NISM Series XV · Unit 8 of 15 · about 12% of the paper
Company analysis: financial analysis: NISM Series XV notes and practice questions
The core of the analyst's craft: reading financial statements and ratios. Expect many calculation questions.
What to know in Unit 8
- Profitability, liquidity, leverage and efficiency ratios.
- DuPont analysis.
- Cash flow statement.
- Quality of earnings.
Key terms, examples and exam traps
Income statement
The income statement reports revenue, expenses and profit over a period, showing how sales become net profit.
Example. An analyst studies a company's sales and profit for the year.
Exam trap. This statement is false: The income statement shows assets and liabilities.
Balance sheet
The balance sheet shows a company's assets, liabilities and shareholders' equity at a point in time; assets equal liabilities plus equity.
Example. A snapshot of what the company owns and owes on 31 March.
Exam trap. This statement is false: The balance sheet shows cash flows for a year.
Cash flow statement
The cash flow statement reports cash from operating, investing and financing activities, showing how cash moved.
Example. An analyst checks whether profits convert into cash.
Exam trap. This statement is false: The cash flow statement lists only dividends.
EBITDA
EBITDA is earnings before interest, tax, depreciation and amortisation, a proxy for operating performance before capital structure and non-cash charges.
Example. A firm's operating profit before depreciation and financing cost.
Exam trap. This statement is false: EBITDA is the net profit after tax.
Net profit margin
Net profit margin is net profit divided by revenue, showing how much of each rupee of sales becomes profit.
Example. Profit of ₹10 crore on revenue of ₹100 crore is a 10% margin.
Exam trap. This statement is false: Net profit margin is profit divided by equity.
Return on equity
ROE is net profit divided by shareholders' equity, showing the return earned on owners' funds.
Example. A firm earns ₹20 crore on equity of ₹100 crore.
Exam trap. This statement is false: ROE is net profit divided by total assets.
Return on capital employed
ROCE is EBIT divided by capital employed (equity plus debt), measuring returns on all capital in the business.
Example. EBIT of ₹30 crore on capital employed of ₹150 crore gives 20%.
Exam trap. This statement is false: ROCE uses only shareholders' equity in the denominator.
Current ratio
The current ratio is current assets divided by current liabilities, showing short-term liquidity.
Example. A firm with current assets of ₹200 crore and current liabilities of ₹100 crore has a ratio of 2.
Exam trap. This statement is false: The current ratio measures long-term debt.
Quick ratio
The quick ratio excludes inventory from current assets and divides by current liabilities, a stricter test of liquidity.
Example. An analyst removes stock from current assets before testing liquidity.
Exam trap. This statement is false: The quick ratio includes inventory.
Debt-to-equity ratio
The debt-to-equity ratio is total debt divided by shareholders' equity and shows financial leverage.
Example. A company with ₹300 crore debt and ₹200 crore equity has a ratio of 1.5.
Exam trap. This statement is false: Debt-to-equity is profit divided by equity.
Interest coverage ratio
Interest coverage is EBIT divided by interest expense, showing how comfortably a company can pay interest.
Example. EBIT of ₹60 crore against interest of ₹20 crore gives 3 times.
Exam trap. This statement is false: Interest coverage is debt divided by equity.
Asset turnover
Asset turnover is revenue divided by total assets and shows how efficiently assets generate sales.
Example. A firm generates ₹2 of sales for every ₹1 of assets.
Exam trap. This statement is false: Asset turnover measures profit per share.
Inventory days
Inventory days is average inventory divided by cost of sales times 365, showing how long stock sits before being sold.
Example. A firm holds stock for 60 days on average.
Exam trap. This statement is false: Inventory days measure how long customers take to pay.
Receivable days
Receivable days measure the average time taken to collect payment from customers.
Example. A firm waits 75 days to collect its dues.
Exam trap. This statement is false: Receivable days measure the time taken to pay suppliers.
Cash conversion cycle
The cash conversion cycle is inventory days plus receivable days minus payable days, showing how long cash is tied up in operations.
Example. A shorter cycle means cash returns to the business faster.
Exam trap. This statement is false: A longer cash conversion cycle is always better.
Free cash flow
Free cash flow is cash from operations minus capital expenditure, representing cash available to investors after sustaining the business.
Example. A company generates ₹100 crore from operations and spends ₹40 crore on capex.
