Question 1

Other things held constant, which of the following will not affect the quick ratio? (Assume that current assets equal current liabilities.)

Accepted Answer

Accounts receivable are already included in the quick ratio calculation, so collecting them will not affect the ratio. The other options involve changes in current assets or liabilities that would affect the quick ratio.

Question 2

When a firm conducts a share repurchase, it increases an equity account which is an example of a source of funds.

Accepted Answer

A share repurchase decreases the equity account as it reduces the number of outstanding shares, and it is a use of funds, not a source.

Question 3

Suppose a firm wants to maintain a specific TIE ratio.If the firm knows the level of its debt, the interest rate it will pay on that debt and the applicable tax rate, the firm can then calculate the earnings level required to maintain its target TIE ratio.

Accepted Answer

This statement is true. The TIE ratio (times interest earned ratio) is calculated by dividing a firm's earnings before interest and taxes (EBIT) by its interest expense, and it measures how many times a firm can cover its interest expense with its earnings. To maintain a specific TIE ratio, a firm can calculate the level of earnings required by rearranging the TIE formula: EBIT = Interest expense x TIE ratio. By knowing the level of debt, interest rate, and tax rate, the firm can plug in these values to obtain the required EBIT to maintain the desired TIE ratio.

Question 4

Funds supplied by ordinary shareholders mainly includes share capital, paid-in capital, and retained earnings, while total equity is comprised of ordinary equity plus preference shares.

Accepted Answer

Share capital, paid-in capital, and retained earnings are all sources of funds supplied by ordinary shareholders. Total equity is the sum of ordinary equity and preference shares.

Question 5

Suppose two firms with the same amount of assets pay the same interest rate on their debt and earn the same rate of return on their assets, and that ROA is positive.However, one firm has a higher debt ratio.Under these conditions, the firm with the higher debt ratio will also have a higher rate of return on common equity.

Accepted Answer

The firm with the higher debt ratio will have a higher rate of return on common equity because its cost of equity is higher due to the higher financial risk associated with a higher debt ratio. This is commonly known as financial leverage.

Question 6

We can use the fixed asset turnover ratio to legitimately compare firms in different industries as long as all the firms being compared are using the same proportion of fixed assets to total assets.

Accepted Answer

The fixed asset turnover ratio measures how effectively a company is using its fixed assets to generate revenue. However, different industries have different proportions of fixed assets to total assets. Therefore, it would not be appropriate to compare the fixed asset turnover ratio of companies in different industries as they have different business models and asset structures.

Question 7

The financial position of companies whose business is seasonal can be dramatically different depending upon the time of year chosen to construct financial statements.This time sensitivity is especially true with respect to the firm's statement of financial position.

Accepted Answer

The financial position of seasonal businesses may vary significantly depending on the time of year for which financial statements are prepared. This is because seasonal businesses usually experience changes in revenue, cash flows, and assets/liabilities throughout the year. Hence, the statement of financial position may not accurately reflect the true financial position of the company if it is prepared during a low season or high season.

Question 8

The fixed charge coverage ratio recognises that firms often lease equipment under contract and thus, some firms must meet more than just their scheduled interest payments out of earnings.Therefore, the fixed charge coverage is more inclusive than the TIE ratio.

Accepted Answer

The statement accurately describes the difference between the fixed charge coverage ratio and the times interest earned (TIE) ratio. The fixed charge coverage ratio takes into account other fixed expenses, such as lease payments, whereas the TIE ratio only considers interest payments.

Question 9

A liquid asset is an asset that can be easily converted into cash without a significant loss of its original value.

Accepted Answer

A liquid asset is one that can be quickly and easily converted into cash with minimal or no loss of value. Examples include cash, savings accounts, and stocks traded in a very active market.

Question 10

In order to accurately estimate cash flow from operations, depreciation must be added back to net income.The reason for this is that even though depreciation is deducted from revenue it is really a non-cash charge.

Accepted Answer

Depreciation is a non-cash charge that reduces net income but does not involve actual outflow of cash, so it must be added back to accurately estimate cash flow from operations.

Question 11

Changes in the statement of financial position accounts are necessary for

Accepted Answer

Changes in the statement of financial position accounts are necessary for statement of cash flows construction.

Question 12

If the current ratio of Firm A is greater than the current ratio of Firm B, we cannot be sure that the quick ratio of Firm A is greater than that of Firm B.However, if the quick ratio of Firm A exceeds that of Firm B, we can be assured that Firm A's current ratio also exceeds B's current ratio.

Accepted Answer

The answer of If the current ratio of Firm A...

Question 13

Genzyme Corporation has seen its days sales outstanding (DSO) decline from 38 days last year to 22 days this implying that more of the firm's suppliers are being paid on time.

Accepted Answer

The answer of Genzyme Corporation has seen its days sales...

Question 14

When a firm conducts a seasoned equity offering, it increases an equity account which is an example of a source of funds.

Accepted Answer

When a firm conducts a seasoned equity offering, it sells new shares to existing shareholders and institutional investors, thereby increasing the equity account and providing a source of funds for the company.

Question 15

Retained earnings is the cash that has been generated by the firm through its operations which has not been paid out to shareholders as dividends.Retained earnings are kept in cash or near cash accounts and thus, these cash accounts, when added together, will always be equal to the total retained earnings of the firm.

Accepted Answer

Retained earnings represent the cumulative net income of a company that has been retained, not necessarily in cash, but reinvested in the business or used to pay off debt. They are not always equal to cash or near-cash accounts.

Question 16

If sales decrease and financial leverage increases, we can say with certainty that the profit margin on sales will decrease.

Accepted Answer

The answer of If sales decrease and financial leverage increases,...

Question 17

In accounting, emphasis is placed on determining net income.In finance, the primary emphasis also is on net income because that is what investors use to value the firm.However, a secondary consideration is cash flow because that's what is used to run the business.

Accepted Answer

In finance, the primary emphasis is on cash flow because it determines a firm's ability to fund operations, invest, and return value to shareholders. Net income is important but considered secondary because it is an accounting measure that can be influenced by non-cash items.

Question 18

Selling new shares is an equity transaction; it does not affect any asset or liability account and therefore, does not appear on the statement of cash flows.

Accepted Answer

Selling new shares is an equity transaction that affects the cash account, which is an asset. It appears in the financing section of the statement of cash flows as it involves cash inflow from issuing equity.

Question 19

The inventory turnover and current ratios are related.The combination of a high current ratio and a low inventory turnover ratio relative to the industry norm might indicate that the firm is maintaining too high an inventory level or that part of the inventory is obsolete or damaged.

Accepted Answer

The statement accurately explains the relationship between inventory turnover and current ratios and how they can indicate issues with inventory levels or quality.

Question 20

Current cash flow from existing assets is highly relevant to the investor.However, the value of the firm depends primarily upon its growth opportunities.As a result, profit projections from those opportunities are the only relevant future flows with which investors are concerned.

Accepted Answer

While growth opportunities and their profit projections are crucial, investors also consider current cash flows from existing assets, as they provide a basis for evaluating the firm's present financial health and its ability to generate returns in the short term.

Quiz 2: Analysis of Financial Statements