Review the formulas for ROE.

Explain that:
• Return on equity (ROE) is the measurement of the return made on the common
shareholders’ equity. ROE should be greater than the cost of equity capital in a profitable
firm.
• The second calculation is an alternative calculation of ROE identical to the DuPont ROE.
answer. Click again to review calculation.
CMA Learning System, Version 3.0, 2nd Edition
Session 2
Updated Exercise and Slides
Session 2
Session 2 Exercise: Financial Statement Analysis Ratios
All-Things, Inc.
Comparative Statement of Financial Position
As of May 31
(in thousands)
Year 3 Year 2
Cash $ 400 $ 500
Marketable securities (at cost) 500 500
Accounts receivable (net) 3,200 2,600
Inventory 5,800 5,400
Total current assets 9,900 9,000
Property, plant, and equipment (net) 7,100 7,000
Total assets $17,000 $16,000
Accounts payable $3,700 $3,400

Income taxes payable 900 800
Accrued expenses 1,700 1,400
Total current liabilities 6,300 5,600
Long-term debt 2,000 1,800
Total liabilities 8,300 7,400
Common stock ($1 par value) 2,700 2,700

Paid-in-capital in excess of par 1,000 1,000
Retained earnings 5,000 4,900
Total shareholders’ equity 8,700 8,600
Total liabilities and shareholders’ equity $17,000 $16,000
Session 2
Session 2 Exercise Solution: Financial Statement Analysis Ratios

Net Profit Margin Percentage
• Measures the net income generated by each dollar of sales. The net profit margin ratio provides
some indication of the ability of the firm to absorb cost increases or sales declines.
• All-Things’ net profit margin has been improving and is currently above the industry average.
The improvement in net profit margin further indicates the ability of the firm to weather soft
economic periods, pay down debt, or take on additional debt for expansion.
C. At least two limitations of ratio analysis include the following:
• It is often difficult to make comparisons among firms within an industry due to accounting
differences. Different numbers can be shown in the financial statements for the same economic
event because of different accounting methods, such as straight-line versus accelerated
depreciation, LIFO versus FIFO inventory, and so forth.
• Ratios represent past conditions that may not indicate future trends.
Session 2
Review the formula for book value per share.
Refer to the financial statements for ABC Company, which were used in Session 1.
Explain that Book Value Per Share is a measurement of the common shareholders’ equity
on a per-share basis. Therefore, preferred shareholders’ equity is deducted from total equity
for the calculation.
Allow participants time to calculate the answer, then click to reveal the answer. Click again
to review calculation.
Session 2
Explain that the market-to-book-value ratio compares the current market price per
share of common stock to the current book value.
Allow participants a moment to calculate the answer to the question.
Session 2
Briefly review the concept of leasing.
Discuss the difference between operating leases and capital leases.
Ask participants for the four conditions to classify a lease as a capital lease (only one needs
to be met).
Click to reveal each answer:
1. If the lease life exceeds 75% of the life of the asset
2. If there is a transfer of ownership to the lessee at the end of the lease term
3. If there is an option to purchase the asset at a "bargain price" at the end of the lease
term
4. If the present value of the lease payments, discounted at an appropriate discount rate,
exceeds 90% of the fair market value of the asset
In addition to the one criteria being met, the lessor should expect:
1. Collection of lease payments
2. No significant additional costs related to the lease.
Session 2
Ask participants if they have questions on the material in Session 2.
Review the Section 2 content
Remind participants that Session 3 will begin Section B. It will include discussion of Topics
1 and 2, and a portion of Topic 3. Session 4 will conclude Topic 3.
Session 3
Updated Slides
Session 3
Explain that:
• Credit risk – an investor’s risk that the borrower will not make payments as promised
(also called “default risk”)
• Foreign exchange risk – the risk that there will be a change in the exchange rate of
one currency in relation to another (also called “currency risk”)
• Interest rate risk – the risk that the market rate of interest will vary, affecting the
value of an interest-bearing asset