Exam trap. This statement is false: Free cash flow equals net profit.
Operating leverage
Operating leverage reflects the share of fixed costs in total costs; higher fixed costs magnify the effect of sales changes on profit.
Example. A small rise in sales produces a large rise in profit for a firm with big fixed costs.
Exam trap. This statement is false: Operating leverage measures debt in the capital structure.
Quality of earnings
Earnings are high quality when they are backed by cash flows, repeatable and not inflated by one-offs or aggressive accounting.
Example. A company's profit is consistently supported by operating cash flow.
Exam trap. This statement is false: Earnings quality is judged by the size of one-off gains.
Common-size statements
Common-size statements express every line as a percentage of a base such as revenue, making comparison across firms and years easier.
Example. An analyst expresses each cost as a share of sales.
Exam trap. This statement is false: Common-size statements show absolute amounts.
Ind AS
Indian Accounting Standards converge with international standards and govern how listed Indian companies prepare financial statements.
Example. A listed company follows standards aligned with IFRS.
Exam trap. This statement is false: Ind AS applies only to banks.
Earnings per share
EPS equals profit after tax available to equity shareholders divided by the weighted average number of shares.
Example. Profit of ₹100 crore on 20 crore shares is ₹5 per share.
Exam trap. This statement is false: EPS is the dividend per share.
Working capital
Working capital is current assets minus current liabilities and shows the funds tied up in day-to-day operations.
Example. A firm's short-term assets exceed its short-term obligations by ₹50 crore.
Exam trap. This statement is false: Working capital is long-term debt.
6 practice questions
Read each question and choose your answer before opening the free mock, which shows the correct answer and the reason.
Q1. Which term is described here? Free cash flow is cash from operations minus capital expenditure, representing cash available to investors after sustaining the business.
- Free cash flow
- On-balance volume
- Porter's five forces
- Board independence
Q2. Which term is described here? The debt-to-equity ratio is total debt divided by shareholders' equity and shows financial leverage.
- Merger
- Reasonable basis
- CPI and WPI
- Debt-to-equity ratio
Q3. Which statement best describes “Inventory days”?
- The trading restrictions and disclosure duties also apply to an analyst's associates and relatives where specified in the regulations.
- The current ratio is current assets divided by current liabilities, showing short-term liquidity.
- Inventory days is average inventory divided by cost of sales times 365, showing how long stock sits before being sold.
- Elliott wave theory proposes that markets move in repeating waves of five impulse and three corrective moves, although interpretation is subjective.
Q4. Which statement best describes “Net profit margin”?
- Net profit margin is net profit divided by revenue, showing how much of each rupee of sales becomes profit.
- Support is a price level where buying interest is strong enough to stop a decline temporarily.
- Jensen's alpha is the return in excess of the CAPM-predicted return, showing a manager's value addition.
- Triangles are consolidation patterns where price ranges narrow; ascending triangles often break upward and descending ones downward.
Q5. Which statement best describes “Cash flow statement”?
- The cash flow statement reports cash from operating, investing and financing activities, showing how cash moved.
- A buyback is the repurchase of a company's own shares, reducing the share count and returning cash to shareholders, through tender offer or open market.
- Monetary policy is the central bank's use of interest rates and liquidity tools to manage inflation and growth.
- Listed companies must make continuous disclosures under the SEBI listing regulations, which are the primary source of information for analysts.
Q6. Which statement best describes “Receivable days”?
- Receivable days measure the average time taken to collect payment from customers.
- Corporate governance is the system of rules and practices by which a company is directed and controlled, protecting shareholders' interests.
- A price move accompanied by rising volume is considered more reliable than one on thin volume.
- An open offer requires an acquirer who crosses the 25% trigger or acquires control to offer to buy shares from public shareholders under SEBI takeover rules.
Frequently asked questions
How much of NISM Series XV comes from Unit 8?
Unit 8 (Company analysis: financial analysis) usually carries about 12% of the questions. The whole exam has 100 questions and the pass mark is 60%.
What should I study in NISM Series XV Unit 8?
Profitability, liquidity, leverage and efficiency ratios. DuPont analysis. Cash flow statement. Quality of earnings.
Are these NISM Series XV practice questions free?
Yes. Take the full free mocks to see the correct answer and the reason for every question.
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