Question 1

Measures for assessing short-term liquidity risk include all of the following except:

Accepted Answer

The price earnings ratio measures a company's valuation relative to its earnings, and is not a measure of short-term liquidity risk. The other options are all measures commonly used to assess short-term liquidity risk.

Question 2

Analysts deciding between investments must consider the comparative risks.Which of the following is/are not industry-wide factors that affect the risk of business firms?

Accepted Answer

Increased inflation is a macroeconomic factor that affects all businesses and industries, not just specific industries. It impacts the general purchasing power and cost structures across the economy, unlike the other options which are more directly related to specific industry challenges and dynamics.

Question 3

Analysts deciding between investments must consider the comparative risks.Which of the following is/areindustry-wide factors that affect the risk of business firms?

Accepted Answer

All of the above factors can affect the risk of business firms and are industry-wide in nature. Increased competition can lead to decreased profits and potential bankruptcy for companies, while increased government regulatory actions can increase costs and reduce flexibility. Changes in technology can disrupt business models and make products or services obsolete, while a lack of availability of raw materials can lead to supply chain disruptions and production delays. All of these factors must be considered by analysts when evaluating the risk of potential investments.

Question 4

In assessing the debt ratios, analysts customarily vary the standard in relation to the stability of the firm's earnings and cash flows from operations.Banks have liabilities to assets ratios, typically

Accepted Answer

Banks typically have liabilities to assets ratios over 90% because they operate with high leverage, using deposits and other borrowed funds to finance their lending and investment activities.

Question 5

What ratio(s) customarily include(s) in the numerator cash, marketable securities, and accounts receivable, with the denominator including all current liabilities?

Accepted Answer

The acid test ratio and the quick ratio both include in the numerator cash, marketable securities, and accounts receivable, and in the denominator all current liabilities. These ratios are designed to measure a company's short-term liquidity and its ability to cover its short-term obligations without needing to sell inventory.

Question 6

The fixed asset turnover ratio

Accepted Answer

The fixed asset turnover ratio measures the efficiency of a company's use of its fixed assets to generate sales revenue. It is calculated by dividing sales by the average fixed assets for the period. Therefore, all of the above options are correct.

Question 7

Why might a firm use the quick ratio instead of the current ratio in its liquidity analysis?

Accepted Answer

The quick ratio, also known as the acid-test ratio, includes only the most liquid assets of a firm: cash, marketable securities, and accounts receivable. By excluding inventory, which may not be easily convertible to cash, the quick ratio provides a more conservative measure of a firm's ability to meet its short-term obligations. Therefore, a firm might use the quick ratio instead of the current ratio if its inventory is not very liquid.

Question 8

Management can take deliberate steps to produce a financial statement that presents a better current ratio at the balance sheet date than the average, or normal, current ratio during the rest of the year. Analysts refer to such actions as window dressing:

Accepted Answer

Both choices a and b are examples of actions that management can take to improve the current ratio at the balance sheet date. By delaying normal purchases on account or collecting a loan receivable and using the proceeds to reduce current liabilities, the firm can temporarily improve its current ratio. However, these actions do not necessarily reflect the true operating performance and financial health of the company and are therefore considered window dressing.

Question 9

Analysts deciding between investments must consider the comparative risks.Which of the following is/arefirm-specific factors that affect the risk of business firms?

Accepted Answer

All of the above factors are firm-specific and could affect the risk of a business firm. Labor strikes could result in the loss of production and decrease in revenues, fires and earthquakes could damage facilities and result in losses, and poor health of key managerial personnel could lead to a lack of direction and decision-making ability within the company. Therefore, all of these factors should be considered by analysts when assessing the comparative risk of investments.

Question 10

The accounts payable turnover ratio uses purchases on account in its computation. Although firms do not disclose their purchases, the analyst can calculate the purchase amount as follows:

Accepted Answer

The correct formula for calculating purchases is Purchases = Cost of Goods Sold + Ending Inventory - Beginning Inventory. This is because purchases are made up of cost of goods sold plus the increase in inventory from the beginning to the end of the period. Subtracting beginning inventory ensures that only the purchases made during the period are included in the calculation.

Question 11

The current ratio indicates a firm's ability to meet its short-term obligations.Analysts prefer a current ratio that at least exceeds

Accepted Answer

A current ratio of 1.0 means that the firm has exactly enough current assets to cover its current liabilities. Analysts prefer a current ratio of at least 1.0 to ensure that the firm can meet its short-term obligations without undue stress or difficulty. Ratios higher than 1.0 indicate a stronger ability to meet short-term obligations, but excessively high ratios may indicate that the firm is holding too many assets in cash or other low-yielding investments. Therefore, a current ratio of 1.0 is considered the minimum threshold for most analysts.

Question 12

The current ratio equals

Accepted Answer

The current ratio is calculated by dividing current assets by current liabilities.