• Market risk – the risk that a portfolio will decrease due to changes in market risk
factors, including stock prices, interest rates, foreign exchange rates, and commodity
prices
• Industry risk – the combined set of risks particular to an industry
• Political risk – the risk that political decisions may complicate the operations and
profitability of business
Session 3
Review the expected return and standard deviation calculation example.
Session 3
Explain that systematic or market risks are associated with every firm, or relate to the state
of the economy. Click to show examples are inflation, exchange rates, and interest rates.
These risks cannot be reduced and have to be accepted.
Unsystematic risks are specific to a firm. Click to show risks that relate to the stategy of the
firm in the area of operations, investing, and financing decisions of the management. These
risks can be reduced, and can be mitigated through diversification.
Session 3
Ask participants to calculate DFL with the information provided, then click to reveal the
answer.
Discuss the answer as well as what the answer implies.
Session 3
Explain that the combination of business and financial risk, called the degree of total leverage (DTL),
is the product of operating and financial leverage.
Review the formula listed on the slide.
Using the example from the previous slides, the DTL would be 5 and is calculated as follows: DTL
= (DOL of 2.5) x (DFL of 1.25) = 2.5
A DTL of 2.5 implies that every 1% increase in sales will result in a 2.5% (2.5 x 1%) increase in EPS.
Also, every 1% decrease in sales will result in a 2.5% (2.5 x 1%) decrease in EPS.
Session 3
Explain that valuation is the process that links risk and return to estimate the worth of an asset or a
company.
Explain that:
• Increased cash flow raises the price of an asset. If the price declines, cash flow
becomes more uncertain.
• Basic finance goals are to maintain or increase cash flow and control or decrease risk.
• Future cash flows must be discounted back to present cash flows at appropriate rates
to reflect risk.
• A key concept in valuation is: The value of an asset (the price of an asset) is the
present value of all future cash flows associated with the asset.
The self-study text includes additional content on valuation. Tell participants that although this
content is not covered during class, they are expected to know it and should study it on their own.
Also state that if they have any questions, they can ask them during the session review at the start of
the next class session.
Session 3
Explain that a bond is a debt instrument (a loan) issued for a period of more than one year.
The investor acquiring a bond earns interest by lending money, while the borrower (the
issuer) gets needed capital (cash). The general parameters are:
Short-term bonds – two to five years.
Medium-term (intermediate) bonds – five to 10 years.
Long-term bonds – 10 to 30 years.
Discuss the common types of bonds listed.
Session 3
Explain that Moody’s Investors Service and Standard & Poor’s (S&P’s) are two well-known
credit rating services.
Bond ratings apply to the issue, not the company.
US T-Bonds are not rated (zero default risk).
Ratings may be adjusted up or down; downgraded rating means future issues will need to
offer higher interest rates.
Highest ratings pay lowest interest; junk bonds pay high interest but may default.
Session 3
Explain that a bond price-yield curve is shown on the slide. Bond prices go up faster than
they go down.
Convexity is a measure of the curvature of how the price of a bond changes as the interest
rate changes. Price changes in response to rising rates are smaller than price changes in
response to falling rates.
Ask participants: What is the significance of bond duration?
Answers:
Understanding how much a bond will move in response to changing interest rates allows
investors to buy, sell, or hold bonds according to how they think they will perform.
Investors can use duration to compare bonds with different issue and maturity dates,
coupon rates, and yields to maturity.
The self-study text includes additional content on bond duration. Tell participants that
although this content is not covered during class, they are expected to know it and should
study it on their own. Also state that if they have any questions, they can ask them during
the session review at the start of the next class session.
Session 3
Present the given information on the top of the slide to participants.

