Question 1

One problem with ratio analysis is that relationships can be manipulated.For example, if our current ratio is greater than 1.5, then borrowing on a short-term basis and using the funds to build up our cash account would cause the current ratio to increase.

Accepted Answer

Borrowing on a short-term basis increases both current liabilities and current assets, which may not necessarily increase the current ratio if the increase in liabilities is proportionate or greater than the increase in assets.

Question 2

Lincoln Industries' current ratio is 0.5.Considered alone, which of the following actions would increase the company's current ratio?
A) Use cash to reduce long-term bonds outstanding.
B) Borrow using short-term notes payable and use the cash to increase inventories.
C) Use cash to reduce accruals.
D) Use cash to reduce accounts payable.
E) Use cash to reduce short-term notes payable.

Accepted Answer

B

Question 3

A firm wants to strengthen its financial position.Which of the following actions would increase its quick ratio?
A) Issue new common stock and use the proceeds to acquire additional fixed assets.
B) Offer price reductions along with generous credit terms that would (1) enable the firm to sell some of its excess inventory and (2) lead to an increase in accounts receivable.
C) Issue new common stock and use the proceeds to increase inventories.
D) Speed up the collection of receivables and use the cash generated to increase inventories.
E) Use some of its cash to purchase additional inventories.

Accepted Answer

B

Question 4

Ratio analysis involves analyzing financial statements in order to appraise a firm's financial position and strength.

Accepted Answer

Ratio analysis is a tool used to evaluate a company's financial health by analyzing its financial statements, including balance sheets, income statements, and cash flow statements. It involves calculation and interpretation of various ratios such as liquidity ratios, profitability ratios, efficiency ratios, and solvency ratios to determine the company's financial position and strength.

Question 5

High current and quick ratios always indicate that a firm is managing its liquidity position well.

Accepted Answer

High current and quick ratios indicate that a firm has a strong liquidity position, but it doesn't necessarily mean that the firm is managing its liquidity position well. The management of liquidity involves maintaining an appropriate balance between cash, investments, and short-term liabilities to ensure that the firm can meet its obligations in a timely manner without incurring unnecessary costs or risks.

Question 6

The "apparent," but not the "true," financial position of a company whose sales are seasonal can differ dramatically, depending on the time of year when the financial statements are constructed.

Accepted Answer

This statement is true. The financial position of a company whose sales are seasonal may appear strong during the high sales season but could appear weak during the low sales season. Therefore, the apparent financial position may differ from the true financial position depending on the time of year the financial statements are constructed.

Question 7

Amram Company's current ratio is 1.9.Considered alone, which of the following actions would reduce the company's current ratio?
A) Use cash to reduce accounts payable.
B) Borrow using short-term notes payable and use the proceeds to reduce accruals.
C) Borrow using short-term notes payable and use the proceeds to reduce long-term debt.
D) Use cash to reduce accruals.
E) Use cash to reduce short-term notes payable.

Accepted Answer

Borrowing using short-term notes payable (increasing current liabilities) and using the proceeds to reduce long-term debt (not affecting current assets) would reduce the current ratio by increasing current liabilities without any increase in current assets.

Question 8

Significant variations in accounting methods among firms make meaningful ratio comparisons between firms more difficult than if all firms used similar accounting methods.

Accepted Answer

Significant variations in accounting methods can result in different financial results, which can make it challenging to conduct effective ratio comparisons between firms.

Question 9

A firm wants to strengthen its financial position.Which of the following actions would increase its current ratio?
A) Use cash to increase inventory holdings.
B) Reduce the company's days' sales outstanding to the industry average and use the resulting cash savings to purchase plant and equipment.
C) Use cash to repurchase some of the company's own stock.
D) Borrow using short-term debt and use the proceeds to repay debt that has a maturity of more than one year.
E) Issue new stock and then use some of the proceeds to purchase additional inventory and hold the remainder as cash.

Accepted Answer

Issuing new stock and using some of the proceeds to purchase additional inventory while holding the remainder as cash increases both current assets (cash and inventory) without increasing current liabilities, thus improving the current ratio.

