Question 1

Which of the following would generally indicate an improvement in a company's financial position,holding other things constant?
A) The TIE declines.
B) The DSO increases.
C) The quick ratio increases.
D) The current ratio declines.
E) The total assets turnover decreases.

Accepted Answer

An increase in the quick ratio indicates an improvement in a company's ability to pay its short-term obligations using its most liquid assets (cash and marketable securities), while excluding inventory and prepaid expenses. This is generally viewed as a positive sign for a company's financial position. The other options listed would generally indicate a decline in a company's financial position.

Question 2

A firm wants to strengthen its financial position.Which of the following actions would increase its current ratio?
A) Reduce the company's days' sales outstanding to the industry average and use the resulting cash savings to purchase a new plant and equipment.
B) Use cash to repurchase some of the company's own stock.
C) Borrow using short-term debt and use the proceeds to repay debt that has a maturity of more than one year.
D) Issue new stock,then use some of the proceeds to purchase additional inventory and hold the remainder as cash.
E) Use cash to increase inventory holdings.

Accepted Answer

The current ratio is calculated as current assets divided by current liabilities. Issuing new stock increases cash (a current asset), and using some of the proceeds to purchase additional inventory also increases current assets, while holding the remainder as cash further increases current assets without increasing current liabilities, thus improving the current ratio.

Question 3

One problem with ratio analysis is that relationships can be manipulated.For example,we know that if our current ratio is less than 1.0,then using some of our cash to pay off some of our current liabilities would cause the current ratio to increase and thus make the firm look stronger.

Accepted Answer

The key here is to recognize that if the CR is less than 1.0,then a given reduction in both current assets and current liabilities would lead to a decrease in the CR.The reverse would hold if the initial CR were greater than 1.0.In the question,the initial CR is less than 1.0,so using cash to reduce current liabilities would lower the CR.If the CR were greater than 1.0,the statement would have been true.Here's an illustration: 11ea856c_8bee_3db1_9aec_a32934a42beb_TB1222_00

Question 4

Casey Communications recently issued new common stock and used the proceeds to pay off some of its short-term notes payable.This action had no effect on the company's total assets or operating income.Which of the following effects occurred as a result of this action?
A) The company's current ratio increased.
B) The company's times interest earned ratio decreased.
C) The company's basic earning power ratio increased.
D) The company's equity multiplier increased.
E) The company's total debt to total capital ratio increased.

Accepted Answer

By issuing new common stock and using the proceeds to pay off some of its short-term notes payable, Casey Communications reduced its current liabilities, which in turn increased its current assets. This increase in current assets would increase the company's current ratio. The other ratios would not be affected since there was no change in the company's total assets or operating income.

Question 5

A firm's new president wants to strengthen the company's financial position.Which of the following actions would make the company financially stronger?
A) Increase accounts receivable while holding sales constant.
B) Increase EBIT while holding sales and assets constant.
C) Increase accounts payable while holding sales constant.
D) Increase notes payable while holding sales constant.
E) Increase inventories while holding sales constant.

Accepted Answer

Increasing EBIT (earnings before interest and taxes) while holding sales and assets constant would make the company financially stronger. EBIT is a measure of a company's operating profitability and increasing it would result in higher net income and cash flow. Increasing accounts receivable, accounts payable, notes payable, or inventories without a corresponding increase in sales would tie up cash and potentially weaken the company's financial position.

Question 6

One problem with ratio analysis is that relationships can sometimes be manipulated.For example,if our current ratio is greater than 1.5,then borrowing on a short-term basis and using the funds to build up our cash account would cause the current ratio to INCREASE.

Accepted Answer

The key here is to recognize that if the CR is greater than 1.0,then a given increase in both current assets and current liabilities would lead to a decrease in the CR.The reverse would hold if the initial CR were less than 1.0.Here the initial CR is greater than 1.0,so borrowing on a short-term basis to build the cash account would lower the CR.For example: 11ea856c_8bee_16a0_9aec_6fe6bea6cfc4_TB1222_00

Question 7

If a firm's ROE is equal to 9% and its ROA is equal to 6%,its equity multiplier must be 1.5.

