Question 1

Financial control involves a feedback and adjustment process that (1)ensures that existing plans are followed,or (2)modifies existing plans in response to changes in the firm's operating environment.

Accepted Answer

Financial control involves monitoring the implementation of existing plans and making adjustments as needed based on changes in the operating environment.

Question 2

If a firm has no preferred stock,its financial breakeven point is the sales level that results in net income equal to zero.

Accepted Answer

When a firm has no preferred stock, its financial breakeven point is the sales level at which it covers all its costs (fixed and variable), resulting in a net income of zero. This is because all earnings are allocated to common shareholders, and the firm must generate enough revenue to cover its expenses before generating any profit.

Question 3

If any firm with a positive net worth is operating its fixed assets at full capacity,if its dividend payout ratio is 100 percent,and if it wants to hold all financial ratios constant,then for any positive growth rate in sales,the firm will require external financing.

Accepted Answer

If the dividend payout ratio is 100 percent, then the firm is distributing all its earnings as dividends and does not have any retained earnings to fund its growth. Therefore, it will require external financing to fund any growth in sales.

Question 4

Financial breakeven analysis can be used to help evaluate the impact various forms of financing,such as debt and equity,will have on the riskiness of a firm.

Accepted Answer

Financial breakeven analysis can help in determining the level of sales required for a firm to cover all its costs, including fixed and variable expenses. This analysis can aid in evaluating the impact of different financing options like debt and equity on the firm's profitability and riskiness. Therefore, the statement is true.

Question 5

Other things held constant,a high degree of total leverage will mean that a relatively small change in sales will result in a large change in EPS.

Accepted Answer

When a company has a high degree of total leverage, it means that it has significant fixed costs (such as interest payments on debt). This fixed cost component magnifies the effect of changes in sales on earnings per share (EPS). Therefore, a relatively small change in sales will result in a large change in EPS when a company has high leverage.

Question 6

The fact that long-term debt and equity funds are raised infrequently and in large amounts lessens the need for the firm to forecast them on a continual basis.

Accepted Answer

The answer of The fact that long-term debt and equity...

Question 7

The projected balance sheet forecasting method would be appropriate if,in a regression of sales on each asset and spontaneous liability,the regression line was linear and passed through the origin.

Accepted Answer

The projected balance sheet forecasting method assumes a linear relationship between sales and each asset and spontaneous liability. If the regression line is also linear and passes through the origin, it would further support the use of this method.

Question 8

Other things held constant,if a firm operates at a profit and sales increase,the degree of financial leverage will decline.

Accepted Answer

When sales increase, assuming costs and the capital structure remain constant, the firm's earnings before interest and taxes (EBIT) will increase. This reduces the degree of financial leverage because the firm is less reliant on fixed financial obligations (like interest payments) relative to its earnings, leading to a lower financial risk.

Question 9

Other things held constant,the higher the degree of total leverage exhibited by a firm,the greater the risk associated with that firm.

Accepted Answer

Total leverage refers to the combination of operating leverage and financial leverage. A high degree of total leverage means that the firm has a high proportion of fixed costs (operating leverage) and a high level of debt (financial leverage) in its capital structure. This increases the firm's risk as it becomes more vulnerable to fluctuations in sales and interest rates. Therefore, the statement is true.

Question 10

The degree of financial leverage gives an indication of how a change in EBIT will affect EPS.

Accepted Answer

The degree of financial leverage measures the sensitivity of EPS to changes in EBIT, so a higher degree of financial leverage means that even minor changes in EBIT can have a significant impact on EPS. Therefore, it is true that the degree of financial leverage gives an indication of how changes in EBIT will affect EPS.

Question 11

The purpose of financial breakeven analysis is to determine the level of sales a firm needs in order to cover the fixed and variable costs associated with producing and selling inventory items.

Accepted Answer

Financial breakeven analysis specifically determines the level of sales needed to cover all fixed costs, resulting in a net income of zero. It does not typically account for variable costs in the calculation, which are instead considered in the calculation of the contribution margin.

