Question 1

Which of the following is a debt management ratio?

Accepted Answer

Fixed charge coverage is a debt management ratio that measures a company's ability to cover fixed expenses, including interest and lease payments, with its operating income. The other options listed are profitability ratios (return on sales) and liquidity ratios (current ratio) and a valuation ratio (P/E ratio).

Question 2

The usefulness of ratios is enhanced by comparisons. The most common comparisons are:

Accepted Answer

Comparing ratios over time (history) can give insight into a company's performance trends, but understanding how a company is doing relative to its competitors (competition) and how it is managing its budget are also important. By comparing ratios to industry averages or specific competitors, investors can assess how well a company is performing compared to its peers. Additionally, comparing a company's financial performance to its budget can help identify areas where the company is over- or under-spending. Therefore, the most common comparisons are history, competition, and budget (Choice B).

Question 3

_____ include average collection period and inventory turnover.

Accepted Answer

Average collection period and inventory turnover are both measures of how efficiently a company uses its assets, specifically its accounts receivable and inventory. These are examples of asset management ratios.

Question 4

The quick ratio is the same as current ratio except it does not consider:

Accepted Answer

The quick ratio, also known as the acid test ratio, is a measure of a company's ability to pay its short-term obligations using its most liquid assets, which excludes inventory. Therefore, the correct answer is D - inventories. The quick ratio formula is (Current Assets - Inventory) / Current Liabilities, and excludes inventories to provide a more accurate assessment of a company's overall liquidity.

Question 5

Depreciation is considered in which area of the Statement of Cash Flows?

Accepted Answer

Depreciation is considered in the operating activities section of the Statement of Cash Flows because it is a non-cash expense that is subtracted from net income to arrive at cash flows from operating activities.

Question 6

Holding all other variables constant, which of the following would increase return on equity? An increase in ____.

Accepted Answer

Total asset turnover is the ratio of sales to total assets, which measures how efficiently a company is using its assets to generate revenue. An increase in total asset turnover would increase return on equity as it would generate more revenue for a given amount of equity. Increasing the tax rate would decrease return on equity, while increasing the equity ratio and total assets would have a mixed effect on return on equity as they would increase the amount of equity and total assets, respectively, but also potentially lower asset turnover.

Question 7

A firm has decided to increase the time it takes to pay suppliers from 45 days to 55 days. The industry average is 30 days. Holding all other variables constant, which of the following statement(s)is/are true?

Accepted Answer

The firm is stretching payables by increasing the time it takes to pay suppliers. This will increase current liabilities and decrease the current ratio.

Question 8

The ratio of EBIT to interest expenses is known as the:

Accepted Answer

The ratio of EBIT to interest expenses is known as the times interest earned ratio. It measures the company's ability to cover interest payments with its earnings before interest and taxes.

Question 9

Common size income statements divide each account by:

Accepted Answer

Common size income statements express each account as a percentage of total revenues. This allows for easy comparison of different companies' income statements, and helps highlight where a company's revenues are being allocated.

Question 10

Most financial ratios are formed from sets of financial statement figures. Which of the following ratios are not?

Accepted Answer

The P/E (Price/Earnings) ratio and the Market/Book ratio are derived from market values and financial statement figures, not solely from financial statement figures. The P/E ratio uses market price per share and earnings per share, while the Market/Book ratio compares a company's market value to its book value, incorporating market valuation.

Question 11

Which of the following would cause a decrease in cash?

Accepted Answer

An increase in the Average Collection Period means it takes longer to collect cash from customers, leading to a decrease in cash on hand.

Question 12

A high average collection period may indicate:

Accepted Answer

A high average collection period indicates that customers are taking a longer time to pay for their purchases, which could be due to various reasons such as financial difficulties or lenient credit policies. However, it does not necessarily indicate management's willingness to write-off questionable receivables or a strict collection policy.

Question 13

Ratios by themselves have some value, but not nearly as much as they have when compared with other similar figures. Which of the following comparisons are generally used by managers and analysts?

Accepted Answer

Managers and analysts use all three types of comparisons - historical, competition, and budgeted - to gain a more comprehensive understanding of a company's performance and to make informed decisions. Historical comparisons help to identify trends and patterns in a company's performance over time, while competition comparisons allow for benchmarking against similar companies in the industry. Budgeted comparisons, on the other hand, help to evaluate the company's actual performance against its planned or expected performance.

Question 14

_____ give an indication of how investors feel about the company's financial future.

Accepted Answer

Market value ratios, such as price-to-earnings ratio and market-to-book ratio, give an indication of how investors perceive the company's financial performance and future prospects. These ratios compare the market value of the company's stock with its earnings or book value, and a higher ratio indicates that investors have higher expectations of the company's growth and profitability.

Question 15

An increase in the average collection period may suggest all of the following except:

Accepted Answer

An increase in the average collection period is associated with a delay in receiving payments from customers, which could be due to issues such as easing of credit terms, customers not paying their bills on time, or a liquidity problem in the future. The increase in the average collection period does not necessarily suggest a decrease in sales, as the sales volume could remain constant while the payment cycle is extended.

Question 16

Under the DuPont system, the return on assets is equal to:

Accepted Answer

According to the DuPont system, the return on assets (ROA) is equal to the product of the return on sales (ROS) and the total asset turnover (TAT). Therefore, the correct choice is C, as it corresponds to this formula. The other choices do not provide the correct calculation for ROA under the DuPont system.

Question 17

The _____ ratio is unusual in that, it is commonly stated as a proportion rather than as a decimal or a percentage.

Accepted Answer

The debt to equity ratio is commonly stated as a proportion, such as 2:1 or 3:1, rather than as a decimal or percentage. The other ratios listed are typically expressed as decimals or percentages.

Question 18

Average values are most appropriate in ratio analysis when:

Accepted Answer

The answer of Average values are most appropriate in ratio...

Question 19

Which of the following ratios would probably not be used to assess the profitability of a firm?

Accepted Answer

Times interest earned is a solvency ratio, not a profitability ratio. It measures a company's ability to meet its interest payments, not its profitability.

Question 20

Other things held constant, which of the following will DECREASE the current ratio, assuming an initial current ratio greater than 1.0?

Accepted Answer

Purchasing machinery with cash decreases current assets (cash) without affecting current liabilities, thus reducing the current ratio.

Quiz 3: Cash Flows and Financial Analysis