Then click to review the formula and calculations to perform the bond valuation exercise.
Steps:
1. Determine the annual interest (10% x $1,000 = $100).
2. Use the present value of an annuity table to discount the annual interest of
$100 at a discount rate of 8% for five years (PV of annuity factor = 3.993).
3. Use present value of $1 table to discount the face value of $1,000 at a discount
rate of 8% for five years (PV of $1 factor = 0.681)
4. Add the two present values together to determine the value of the bond.
Explain that:
• The value of the bond is $1,080.30 (the price an investor would pay for the
bond).
• This bond value is above the face value.
• Because the discount rate is lower that the coupon rate, the bond sells at a
premium.
• If the discount rate were higher than the coupon rate, the bond would sell at a
discount.
Session 4
Updated Slides
Session 4
Review the definition of common stock.

Explain that, collectively, common stockholders own the corporation. Shareholders may
liquidate their investments by selling stock in the secondary market. There is no guarantee
that investors will make money.
Review the following terminology:
• Market value per share is the current trading price of the stock.
• Dividends (payouts) represent a share of the profits; firms are not required to
pay dividends. Board of directors declares any dividends, usually paid
quarterly in cash or stock.
o Cash dividends are cash distributions (taxable).
o Stock dividends are paid as additional shares of stock, allowing the
firm to conserve cash while rewarding investors (no tax consequences
until shares are sold).
o Dividends in kind are paid in assets other than cash. In the past,
Wrigley Chewing Gum paid dividends in gum.
o Liquidating dividends are dividends that exceed the corporation’s
retained earnings (not taxable).
Dividends are an incentive to own stock. Firms with regular dividends are usually past the
growth phase. A reduction in dividends tends to lower the value of shares.
Session 4
Review the zero growth example.
Session 4
Review the variable dividend growth example.
Outline the scenario and calculation.
• The price of the common stock at the end of year 3 is $129.57.
• However, when the discounted values are summed, the estimated stock price
is $109.50.
Refer to the next slide for details.
Session 4
Review the preferred stock valuation formula.
Explain that knowing the dividend and discount rate makes the value of the preferred stock
a straightforward calculation.
Session 4
Review the basic dividend discount model formula.
Explain that the model assumes that an investor buys a common stock and plans to hold it
indefinitely (also known as an infinite period valuation model).
Session 4
Explain that the Black-Scholes and the binomial option models are two models often used
for option pricing.
Review the key assumptions and features for each model.
• The Black-Scholes option model (named after Fisher Black and Myron Scholes, who
developed it), assumes that the price of heavily traded assets follows a geometric
Brownian motion with constant drift and volatility.
• The binomial option model produces valuations for options through an iterative
mathematical computation. It traces the evolution of the option’s key underlying
asset using a binomial lattice (a tree).
Both the Black-Scholes and the binomial model approaches are considerably more complex
than using discounted cash flows for pricing forwards and futures. But in practice they are
not overly difficult to apply with the use of computer spreadsheets and scientific calculators.
In fact, the mathematical computations of the Black-Scholes model and the binomial model
are frequently very close to the actual option price. CMA candidates are expected to
demonstrate a basic understanding of the Black-Scholes and binomial option-valuation
models, but calculations are not required.
Session 4
Discuss the long-term financial instruments listed.
Add the following information about leases:
• Operating leases – Short-term, cancelable leases where the lessor bears risk of
ownership.
• Financial leases (full payout or capital leases) – Usually non-cancellable and fully
paid out (amortized) over its term and where the lessee bears the risks. That is, the
lessee bears the responsibility for maintenance, insurance, and taxes.
Session 4
Discuss the long-term financial instruments listed.
Topic 3: Financial Instruments.
Session 4
Review the information on the slide.
Note that the yield-to-maturity on a bond is the rate of discount that equates the present
value of all interest and principal payments with the proceeds of the bond.
Session 4
Review the cost of preferred stock formula and the example.
Explain that the cost associated with preferred stock is a function of the dividend paid (if
any) to shareholders and flotation costs.
When a corporation has more than one issue of preferred stock outstanding, the weighted
average rate on all preferred stock should be used. Flotation costs may be given as a
percentage of the issue. In example shown, the flotation costs were 2%. The denominator of
the cost of preferred stock would become Pp(1 – F%), where F is a percent, not a dollar
amount.
Explain that the cost of common equity is the expected, required, or actual rate of return on
the firm’s common stock, which, if earned, will leave the market value of the stock
unchanged. Of the many methods of estimating the cost of equity, the historical rate of
return, the dividend growth model, and the capital asset pricing model are considered.
Session 4
Explain that the Capital Asset Pricing Model (CAPM) implies that the rate of return on any
security equals the riskless rate of interest plus a premium for risk. The riskless rate is
usually based on the current or anticipated rate on long-term U.S. Treasury bonds or short-
term U.S. Treasury bills. The premium for risk is derived from the security’s beta.
Review the formula and the example on the slide.
Explain that estimating the cost of capital, especially when the cost of equity is involved, is
not exact. Decision-making about inputs and the different models themselves can result in
substantial differences in estimates.
Session 4
Explain that a choice exists about using weights based on the actual market or the target
market capital structure. Because target weights represent the best estimate of how the firm
will raise money in the future, they make sense if the firm is migrating toward the target
structure.
Session 4
Review the example.
The company can raise $60 million before having to issue external equity as the equity component of
its financing mix:
• $24 million in debt (0.40 x $60 million)
• $6 million in preferred stock (0.10 x $60 million)
• $30 million in internal equity (retained earnings — 0.50 x $60 million)
If the company has a capital budget greater than $60 million, it will need to use more expensive
common stock as the equity component and the marginal cost of capital will increase due to the
higher cost of common stock compared with retained earnings.
Session 4
Review the example.
Explain that the marginal cost of capital after $60 million increases to 8.776%.
Session 4
Review the MCC schedule and explain that:

• The MCC recognizes the responses of investors to increased financing requirements.
• The market imposes limits on different levels.
• Excessive levels lead to successively higher costs of capital.
Ask participants to explain how income taxes affect capital structure and capital investment
decisions.
Answers:
• Firms with large taxable income (unshielded from taxes) can possibly reduce taxes
through more debt financing―which increases the total cash flows distributed to
debt and equity holders.
• Firms with volatile operating earnings pose a higher business risk and lower the
probability that the firm will be able to use tax deductions from borrowing during
lower income years.
Session 5
Updated Slides
Session 5
Review the answers and add the following:

• Credit card point of sale – the cash (less the credit card fee) is available as soon as the credit card is
swiped.
• Collection points — Firms collect payments over the counter, through mail, and electronically (via
home banking, telecommunications, PCs, and the Internet). The more collection points available, the
shorter the collection float, especially if the points are near customers or Federal Reserve banks. More
collection points mean higher operating costs.
• Lockbox system — A bank directly receives all of a firm’s deposits and immediately deposits them
into the firm’s account. The arrangement sets up the bank’s post office box number for all remittances
but is transparent to customers because it shows the firm’s name. Firms can have the lockbox
photocopy all checks, attach a photocopy of the check to the remittance, or forward to the firm all
materials sent with the payment. Lockboxes ensure that deposits are handled the day they are
received, and they dramatically reduce processing float (possibly also mail and availability float). The
cost of the service is the main drawback. The additional cost must be weighed against the
float/availability savings.
• Electronic payment system — Facilitates a payment or transfer in an electronic format, guaranteeing
funds availability on the payment date.
o Automated clearing house (ACH) — Payment is processed and settled electronically,
increasing reliability, efficiency, and cost-effectiveness. In the U.S., the Federal Reserve (Fed)
is the main operator. Can send more payment information than a check.
o Fedwire — The Fed’s funds transfer system, operating in real time between Fed bank
accounts. True same-day settlement at greater cost.
• Concentration banking system — Systematic transfer of deposits from field banks/lockboxes to firm’s
disbursement bank. Creates centralized inventory of liquid reserves; reduces idle balances, improves
control over cash flows, eases investments. Banks may require a compensating balance — a non-
interest-bearing deposit held in a firm’s deposit accounts to defer costs of service charges, lines of
credit, or investments. This is held as a percentage of the total commitment, the unused amount of the
commitment, or outstanding borrowings.
Session 5
Review the types of securities and their descriptions.
Session 5
Review the types of securities and their descriptions.
Session 5
Explain that credit terms stipulate the form and timing of payment extended to a customer
for the receipt of goods and services as well as the discount terms (if any). The credit period
is the net due date. Discount terms state the cash discount given if paid within a specified
time. The cash discount is the percentage reduction for early payment, for example, 5/10
net 30 means a 5% discount if paid within 10 days and the net amount is due within 30
days.
Review the information on the slide and add the following:
• Open account (open book credit) – Customer receives an invoice for each transaction
or a monthly statement of all invoices; most common type of credit.
• Installment credit – Large-value consumer purchases such as automobiles.
• Revolving credit – Good standing implies credit outstanding is below an established
limit and payments are current.
• Letter of credit (L/C) – Commonly used for import/export transactions; buyer pays
a fee for opening an L/C.
Session 5
Review the assumptions made in EOQ and the weaknesses of EOQ.
The EOQ model can only be used for items that have independent demand. It cannot be
used for items with imputed (dependent) demand. Items with imputed demand are those
that are components of another item. An example would be the pistons for an engine.
The self-study text includes additional content on EOQ. Tell participants that although this
content is not covered during class, they are expected to know it and should study it on their
own. Also state that if they have any questions, they can ask them during the session review
at the start of the next class session.
Session 5
Remind the students that the basic principles of JIT inventory and Kanban are covered in
Part 1, Section C of the CMA Learning System, Topic 4: Operational Efficiency.
Review the definition of JIT inventory.
Remind the students that kanban is Japanese term meaning a visual record or a card
identifying a part, quantity, or delivery location. Workers use a kanban to signal the need
for a specified quantity of materials. Workers respond only after receiving a kanban.
Refer to the illustration:
• Click to show an employee in charge of Step B raises a kanban, or sign,