Accepted Answer

Equity multiplier = ROE/ROA = 9%/6% = 1.5.Thus,the statement is true.

Question 8

Determining whether a firm's financial position is improving or deteriorating requires analyzing more than the ratios for a given year.Trend analysis is one method of examining changes in a firm's performance over time.

Accepted Answer

Trend analysis involves analyzing changes in a firm's performance over time, making it necessary to consider multiple years of financial data rather than just one year's ratios.

Question 9

Which of the following actions is an example of "window dressing?"
A) Borrowing by using short-term notes payable and then using the proceeds to retire long-term debt.
B) Borrowing on a long-term basis and using the proceeds to retire short-term debt.
C) Offering discounts to customers who pay with cash rather than buy on credit and then using the funds that come in quicker to purchase fixed assets.
D) Using some of the firm's cash to reduce long-term debt.
E) Any action that does not improve a firm's fundamental long-run position and thus increases its intrinsic value.

Accepted Answer

The answer of Which of the following actions is an...

Question 10

Which of the following would indicate an improvement in a company's financial position,holding other things constant?
A) The inventory and total assets turnover ratios both decline.
B) The total debt to total capital ratio increases.
C) The profit margin declines.
D) The times-interest-earned ratio declines.
E) The current and quick ratios both increase.

Accepted Answer

An increase in both the current and quick ratios would indicate that the company has improved its liquidity position by increasing its ability to meet short-term obligations. This would be a positive improvement in the company's financial position. The other choices (A, B, C, and D) all indicate negative changes in the company's financial position.

Question 11

Firms A and B have the same current ratio,0.75,the same amount of sales,and the same amount of current liabilities.However,Firm A has a higher inventory turnover ratio than B.Therefore,we can conclude that A's quick ratio must be smaller than B's.

Accepted Answer

Firm A has the higher inventory turnover,S/I.So,given the same sales,A must have less inventory.Since the two firms have the same CR,A must have the higher QR,not the lower one.Therefore,the statement is false.

Question 12

Suppose Firms A and B have the same amount of assets,total assets are equal to total invested capital,pay the same interest rate on their debt,have the same basic earning power (BEP),finance with only debt and common equity,and have the same tax rate.However,Firm A has a higher debt to capital ratio.If BEP is greater than the interest rate on debt,Firm A will have a higher ROE as a result of its higher debt ratio.

Accepted Answer

The easiest way to think about this problem is to realize that if you can borrow at a cost of 10% and invest the proceeds to earn 11%,you'll earn a surplus.If you were previously earning an ROE of 10%,then after raising and investing additional funds at 11%,your income will be higher,your equity will be the same,and thus your ROE will increase.Similarly,if a firm earns more on assets than the interest rate,there will be a surplus after paying interest on the debt that will go to the equity,thus increasing the ROE.So,if BEP > r_d,then the firm can increase its expected ROE by using more debt leverage.The answer can also be seen by working out an example.The one below shows that leverage increases ROE if BEP > r_d,but it could be varied to show no difference in ROE if interest rates and BEP are the same,and a reduction in ROE if the interest rate exceeds the BEP. 11ea856c_8bed_f08f_9aec_2fa370cfab97_TB1222_00

Question 13

If a bank loan officer were considering a company's loan request,which of the following statements would be CORRECT,other things held constant?
A) The lower the company's inventory turnover ratio,the lower the interest rate the bank should charge.
B) The higher the days sales outstanding ratio,the lower the interest rate the bank should charge.
C) The lower the total debt to total capital ratio,the lower the interest rate the bank should charge.
D) The lower the company's TIE ratio,the lower the interest rate the bank should charge.
E) The lower the current ratio,the lower the interest rate the bank should charge.