Question 12

Breakeven analysis can involve determining the magnitude of the firm's profit or losses at output levels on and around the point where revenues equal costs.

Accepted Answer

This statement accurately describes the concept of breakeven analysis, which involves identifying the level of output at which a firm's total revenues equal its total costs, and analyzing the potential profits or losses that may occur at output levels above or below this point.

Question 13

The higher a firm's operating leverage,the higher is its business risk.

Accepted Answer

Operating leverage refers to the degree to which a firm's fixed costs are used in its operations. The higher a firm's operating leverage, the more sensitive its profits will be to changes in sales volume. Therefore, higher operating leverage increases the variability of a firm's profits and hence, increases its business risk.

Question 14

The projected balance sheet method assumes that the key ratios are constant,which means,for example,that if you plotted a graph of inventories versus sales,the regression line would be linear and would have a positive Y-intercept.

Accepted Answer

The projected balance sheet method does not necessarily assume that key ratios are constant in a way that would imply a linear relationship with a positive Y-intercept between inventories and sales. It involves forecasting future balance sheets based on assumptions about how balance sheet items will change with sales or other activity measures, but these relationships can be non-linear or have different characteristics depending on the specific assumptions made.

Question 15

Two firms that have the same financial leverage must also have the same ROE,because both financial leverage and ROE measure the risk associated with equity financing.

Accepted Answer

Financial leverage measures the amount of debt used to finance a company's assets, while ROE (return on equity) measures a company's profitability in relation to the amount of equity invested by shareholders. While financial leverage can affect ROE, it is not the only factor that determines it. Other factors such as profitability, efficiency, and asset utilization can also impact ROE. Therefore, two firms with the same financial leverage may have different levels of ROE depending on these other factors.

Question 16

Everything else equal,the higher the DFL is for a firm,the closer its operations are to its operating breakeven point.

Accepted Answer

DFL (Degree of Financial Leverage) measures the sensitivity of a firm's earnings per share to fluctuations in its operating income, indicating the impact of financial leverage, not how close a firm is to its operating breakeven point.

Question 17

Everything else equal,the higher the DFL is for a firm,the closer its operations are to its financial breakeven point.

Accepted Answer

DFL (Degree of Financial Leverage) measures the sensitivity of a company's earnings per share (EPS) to changes in its operating income. A higher DFL indicates that a company has higher fixed financial costs, such as interest payments on debt, which means a small change in operating income can have a significant impact on EPS. Therefore, the higher the DFL, the closer a company's operations are to its financial breakeven point, where the company generates enough revenue to cover its fixed financial costs.

Question 18

Alternative methods for producing a given product often have different degrees of operating leverage and hence have different breakeven points and degrees of risk.

Accepted Answer

This statement is true. Operating leverage refers to the degree to which a company's fixed costs are used to produce a given level of output. Different methods of production can have different levels of fixed costs, which in turn affect the breakeven point (the output level at which total revenue equals total costs) and the degree of risk associated with the production method.

Question 19

A firm's peak borrowing needs will probably be overstated if it bases its monthly cash budget on uniform cash receipts and disbursements,but actual receipts are concentrated at the beginning of each month.

Accepted Answer

If a firm's actual receipts are concentrated at the beginning of each month, then a cash budget based on uniform cash receipts and disbursements will not accurately reflect the firm's cash flow needs. This can lead to overstating the firm's peak borrowing needs.

Question 20

The closer a firm is to its operating breakeven point,the greater is the absolute value of the degree of operating leverage.

Accepted Answer

The degree of operating leverage (DOL) measures the sensitivity of a company's operating income to changes in sales revenue. The formula for DOL is as follows: DOL = Contribution Margin / Operating Income. As a company's sales increase, its contribution margin increases, which leads to a larger proportionate increase in operating income. Therefore, the closer a firm is to its operating breakeven point (where its contribution margin equals its fixed costs), the larger its DOL will be. This means that a small change in sales will have a greater impact on the firm's operating income. Therefore, Option A is correct.

Quiz 8: Financial Planning and Control