Financial Analyst interview questions

The income statement shows a company's revenue, expenses, and profit over a period.

• Revenue minus cost of goods sold gives gross profit.
• Subtracting operating expenses gives operating profit, or EBIT.
• Interest, taxes, and other non-operating items bridge EBIT to net income.
• Unlike the balance sheet, it covers a month, quarter, or year rather than one date.

The balance sheet shows what a company owns, owes, and has funded with equity at a specific date.

• Assets include cash, receivables, inventory, and property, plant, and equipment.
• Liabilities include payables, accrued expenses, and debt.
• Equity includes contributed capital and retained earnings.
• The statement must satisfy Assets = Liabilities + Equity.

The cash flow statement groups changes in cash into operating, investing, and financing activities.

• Operating activities cover cash generated or used by the core business.
• Investing activities include purchases and sales of long-term assets or investments.
• Financing activities include debt, share issuance, repayments, dividends, and buybacks.
• The three sections reconcile beginning cash to ending cash on the balance sheet.

Net income links the income statement to both retained earnings and operating cash flow.

• It is the bottom line of the income statement.
• Net income less dividends increases retained earnings in equity.
• Under the indirect cash flow method, operating cash flow starts with net income.
• Non-cash items and working-capital changes then adjust net income to cash from operations.

Depreciation lowers accounting profit without creating a current-period cash outflow.

• It reduces operating profit and net income on the income statement.
• The indirect cash flow statement adds depreciation back in operating activities.
• Accumulated depreciation reduces the carrying value of property, plant, and equipment.
• The lower net income also reduces the addition to retained earnings.

A capital expenditure initially creates a long-term asset and an investing cash outflow.

• Cash falls and property, plant, and equipment rises on the balance sheet.
• The purchase appears as an investing outflow on the cash flow statement.
• The full purchase price is not recorded as an immediate operating expense.
• Depreciation spreads the asset's cost through future income statements.

A credit sale records revenue before the customer pays cash.

• Revenue and net income increase on the income statement, assuming recognition criteria are met.
• Accounts receivable increases on the balance sheet instead of cash.
• Retained earnings rises through the higher net income.
• Under the indirect method, the receivables increase is subtracted from operating cash flow.

Selling inventory records both revenue and the cost of the units sold.

• Revenue increases by the selling price.
• Cost of goods sold increases by the inventory's recorded cost.
• Inventory decreases on the balance sheet by that recorded cost.
• The difference between revenue and cost of goods sold is gross profit.

Issuing debt increases cash and debt by the amount borrowed.

• Cash rises within assets and debt rises within liabilities.
• The borrowing is a financing inflow on the cash flow statement.
• Issuing principal does not create revenue on the income statement.
• Interest expense affects future net income as interest accrues.

A linked model should balance and reconcile its major opening and closing balances.

• Assets minus liabilities and equity should equal zero in every period.
• Beginning cash plus net cash flow should equal ending cash.
• Beginning retained earnings plus net income less dividends should equal ending retained earnings.
• Debt and fixed-asset closing balances should match their supporting schedules.

Accrual accounting records economic activity when it is earned or incurred, while cash accounting records it when cash moves.

• A credit sale creates accrual revenue before the customer pays.
• An unpaid utility bill creates an accrual expense before payment.
• Accrual accounting uses receivables, payables, prepayments, and deferrals.
• This timing difference is why net income can differ from operating cash flow.

Revenue is recognized when the company satisfies its performance obligation, not simply when cash arrives.

• A completed service can create revenue and a receivable before payment.
• Cash collected before delivery is generally recorded as deferred revenue, a liability.
• As the promised service is delivered, deferred revenue moves into revenue.
• The recognition period should reflect when the customer receives the promised good or service.

A prepaid expense starts as an asset and becomes an expense as the benefit is consumed.

• Paying a 12-month insurance policy upfront reduces cash and creates prepaid insurance.
• Each month, one twelfth moves from the prepaid asset to insurance expense.
• The monthly expense reduces net income in the period receiving the benefit.
• This treatment matches expense recognition to the coverage period.

An accrued expense is a cost recognized before the related cash payment or supplier invoice is settled.

• Employee wages earned before month-end can create wages expense and an accrued liability.
• The entry records the cost in the period when employees performed the work.
• Paying the accrual later reduces cash and the liability without recording the same expense again.
• Accruals help prevent understated expenses and liabilities at period-end.

Accounts receivable is money customers owe the company, while accounts payable is money the company owes suppliers.

• Receivables are current assets created by credit sales.
• Payables are current liabilities created by purchases on supplier credit.
• Collecting a receivable converts it to cash without creating new revenue.
• Paying a payable reduces cash and the liability without creating a new expense.

Net working capital measures short-term operating resources tied up in the business.

• The broad formula is current assets minus current liabilities.
• For operating analysis, analysts often exclude cash and short-term debt.
• Receivables and inventory usually increase operating working capital.
• Payables and accrued operating liabilities usually reduce it.

Days sales outstanding estimates how many days the company takes to collect credit sales.

• A common formula is average accounts receivable divided by credit revenue, multiplied by days in the period.
• For an annual calculation, the multiplier is usually 365.
• A rise in DSO means more cash is tied up in receivables, all else equal.
• The metric should use credit sales when that data is available.

Days inventory outstanding estimates how long inventory remains on hand before it is sold.

• A common formula is average inventory divided by cost of goods sold, multiplied by days in the period.
• Cost of goods sold is used because inventory is carried at cost, not selling price.
• A higher DIO generally means cash stays tied up in stock longer.
• The metric is most useful when compared with similar periods or businesses.

Days payable outstanding estimates how long the company takes to pay suppliers.

• A common formula is average accounts payable divided by supplier purchases, multiplied by days in the period.
• Cost of goods sold is sometimes used as a proxy when purchases are unavailable.
• A higher DPO preserves cash longer because supplier liabilities remain unpaid.
• Excessively high DPO can also signal late payment rather than better operations.

The cash conversion cycle estimates the days between paying for inputs and collecting cash from customers.

• The formula is DSO plus DIO minus DPO.
• DSO captures collection time and DIO captures inventory holding time.
• DPO is subtracted because supplier credit delays the cash payment.
• A shorter cycle generally means less cash is tied up in operations.