Accepted Answer

The total debt to total capital ratio measures the proportion of debt to equity financing used by the company, which is an important measure of financial risk. A lower total debt to total capital ratio means the company is less risky and more capable of covering its debt obligations, so the bank would feel more comfortable loaning the company money, potentially at a lower interest rate.

Question 14

A firm's ROE is equal to 9% and its ROA is equal to 6%.The firm finances only with short-term debt,long-term debt,and common equity,so assets equal total invested capital.The firm's total debt to total capital ratio must be 50%.

Accepted Answer

Equity multiplier = ROE/ROA = 9%/6% = 1.5
E/A = 1/1.5 = 0.6667
D/A = 1 - 0.6667 = 0.3333
?
Since assets = Total invested capital,Debt/Total invested capital = 33.33%.Therefore,the statement is false.

Question 15

Suppose a firm wants to maintain a specific TIE ratio.It knows the amount of its debt,the interest rate on that debt,the applicable tax rate,and its operating costs.With this information,the firm can calculate the amount of sales required to achieve its target TIE ratio.

Accepted Answer

TIE = EBIT / Interest = (Sales - Op Cost)/ (Debt × Interest Rate).If we know the op.costs,the amount of debt,and the interest rate,then we can solve for the sales level required to achieve the target TIE.

Question 16

Considered alone,which of the following would increase a company's current ratio?
A) An increase in net fixed assets.
B) An increase in accrued liabilities.
C) An increase in notes payable.
D) An increase in accounts receivable.
E) An increase in accounts payable.

Accepted Answer

The current ratio is calculated as current assets divided by current liabilities. An increase in accounts receivable increases current assets without affecting current liabilities, thus increasing the current ratio.

Question 17

Even though Firm A's current ratio exceeds that of Firm B,Firm B's quick ratio might exceed that of A.However,if A's quick ratio exceeds B's,then we can be certain that A's current ratio is also larger than B's.

Accepted Answer

This question can be answered by thinking carefully about the ratios: Demonstration that the first sentence is true: 11ea856c_8bed_7b5b_9aec_21e5366348d4_TB1222_00 11ea856c_8bed_7b5c_9aec_efc0071c2a92_TB1222_00 Demonstration that the second sentence is false: 11ea856c_8bed_a26d_9aec_9715077d27b4_TB1222_00 11ea856c_8bed_a26e_9aec_f3b7c5daabf9_TB1222_00 The key is inventory,which is in the CR but not in the QR.The firm with more inventory can have the higher CR but the lower QR.

Question 18

Companies E and P each reported the same earnings per share (EPS),but Company E's stock trades at a higher price.Which of the following statements is CORRECT?
A) Company E probably has fewer growth opportunities.
B) Company E is probably judged by investors to be riskier.
C) Company E must have a higher market-to-book ratio.
D) Company E must pay a lower dividend.
E) Company E trades at a higher P/E ratio.

Accepted Answer

The price-to-earnings (P/E) ratio is a commonly used valuation metric in finance. It is calculated by dividing the market price per share by the EPS. If two companies have the same EPS, but one is trading at a higher price, it means that the market is willing to pay more for each dollar of earnings of that company. This suggests that investors have higher expectations of future growth and profitability for Company E, which leads to a higher P/E ratio. Therefore, choice E is the best answer. The other choices are not necessarily true or relevant to this scenario.

Question 19

Which of the following statements is CORRECT?
A) A reduction in inventories will have no effect on the current ratio.
B) An increase in inventories will have no effect on the current ratio.
C) If a firm increases its sales while holding its inventories constant,then,other things held constant,its inventory turnover ratio will increase.
D) A reduction in the inventory turnover ratio will generally lead to an increase in the ROE.
E) If a firm increases its sales while holding its inventories constant,then,other things held constant,its fixed assets turnover ratio will decline.

