Question 1

At the beginning of the year, Megaron Company's balance sheet showed current assets of $16,000 and current liabilities of $10,000. During the current year, Megaron issued common stock for $5,000 for cash and purchased $3,000 of inventory on account. After these transactions were recorded, Megaron's current ratio was:

Accepted Answer

To calculate the current ratio, we need to divide current assets by current liabilities.

Current assets at the end of the year = $16,000 + $5,000 (from the issuance of common stock) + $3,000 (inventory purchased on account) = $24,000

Current liabilities at the end of the year = $10,000

Current ratio = $24,000 / $10,000 = 2.4

Therefore, the closest answer choice is C) 1.85.

Question 2

Net working capital:

Accepted Answer

Net working capital is computed by subtracting total current liabilities from total current assets. It represents the company's ability to meet its short-term obligations and manage its current assets and liabilities effectively. It is not necessary for net working capital to be a negative number, and it can vary among companies depending on their operations and industry.

Question 3

The debt ratio is computed by dividing:

Accepted Answer

The debt ratio is a financial ratio that measures the extent of a company's leverage. It is calculated by dividing total liabilities by total assets. This ratio indicates the proportion of a company's assets that is financed by debt.

Question 4

When analyzing a company's debt ratio:

Accepted Answer

The debt ratio measures the proportion of a company's assets that are financed with debt, providing an indication of its leverage or reliance on debt to operate. A high debt ratio can signal financial risk and difficulty in servicing debt obligations, while a low debt ratio may suggest a conservative approach to financing operations. Therefore, choice B correctly describes the debt ratio. Choices A, C, and D are incorrect because they present inaccurate statements about the purpose and interpretation of the debt ratio.

Question 5

A low debt ratio is safer than a high debt ratio.

Accepted Answer

A low debt ratio indicates that a company has less debt as compared to its assets or equity, which means it is less risky and more financially stable. On the other hand, a high debt ratio indicates a higher level of debt in proportion to assets or equity, which means the company is riskier and less financially stable.

Question 6

A current ratio below 1.0 is a sign of financial strength for a company.

Accepted Answer

A current ratio below 1.0 is a sign of financial weakness, as it indicates that a company may not have enough current assets to cover its current liabilities. A current ratio of 1.0 or above is generally considered a sign of financial strength.

Question 7

Which of the following is correct regarding transactions and their effect on ratios?

Accepted Answer

The answer of Which of the following is correct regarding...

Question 8

A measure of a company's ability to pay current liabilities with current assets is the:

Accepted Answer

The measure described is known as the current ratio, which is computed by dividing a company's current assets by its current liabilities. The current ratio is a liquidity ratio that helps determine a company's ability to pay off its short-term obligations with its available current assets. The higher the current ratio, the better a company's liquidity position.

Question 9

To help keep debt ratios within normal limits, companies might adopt the following strategies:

Accepted Answer

Selling stock allows the company to raise funds without increasing its debt. This can help keep the debt ratio within normal limits. Decreasing revenues and increasing costs would only worsen the debt ratio, and choosing to borrow more money would increase the debt ratio.

Question 10

As a general rule of thumb, a strong current ratio is:

Accepted Answer

A current ratio of 1.5 or higher is generally considered to be strong as it indicates that a company has enough current assets to cover its current liabilities. A current ratio of 1.0 or higher may be acceptable, but it could also indicate that the company has limited liquidity. A current ratio of .50 or higher suggests that the company may have difficulty paying its current liabilities. Therefore, option C is the correct choice.

Question 11

To analyze a company's financial position, decision makers use data and ratios computed from various items in the financial statements.

Accepted Answer

This statement is true. Financial analysis involves using data and ratios from financial statements to evaluate a company's financial health and performance.

Question 12

The debt ratio measures a firm's ability to:

Accepted Answer

The debt ratio measures the proportion of a firm's total assets that are financed by debt. Therefore, it indicates the extent to which a company is relying on borrowed funds to finance its operations. By comparing the amount of debt to total assets, the debt ratio provides insight into a firm's ability to pay both current and long-term debt. Thus, option D is the correct choice.

Question 13

Rosewood Company had current assets of $582, current liabilities of $433, total assets of $732, and no long-term liabilities. What is Rosewood's debt ratio?

Accepted Answer

Debt ratio = total liabilities / total assets. Since Rosewood has no long-term liabilities, its total liabilities are equal to its current liabilities of $433. Therefore, the debt ratio is 433/732 = 0.59.

Question 14

Company A has current assets of 75,000 and current liabilities of $40,000. The company decides to issues stock and receives cash of $70,000. After this transaction, the company's current ratio will be:

Accepted Answer

Current Ratio = Current Assets / Current Liabilities

Before stock issue: 
Current Ratio = $75,000 / $40,000 = 1.875

After stock issue: 
Current Assets = $75,000 + $70,000 = $145,000 
Current Liabilities = $40,000

Current Ratio = $145,000 / $40,000 = 3.625

Therefore, the current ratio after the stock issue is 3.62.

Question 15

A company has current assets of $80,000, long-term assets of $150,000, current liabilities of $60,000, and long-term liabilities of $40,000. The current ratio is:

Accepted Answer

The current ratio is calculated by dividing current assets by current liabilities. 
Current Ratio = Current Assets / Current Liabilities 
= $80,000 / $60,000 
= 1.33 
Therefore, the current ratio is 1.33, which is Choice B.

Question 16

A company has current assets of $105,000 and current liabilities of $35,000. It made a $5,000 sale on account. After this transaction, its current ratio will be:

Accepted Answer

Current ratio = Current assets / Current liabilities

Before the transaction:

Current ratio = $105,000 / $35,000 = 3.00

After the $5,000 sale:

Current assets = $105,000 + $5,000 = $110,000

Current ratio = $110,000 / $35,000 = 3.14

Therefore, the current ratio after the transaction will be 3.14, and the best choice is D.

Question 17

Which of the following combinations of ratios is preferable?

Accepted Answer

A high current ratio indicates that the company has enough current assets to meet its short-term obligations while a low debt ratio indicates that the company has low debt in relation to its assets. This combination is preferable as it shows that the company can easily meet its short-term obligations without relying heavily on debt financing.

Question 18

Assume that a firm has total assets of $1,000,000 and current liabilities of $700,000. Eighty percent of the assets are current assets. An analyst reviewing this firm's current ratio would most likely conclude that the:

Accepted Answer

The current ratio is calculated by dividing current assets by current liabilities. In this case, we can calculate current assets as 80% of total assets, which is $800,000. Therefore, the current ratio is 1.14 ($800,000 / $700,000). While this is not a particularly low current ratio, it is not extremely strong either. The analyst would likely conclude that the firm may experience some trouble paying its debts.

Question 19

The managers of a company are concerned about how certain transactions will affect its ratios.

Accepted Answer

Ratios are important indicators of a company's financial health and performance, and therefore, managers are likely to be concerned about how certain transactions will impact these ratios.

Question 20

When analyzing a company's current ratio:

Accepted Answer

A current ratio of less than 1.00 means that current liabilities exceed current assets. This signifies that the company may face difficulty in paying off its short-term obligations.

Quiz 3: Accrual Accounting Income