indicating that a desired number and type of part should be sent from the
previous production line step, Step A.
• Click to show Step A producers then generate the part only after the demand
has been signaled.
Session 5
Explain that trade credit is a source of short-term financing created when a supplier grants
credit terms to customers on purchases. It generally provides the largest source of short-term
credit for small firms when compared with the other possible responses.
Session 5
Explain that with trade credit, the amount of short-term financing cost the firm saves
depends on the days of credit. For example, if a firm were to use credit worth $1,000 for 30
days rather than borrowing that amount from another source at a cost of 2%, the firm would
save $2 ($1,000 × 0.02).
Session 5
Explain that the calculation shows the effective interest rate cost of not taking (the
opportunity cost of giving up) a cash discount. The customer must weigh the discount
against the option of using the trade credit and decide whether it is beneficial to take the
discount and pay early.
In this example, it would be slightly cheaper to delay payment until the net is due than to
borrow funds to pay the debt early.
Session 5
Explain that banks charge interest for short-term bank loans and may have other fees:
• The principal interest rate is a spread added to a base rate such as prime, the British
Bankers’ Association London Interbank Offered Rate (LIBOR), or the Fed funds
rate. Banks evaluate the customer’s ability to repay the loan, and the rate reflects the
bank’s assessment of loan risk. Variable rates are the most common; they keep the
same spread but the base rate changes.
• The commitment fee is a fee for holding lines of credit or revolvers open; it is some
percentage of the line or its unused portion.
• The compensating balance is a percentage of the loan the bank may require the
borrower to hold on deposit without earning interest or offsetting other service.
Session 5
Explain Step 1: Computing the lessor’s amount to be amortized, for the example.
Suppose a lessor desires to lease out a piece of equipment costing $100,000 for five years
with five annual lease payments, each made at the beginning of the year. The lessor will
depreciate the asset straight line (with 0 salvage) over five years both for book and tax.
However, the asset can be sold by the lessor at the end of its life for $10,000. Assuming the
lessor requires an 11% return on its investment and faces a 40% effective tax rate, what
would be the required lease payment?
Session 6
Updated Slides
Session 6
Explain that the comparative P/E ratio method sets the exchange of purchaser stock for
target company stock so as to obtain a desired post-merger P/E ratio.
For example, the ABC Corp. is considering acquiring XYZ Co. in a stock-for-stock
exchange. Financial data for the two companies is shown.
Ask participants: If no synergistic benefits are expected, what is the maximum exchange
ratio ABC should agree to if it wants to have no dilution in EPS?
Click to display answer: For this to occur, the combined EPS would have to be $5.00. To
maintain the $5.00 earnings per share, the combined number of common shares outstanding
would have to be 8 million―the $40 million in combined net income divided by the
required $5.00 EPS. ABC would trade 2 million of its shares for 4 million XYZ shares
resulting in a 1 for 2 (0.5 to 1) exchange ratio.
Topic 7: Corporate Restructuring.
Session 6
Explain that like other commodities, currencies can depreciate or appreciate in value in the
global marketplace. When a currency appreciates in value, it has more buying power in
relation to another specific currency. When it depreciates in value, it has less buying power
in relation to another specific currency.
Provide the following example:
Shortly after World War II, the exchange rate between US dollars and British pounds was
about 4 dollars to the pound. The pound gradually depreciated against the US dollar until at
one point in the 1990s, the two currencies were very nearly equal in value. The dollar then
began depreciating against the pound until the pound rose to about 2 USD per GBP.
Session 6
Explain that there are varying views on the consequences, positive and negative, of the
current system of floating exchange rates.
Click to display the positive view, and discuss.
Click to display the negative view, and discuss.
Session 6
Explain that the price of a product is relative to the currency with which the consumer will
purchase the product.
Review the example on the slide.
Point out that the exchange rate, which fluctuates, can vary from day to day.
Session 6
Ask participants to calculate the answer for rate of return, click to reveal the answer.
Ask: Does that make Country B the best choice?
Explain that if rate of return were the only consideration, Country B would be the easy
choice for the new location. But Country B, with its standard deviation of 13 percent,
involves greater risk. The company needs to determine the correlation coefficients and come
up with standard deviations for the two potential combinations of domestic and overseas
operations. It is quite possible that Country B, although riskier when considered alone, may
tend to counterbalance Luxury Luggage’s weak domestic quarters with its own stronger
quarters, so that the two operations together have a lower standard deviation than either one
separately.
Session 7
Updated Slides
Session 7
Explain that CVP analysis is a decision making tool that is used to assess the financial
impact that a change in cost or volume will have on profit.
Thus, CVP is concerned not only with costs, but also revenues.
• Revenues are inflows of assets received in exchange for products or services.
• Similar to a cost driver, a revenue driver is a factor affecting revenues. Examples
include:
o Marketing costs
o Selling price of units
o Number of units sold
• Activity level may also be called the output level, measure of output, or output. It
refers to the number of units produced or sold during a period.
Different industries may refer to the activity level in different ways.
Ask: For example, how might a hospital refer to activity level?
Answer: patient days or beds occupied.
Ask participants how they refer to activity levels in the companies in which they work.
Remind participants of the formulas for contribution margin and contribution margin ratio.
These can be computed on a per-unit basis or using total revenue and expense figures.
Session 7
Explain that these three terms are defined by mathematical formulas.