Accepted Answer

If a firm increases its sales while holding its inventories constant, then, other things held constant, its inventory turnover ratio will increase. The inventory turnover ratio is calculated by dividing the cost of goods sold by the average inventory, and a higher ratio indicates that the firm is selling its inventory more quickly. Therefore, if sales increase while inventory remains constant, the cost of goods sold will increase, causing the inventory turnover ratio to increase.

Question 20

If the CEO of a large and diversified firm were filling out a fitness report on a division manager (i.e. ,"grading" the manager),which of the following situations would be likely to cause the manager to receive a better grade? In all cases,assume that other things are held constant.
A) The division's basic earning power ratio is above the average of other firms in its industry.
B) The division's total assets turnover ratio is below the average for other firms in its industry.
C) The division's total debt to total capital ratio is above the average for other firms in the industry.
D) The division's inventory turnover is 6×,whereas the average for its competitors is 8×.
E) The division's DSO (days' sales outstanding)is 40 days,whereas the average for its competitors is 30 days.

Accepted Answer

A higher basic earning power ratio indicates that the division is generating higher earnings from its assets, which is a positive sign for the manager's performance.

Quiz 4: Analysis of Financial Statements

Which of the following would generally indicate an improvement in a company's financial position,holding other things constant?

A firm wants to strengthen its financial position.Which of the following actions would increase its current ratio?

One problem with ratio analysis is that relationships can be manipulated.For example,we know that if our current ratio is less than 1.0,then using some of our cash to pay off some of our current liabilities would cause the current ratio to increase and thus make the firm look stronger.

Casey Communications recently issued new common stock and used the proceeds to pay off some of its short-term notes payable.This action had no effect on the company's total assets or operating income.Which of the following effects occurred as a result of this action?

A firm's new president wants to strengthen the company's financial position.Which of the following actions would make the company financially stronger?

One problem with ratio analysis is that relationships can sometimes be manipulated.For example,if our current ratio is greater than 1.5,then borrowing on a short-term basis and using the funds to build up our cash account would cause the current ratio to INCREASE.

If a firm's ROE is equal to 9% and its ROA is equal to 6%,its equity multiplier must be 1.5.

Determining whether a firm's financial position is improving or deteriorating requires analyzing more than the ratios for a given year.Trend analysis is one method of examining changes in a firm's performance over time.

Which of the following actions is an example of "window dressing?"

Which of the following would indicate an improvement in a company's financial position,holding other things constant?

Firms A and B have the same current ratio,0.75,the same amount of sales,and the same amount of current liabilities.However,Firm A has a higher inventory turnover ratio than B.Therefore,we can conclude that A's quick ratio must be smaller than B's.

If a bank loan officer were considering a company's loan request,which of the following statements would be CORRECT,other things held constant?

A firm's ROE is equal to 9% and its ROA is equal to 6%.The firm finances only with short-term debt,long-term debt,and common equity,so assets equal total invested capital.The firm's total debt to total capital ratio must be 50%.

Suppose a firm wants to maintain a specific TIE ratio.It knows the amount of its debt,the interest rate on that debt,the applicable tax rate,and its operating costs.With this information,the firm can calculate the amount of sales required to achieve its target TIE ratio.

Considered alone,which of the following would increase a company's current ratio?

Even though Firm A's current ratio exceeds that of Firm B,Firm B's quick ratio might exceed that of A.However,if A's quick ratio exceeds B's,then we can be certain that A's current ratio is also larger than B's.

Companies E and P each reported the same earnings per share (EPS) ,but Company E's stock trades at a higher price.Which of the following statements is CORRECT?

Which of the following statements is CORRECT?

If the CEO of a large and diversified firm were filling out a fitness report on a division manager (i.e. ,"grading" the manager) ,which of the following situations would be likely to cause the manager to receive a better grade? In all cases,assume that other things are held constant.