Question 13

Selected data from Carson Corporation's financial statements for the year ended December 31, Year 2 are as follows. $\begin{array}{ll}
\text { Current ratio } & 1.4 \
\text { Quick ratio } & 0.86 \
\text { Current liabilities } & \$ 450,000 \
\text { Accounts receivable tumover } & 6.0 \
\text { Merchandise inventory turnover } & 4.0 \
\text { Rate of return on assets } & 6.5 \%
\end{array}$

$\text { Selected Account Balances at December 31, Year I: }$

$\begin{array}{ll}
\text { Accounts receivable } & \$ 355,000 \
\text { Merchandise inventory } & 190,000
\end{array}$

$\text { Year } 2 \text { Operations }$

$\begin{array}{ll}
\text { Sales } & \$ 1,241,000 \
\text { Cost of goods sold } & 800,000
\end{array}$Assuming that prepaid expenses are immaterial, ending merchandise inventory at December 31, Year 2 is

Accepted Answer

To find the ending merchandise inventory, we can use the merchandise inventory turnover ratio, which is given as 4.0. This ratio is calculated by dividing the cost of goods sold by the average inventory. Since we are not given the beginning inventory for Year 2, we assume the ending inventory of Year 1 to be the beginning inventory for Year 2, which is $190,000. The formula for inventory turnover is: $$ \text{Inventory Turnover} = \frac{\text{Cost of Goods Sold}}{\text{Average Inventory}} $$Given that the cost of goods sold is $800,000 and the inventory turnover ratio is 4.0, we can rearrange the formula to solve for the average inventory: $$ \text{Average Inventory} = \frac{\text{Cost of Goods Sold}}{\text{Inventory Turnover}} = \frac{800,000}{4} = 200,000 $$The average inventory is the average of the beginning and ending inventory, so: $$ \text{Average Inventory} = \frac{\text{Beginning Inventory} + \text{Ending Inventory}}{2} $$Substituting the known values: $$ 200,000 = \frac{190,000 + \text{Ending Inventory}}{2} $$Solving for the ending inventory: $$ 400,000 = 190,000 + \text{Ending Inventory} $$ $$ \text{Ending Inventory} = 210,000 $$Therefore, the ending merchandise inventory at December 31, Year 2 is $210,000.

Question 14

A mature, financially healthy company typically has a cash flow from operations to total liabilities ratio of

Accepted Answer

A cash flow from operations to total liabilities ratio of 20% or more is generally considered a strong indicator of a mature, financially healthy company. This ratio shows that the company generates enough cash from its regular operations to cover its total liabilities (including both short-term and long-term debt) and still have a sizeable amount of cash left over for investments, dividends, or other capital expenditures. A lower ratio indicates that a company might be struggling to cover its debts or might not be generating enough cash to sustain its operations in the long term.

Question 15

In assessing the debt ratios, analysts customarily vary the standard in relation to the stability of the firm's earnings and cash flows from operations.Public utilities have liabilities to assets ratios frequently on the order of

Accepted Answer

Public utilities typically have high liabilities to assets ratios, often in the range of 60% to 70%, due to their stable earnings and cash flows which allow them to carry more debt.

Question 16

Healthy mature firms typically have a cash flow from operations to current liabilities ratio of:

Accepted Answer

The answer of Healthy mature firms typically have a cash...

Question 17

During Year 2, Lamar Corporation purchased $600,000 of merchandise inventory.The cost of sales for year 2 was $660,000 and the ending merchandise inventory at December 31, Year 2 was $60,000.What was the inventory turnover for Year 2?

Accepted Answer

Inventory turnover is calculated as Cost of Goods Sold (COGS) / Average Inventory. For Year 2, COGS is $660,000. To find the average inventory, we need the beginning inventory, which can be calculated as: Beginning Inventory = (COGS + Ending Inventory) - Purchases = ($660,000 + $60,000) - $600,000 = $120,000. Thus, Average Inventory = ($120,000 + $60,000) / 2 = $90,000. Therefore, Inventory Turnover = $660,000 / $90,000 = 7.3.

Question 18

Analysts deciding between investments must consider the comparative risks.Which of the following is/are not firm-specific factors that affect the risk of business firms?

Accepted Answer

Unemployment is not a firm-specific factor as it is affected by external economic conditions and not directly controlled by the business itself. The other options listed are firm-specific factors that can directly affect the operations and risk level of a business.

Question 19

The accounts payable turnover ratio can reveal

Accepted Answer

The accounts payable turnover ratio shows the number of times a company pays off its accounts payable during a certain period. It is calculated by dividing the cost of goods sold by the average accounts payable balance. This ratio can reveal the number of days that a firm's accounts payable remain outstanding, which is important in determining the efficiency of a company's payment cycle.

Question 20

Analysts use measures of long-term _____ to evaluate a firm's ability to meet interest and principal payments on long-term debt and similar obligations as they come due.If a firm cannot make the payments on time, it becomes insolvent and may have to reorganize or liquidate.

Accepted Answer

The answer of Analysts use measures of long-term _____ to...

Quiz 7: Introduction to Financial Statement Analysis