Question 1

Days' sales in receivables may be abnormally high if a material amount of sales are on a cash basis.

Accepted Answer

Days' sales in receivables measures the average number of days it takes a company to collect payment from its customers after a sale is made on credit. If a significant portion of a company's sales are made on a cash basis, it would not impact the calculation of days' sales in receivables, as no accounts receivable would be generated. Therefore, high days' sales in receivables would not be due to cash sales.

Question 2

The direct write-off method frequently results in the bad debt expense being recognized in the year subsequent to the sale, and thus results in a proper matching of expense with revenue.

Accepted Answer

The direct write-off method does not result in a proper matching of expense with revenue because it recognizes bad debt expense only when a specific customer's account is deemed uncollectible, which may occur in a different period from the sale. This violates the matching principle of accounting.

Question 3

By reporting marketable equity securities under current assets, management picks up a liquidity advantage.

Accepted Answer

Marketable equity securities can be easily converted into cash and therefore provide a liquidity advantage when reported under current assets.

Question 4

Under inflationary conditions, FIFO generally results in a lower profit than does LIFO, and this difference can be substantial.

Accepted Answer

Under inflationary conditions, LIFO generally results in a lower profit than does FIFO because LIFO assumes that the most recent and therefore most expensive items in inventory are sold first, resulting in a higher cost of goods sold and lower reported profit.

Question 5

Inventory is particularly sensitive to changes in business activity.Therefore, management should keep inventory at a minimum.

Accepted Answer

The answer of Inventory is particularly sensitive to changes in...

Question 6

In terms of liquidity, it is to management's advantage to show investments under investments instead of marketable securities.

Accepted Answer

Marketable securities are considered more liquid than other investments, as they can easily be sold or traded in the market. Therefore, showing investments as marketable securities provides a clearer picture of the company's liquidity position.

Question 7

Compensating balances reduce the amount of cash available to the borrower to meet obligations and they decrease the effective interest rate for the borrower.

Accepted Answer

Compensating balances reduce the amount of cash available to the borrower to meet obligations, but they increase the effective interest rate for the borrower because the borrower has to maintain a minimum balance that does not earn interest, effectively increasing the cost of borrowing.

Question 8

To qualify as a marketable security, the investment must be readily marketable and it must be the intent of management to convert the investment to cash within the current operating cycle or a year, whichever is longer.

Accepted Answer

To qualify as a marketable security, it must be readily marketable and the intent must be to convert the investment to cash within the current operating cycle or a year.

Question 9

The days' sales in receivables ratio gives an indication of the length of time that the receivables have been outstanding at the end of the year.This indication can be misleading if sales are seasonal and/or the company uses a natural business year.

Accepted Answer

The days' sales in receivables ratio will be higher if sales are seasonal and/or the company uses a natural business year, which does not necessarily indicate a problem with collecting receivables in a timely manner. Therefore, this ratio should be interpreted with caution in such situations.

Question 10

A firm that has been on lifo for many years may have some inventory costs that go back ten years or more.

Accepted Answer

LIFO (Last In, First Out) is a method of inventory accounting in which the most recently acquired items are assumed to be sold first. Therefore, a firm that has been using LIFO for many years may still have some inventory costs that date back ten years or more, as the older inventory costs have not yet been sold or depleted.

Question 11

Which of the following ratios would generally be used to evaluate a firm's overall liquidity position?
A)Working capital
B)Current ratio
C)Acid-test ratio
D)Cash ratio
E)Inventory turnover in days

Accepted Answer

The answer of Which of the following ratios would generally...

Question 12

Days' sales in receivables may be abnormally high at the end of the year if sales volume expanded materially late in the year.

Accepted Answer

Days' sales in receivables is a measure of how long it takes for a company to collect payment from its customers. If a company had a significant increase in sales volume towards the end of the year, it could result in higher accounts receivable balances and a longer collection period, leading to abnormally high days' sales in receivables at the end of the year.

Question 13

Significant weight is seldom given to the cash ratio unless the firm is in financial trouble.

Accepted Answer

The cash ratio is a measure of a company's ability to meet its short-term obligations using its most liquid assets. It is often considered less significant than other liquidity ratios, such as the current ratio, because it only measures a company's cash and cash equivalents. However, if a company is in financial trouble or facing cash flow issues, the cash ratio can become an important indicator of its ability to stay afloat.

Question 14

Because the cost of specific inventory items is not usually practical to determine, it is necessary for management to select a cost flow assumption.

Accepted Answer

This statement is true. It is not always possible to track the exact cost of individual inventory items, so companies must choose a cost flow assumption, such as first-in, first-out (FIFO) or last-in, first-out (LIFO), to determine the cost of goods sold and the value of remaining inventory.

Question 15

Under the allowance method, the charge off of a specific account receivable does not influence the income statement nor the net receivable on the balance sheet at the time of the charge off.

Accepted Answer

This is because the charge off was already anticipated and recorded in the allowance for doubtful accounts, which is a contra asset account that offsets the accounts receivable balance on the balance sheet. The charge off simply reduces the allowance for doubtful accounts, without affecting the net receivable or the income statement.

Question 16

The valuation problem from waiting to collect a receivable is ignored in the valuation of receivables and notes that are classified as current assets.

Accepted Answer

The valuation problem from waiting to collect a receivable is generally not considered for receivables and notes that are classified as current assets, as they are expected to be collected within one year and therefore not subject to significant valuation adjustments.

Question 17

Using the direct write-off method, the bad debt expense is recorded when a specific customer's account is determined to be noncollectible.

Accepted Answer

This is true, as the direct write-off method records bad debt expense only when a specific customer's account is confirmed as noncollectible.

Question 18

If days' sales in receivables are materially longer than the credit terms, this indicates a collection problem.

Accepted Answer

Days' sales in receivables measures how long it takes for a company to collect payment from customers. If this number is significantly longer than the credit terms offered to customers, it suggests that the company is having difficulty collecting payment, which is a sign of a collection problem.

Question 19

The receivables of a company with installment receivables would normally be considered to be of higher quality than the receivables of a company that did not have installment receivables.

Accepted Answer

Installment receivables often come with higher risks of default compared to other types of receivables, as they are typically associated with customers who may not qualify for traditional financing, leading to a potentially lower quality of receivables.

Question 20

When doing external analysis, many of the reasons why the days' sales in receivables is abnormally high or low cannot be determined without access to internal information.

Accepted Answer

External analysis only relies on publicly available information and therefore, certain internal factors may not be identified that can affect the days' sales in receivables.

Quiz 6: Liquidity of Short-Term Assets; Related Debt-Paying Ability