Chartered Financial Analyst (CFA) Practice Exam Level 2

Which index in the Benish Model indicates a higher chance of earnings manipulation?

1. Days Sales Receivable

2. Sales Growth Index

3. Leverage Index

4. Gross Margin Index

The correct answer is: Days Sales Receivable

In the Benish Model, the index that indicates a higher chance of earnings manipulation is the Days Sales Receivable. This metric assesses how quickly a company collects cash from its credit sales. An unusually high number of days sales receivable can signal potential manipulation, as it might suggest that a company is stretching its collection periods or inflating its revenue figures by recognizing sales that are not yet collectible. When a company's Days Sales Receivable is high, it could imply that the company is experiencing difficulties in collecting payments from customers, which may lead to inflating revenue figures to hide underlying issues. This can be a red flag for investors as it may indicate that the company's earnings are not as robust as reported. In contrast, the other indices—Sales Growth Index, Leverage Index, and Gross Margin Index—serve different analytical purposes, focusing on aspects such as revenue growth relative to industry standards, a company’s level of debt, and the profitability of sales, respectively. While these indices are important for assessing a company's financial health, the Days Sales Receivable specifically links to the timing and realization of sales revenue, making it a crucial indicator of potential earnings manipulation.