Click to display each of the three formulas.
Ask participants to provide an alternate formula for calculating net operating income, then
click to reveal the answer.
Ask participants if they have any questions on any of the terms covered so far.
Session 7
Review the formula and example for the contribution margin method.
The contribution margin method is an algebraic adaptation of the equation method.
Contribution margin represents the amount remaining from sales revenue after variable
expenses are deducted. It is found by taking revenues and subtracting all costs of the output
that vary with respect to the number of output units.
Session 7
Explain that the contribution margin percentage may also be calculated as contribution
margin divided by total revenues.
Review the example for 40 packages sold.
Session 7
Ask participants to answer this break-even question, then click to reveal the answer.
Note that in this problem, all the information was provided, but they had to calculate total
fixed costs as they were provided per unit. In the exam, it is not unusual to have to calculate
needed information.
Ask if they have any questions about break-even analysis before moving on to profit
performance.
Session 7
Explain that break-even analysis may be modified to analyze how many units must be sold
in order to earn a target profit level, either targeted operating income or targeted net
operating income.
Instead of assuming zero profit, the equation is modified to include a target profit. Thus,
revenue must be generated to cover all costs and have a certain amount left over as profit.
Review the formula and example on the slide. Here operating income is set to $8,000. In the
break-even analysis, it was set at zero dollars.
Session 7
Explain that this material can be tested in various ways. The question on this slide is one
possible variation.
Give participants time to solve the question. Answer is shown on the next slide.
Session 7
Explain that net operating income is often represented by operating income minus
income taxes.
Review the information on the slide. Note that this is the same as the last Targeted
Operating Income example except that they are now solving for a different definition of
operating income, and this time focusing on after tax or net operating income. Notice
that the number of units to achieve a net operating income of $8,000 is 138.66 units vs.
only 96 units to achieve a target operating income of $8,000.
Session 7
Explain that assuming the proportion of sales of Product A to Product B (the sales mix) will
remain constant, a break-even point and be calculated.
Review the formula and example. Go back to the previous slide if needed.
Note that it is the same general equation that was worked with before to calculate the break-
even point, but now they are working with total revenues and total costs in order to
incorporate the effect of the sales mix.
Point out that when you solve for S you have not solved the entire problem because S equals
only the quantity for Product B. Product A = 3S and the total for Products A and B is the
total units needed to break-even.
While this equation concentrates on monetary analysis, many factors aside from a unit’s
contribution margin can influence a sales mix decision.
Session 7
The answer appears on the next slide.
Session 7
Ask participants to answer the question on this slide. The answer appears on the
following slide.
Session 7
Ask participants to answer the question. The answer appears on the next slide.
Session 7
Review the answer.

Explain the trick to solving this question is to identify the relevant costs.
Ask if there are any additional questions about make vs. buy decisions.
Session 8
Session 8
Session 8 Exercise 1 Solution: Break-Even and Special Order

A. The break-even point in units is:
Fixed costs: $320,000 (cost of goods sold) + $20,000 (selling and administrative expenses) =
$340,000
Variable costs: $800,000 (cost of goods sold) + $100,000 (selling and administrative expenses) =
$900,000 total variable costs
$900,000
Variable cost per unit: = $22.50 per unit
40,000 units
Contribution margin per unit: $40.00 (selling price per unit) – $22.50 (variable cost per unit) =
$17.50 per unit
Break-Even in Units:
Total Fixed Costs $340,000
= = 19,429 units
Contribution Margin Per Unit $17.50
B. Special order cost analysis:

A special order is a one-time order that is not considered part of the company’s normal ongoing
business. To analyze the special order, it is necessary to focus on the relevant costs associated
with the decision. Only the incremental revenue and costs are relevant to this decision.
Relevant revenue:
Revenue related to special order (6,000 units x $25.00) $150,000
Relevant cost:
Cost associated with the special order
(Variable costs directly related to producing this order)* 131,760
Increase in revenue from special order: $ 18,240
Yes, the special order should be accepted, since the increase in revenue is greater than the
increase in costs associated with the order.
*Variable cost per unit for special order:

Original variable cost adjusted for changes to variable cost structure = $22.50 – $0.54 = $21.96
6000 units x $21.96 = $131,760
Session 8
Explain that this and the next three slides illustrate costing and pricing for a one-time
special order with a quick turnaround.
Assume that excess capacity is available so the order will have no impact on existing
sales. The table on the slide shows current variable and fixed costs per unit for a
normal production run of 100,000 units. The variable manufacturing overhead ($8)
represents utility costs.
The next slide shows a detailed breakdown of the $10 fixed manufacturing costs.
Session 8
Explain that this graph displays both the supply and demand curves for televisions.
Ask: Where does the equilibrium point lie? Click to reveal the equilibrium point on the slide
and the explanation.
Discuss the results of the interaction between quantity supplied and quantity demanded:
equilibrium.
Explain that the equilibrium point is associated with two measures: equilibrium price and
equilibrium quantity.
Note the following:
• The demand equation is P = 700 - .1Q
• The supply equation is P = 50 + .1Q
Solving the two questions simultaneously yields P = 375 and Q = 3,250 at the intersection
(equilibrium).
Session 8
Ask participants to answer the question on the slide, then click to reveal the answer.
Explain that Value at Risk is a forward-looking concept. If it were retrospective you

would know what had happened and there would be no risk.
Session 9
Session 9
Explain that in cost of capital:
Proportional average of the individual costs of each type of a firm’s financing components
(cost of common stock, preferred stock, debt, etc.).
The cost of capital can be applied as the discount rate to evaluate the present value of
project cash flows.
The cost of capital may also be used as the basis for the required rate of return or for
comparison against a project’s internal rate of return.
Session 9
Explain that:
• The weighted average cost of capital (WACC) calculates the relative importance of
each source in the total capital structure of a firm.
• WACC is used to evaluate the cost of capital investments that have risk profiles
consistent with the firm’s overall risk profile.
• Review the formula on the slide.
• This formula assumes that only debt and equity are components of the firm’s
financing structure. The formula on the previous slide is very similar to this formula,
it just includes all methods of financing in the formula.
Session 10
Session 10
Review the advantages and disadvantages of the payback method. Click to display the
advantages. Click again to display disadvantages.
Add that in some situations the quick measures of liquidity and risk highlight the risk of
losing a capital investment in a high-risk situation. In a rough sense, shorter payback periods
indicate less-risky projects; they also grant flexibility because funds for other projects are
available sooner. Payback can provide only a partial picture, so it is best used in conjunction
with other measures.
Session 10
Explain the steps involved in calculating the Discounted Payback period. Note the
calculation of the fractional amount of Year 4.
Discuss how it is logical that the payback period would be longer under the discounted
method because each dollar is worth less in each year after the initial investment.
Session 10
Explain that capital rationing refers to situations in which there is some constraint on a
firm’s investment program that limits the total amount of capital expenditures that can be
made in a given period. A capital rationing limit is an amount set by the firm constraining
capital expenditures for the period to that amount.
Review the example on the slide and discuss the following:
• Based on the Year 0 investment amount, the firm can invest either in Project A or in
Projects B and C.
• Although Projects B and C individually have lower net present values than Project
A, they collectively have the higher net present value ($28,000 for B and C versus
$21,400 for A).
Session 10
Explain that the profitability index (PI or benefit-cost ratio) compares the net present value
of future cash flows with the initial investment on a relative basis.
Review the formula for Profitability Index and example.
• Note that most of the time (as in this case), the NPV method and the PI result in the
same accept/reject decision.
• However, they usually rank alternative projects in different orders.
• Generally, projects with a PI greater than or equal to 1.0 are acceptable, and projects
below 1.0 are rejected.
Session 10
Explain that NPV has the advantage of expressing the net dollar contribution of a project
whereas PI provides only a measure of profitability.
Although PI has the advantage of simplicity, it has the limitation that it cannot be used
when more than one resource is being rationed over multiple periods.
Note that this example continues the assumption of a capital rationing limit of $10,000 and a
desired rate of return of 10%.
Review the example. It shows how the PI cannot be used when capital is being rationed over
more than one period.
Session 10
Session 10 Exercise 4: Profitability Index

Section D, Topic 4: Ranking Investment Projects
The Raines Company is evaluating the following three capital investment projects:
Project Cash Inflow Cash Inflow Cash Inflow Present Value of

Year 0 Year 1 Year 2 Cash Flows at 10%
A –$100,000 $100,000 $50,000 $132,200
B –50,000 50,000 200,000 210,650
C –50,000 50,000 150,000 169,350
The company has a $100,000 capital rationing limit. Calculate the profitability index for each
project and determine which project will generate the most money from the limited capital
available.
Note: Round all calculations to two decimal places (e.g., 1.54).
Session 10
Session 10 Exercise 4 Solution: Profitability Index

Correct answer: 4.21
The formula to determine profitability index (PI) is:
PV of Future Cash Flows

Profitability Index =
Total Initial Investment
Given the following information for the three projects, calculate the profitability index for each
one.
Project Investment Present Value of Profitability

Cash Flows at 10% Index
A $100,000 $132,200
B 50,000 210,650
C 50,000 169,350
The profitability index for each project is shown below.
Project Investment Present Value of Profitability

Cash Flows at 10% Index
A $100,000 $132,200 1.32
B 50,000 210,650 4.21
C 50,000 169,350 3.39
Project B has the highest profitability index, with 4.21. But given the capital rationing limit of
$100,000, projects B and C can both be recommended over project A because together they have
greater net present value and can provide the highest level of return without exceeding the
constraint.
Session 11
Updated Slides
necessary and in alignment with the CMA Exam
Session 11
Explain that analysis of earnings quality must look at the validity and veracity (truthfulness)
of the reported information. It identifies the results of management choices on financial
statements and judges management’s motivations, propensities, and attitudes.
The basic factors of earnings quality include:
• Selection of accounting principles
o Conservative accounting is less likely to overstate earnings, so the quality of
earnings is higher.
o Excessive conservatism is not desirable because it may result in a lack of
reporting integrity over the long run.
• Provision for maintenance of assets and future earnings power
o Management can put off discretionary expenses to show higher earnings, such
as repairs and maintenance.
o This may have a negative effect on earnings in the long run.
• Effect of economic forces on earnings
o Skillful management can minimize the effects of business cycles on the
stability of sources and variability of earnings.
o A higher variability of earnings indicates lower quality of earnings.
• Accounting estimates
o Management’s accounting estimate decisions can impact reported income.
o Accounting estimates are difficult to quantify, providing the opportunity to
report a wide range of earnings.
Session 11
Review advantages and disadvantages of using the PE ratio as a valuation tool.
Click to display the advantages of PE ratio, then click to display the disadvantages.
Session 12
Session 12
Emphasize that it is very important in answering an essay question to show all the
thinking and calculations. By including in the response the steps they are taking to
arrive at the answer, they give the graders the opportunity to award points, even if
the answer is incomplete or if the final answer is incorrect.

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CMA Learning System, Version 3.

Explain that this is a vertical common-size balance sheet.

Ask participants to answer the question.

Ask participants to answer the question.

Review the formula for working capital.

Click to reveal the answer.

Click again to show calculation.

Explain the right and wrong answers.

Explain the formula for the quick, or acid test, ratio.

Click to reveal the answer.

Allow participants a moment to calculate ABC Company’s cash flow ratio.

Click to reveal the answer.

Click again to review calculation.

Click to show the answer.

Click again to review calculation.

Point out that the focus here will be on financial leverage.

Allow participants time to calculate the answer to the question.

Click to reveal the answer.

Click again to review calculation.

Discuss the link between debt and interest payments.

Click to reveal each of the four bullet points.

Stress the point that interest costs are fixed costs.

Review the formula for the accounts receivable turnover ratio.

Click again to review calculation.

Review the equation for calculating diluted earnings per share.

Click to show answer.

Click to show how to solve.

Review the calculation for Price Earnings Ratio.

Review the formula for the dividend payout ratio.

“Idle or unused assets” are not included in the investment base.

Review the three profit margin ratios.

Review the formulas for ROE.

Session 2 Exercise: Financial Statement Analysis Ratios

Accounts payable $3,700 $3,400

Common stock ($1 par value) 2,700 2,700

Total liabilities and shareholders’ equity $17,000 $16,000

Session 2 Exercise Solution: Financial Statement Analysis Ratios

Review the formula for book value per share.

Allow participants a moment to calculate the answer to the question.

Click to reveal the answer.

Click again to review calculation.

Briefly review the concept of leasing.

Discuss the difference between operating leases and capital leases.

Click to reveal each answer:

1. If the lease life exceeds 75% of the life of the asset

1. Collection of lease payments

2. No significant additional costs related to the lease.

Ask participants if they have questions on the material in Session 2.

Review the Section 2 content

Review the expected return and standard deviation calculation example.

Discuss the answer as well as what the answer implies.

Review the formula listed on the slide.

Short-term bonds – two to five years.

Medium-term (intermediate) bonds – five to 10 years.

Long-term bonds – 10 to 30 years.

Discuss the common types of bonds listed.

Bond ratings apply to the issue, not the company.

US T-Bonds are not rated (zero default risk).

Ask participants: What is the significance of bond duration?

Present the given information on the top of the slide to participants.