Question 10

Which of the following would, generally, indicate an improvement in a company's financial position, holding other things constant?
A) The total assets turnover decreases.
B) The TIE declines.
C) The DSO increases.
D) The EBITDA coverage ratio increases.
E) The current and quick ratios both decline.

Accepted Answer

An increase in the EBITDA coverage ratio would generally indicate an improvement in a company's financial position because it means the company is generating more earnings to cover its interest expenses. The other choices would generally indicate a decline in the company's financial position.

Question 11

Lofland's has $20 million in current assets and $10 million in current liabilities, while Smaland's current assets are $10 million versus $20 million of current liabilities.Both firms would like to "window dress" their end-of-year financial statements, and to do so each plans to borrow $10 million on a short-term basis and to then hold the borrowed funds in their cash accounts.Which of the statements below best describes the results of these transactions?
A) The transaction would improve both firms' financial strength as measured by their current ratios.
B) The transactions would raise Lofland's financial strength as measured by its current ratio but lower Smaland's current ratio.
C) The transactions would lower Lofland's financial strength as measured by its current ratio but raise Smaland's current ratio.
D) The transaction would have no effect on the firm' financial strength as measured by their current ratios.
E) The transaction would lower both firm' financial strength as measured by their current ratios.

Accepted Answer

The answer of Lofland's has $20 million in current assets...

Question 12

The current ratio and inventory turnover ratios both help us measure the firm's liquidity.The current ratio measures the relationship of a firm's current assets to its current liabilities, while the inventory turnover ratio gives us an indication of how long it takes the firm to convert its inventory into cash.

Accepted Answer

The statement is true.

Question 13

Although a full liquidity analysis requires the use of a cash budget, the current and quick ratios provide fast and easy-to-use measures of a firm's liquidity position.

Accepted Answer

The current and quick ratios are commonly used as quick measures of a firm's liquidity position, but a full liquidity analysis would require a more detailed cash budget.

Question 14

Even though Firm A's current ratio exceeds that of Firm B, Firm B's quick ratio might exceed that of A.However, if A's quick ratio exceeds B's, then we can be certain that A's current ratio is also larger than that of B.

Accepted Answer

The current ratio and quick ratio measure different aspects of a company's liquidity. It's possible for Firm A to have a higher quick ratio than Firm B while still having a lower current ratio, as these ratios consider different sets of assets in their calculations. The quick ratio excludes inventory and other less liquid current assets, focusing on those assets that can be quickly converted to cash.

Question 15

pettijohn Inc.
The balance sheet and income statement shown below are for Pettijohn Inc. Note that the firm hasno amortization charges, it does not lease any ass ets, none of its debt must be retired during the next 5 years, and the notes payable will be rolled over.

$\text { Balance Shet (Millions of } \$ \text { ) }$
\(\begin{array}{lr}
\text { Assets } & \underline{2016} \
\text { Cash and securities } & \$ 1,554.00 \
\text { Accounts receivable } & 9,660.00 \
\text { inventories } & 13,440.00 \
\text { Total current assets } & \$ 24,654.00 \
\text { Net plant and equipment } & 17,346.00 \
\text { Total assets } & \$ 42,000.00 \
\text { Liabilities and Equity } \
\text { Accounts payable } & \$ 7,980.00 \
\text { Notes payable } & 5,880.0 0\
\text { Accruals } & 4,620.00\
\text { Total current liabilities } & \$ 18,480.00 \
\text { Cong-term bonds } & 10,920.00 \
\text { Cotal liabilities } & \$ 29,400.0 0\
\text { Common stock } & 3,360.00 \
\text { Retained earnings } & 9,240.00 \
\text { Total common equity } & \$ 12,600.00 \
\text { Total liabilities and equity } & \$ 42,000.00
\\
\text { Income Statement (Millions of \$) } & 2016 \
\text { Net sales } & \$ 58,800.00 \
\text { Operating costs except depr'n } & \$ 55,274.00 \
\text { Depreciation } & \$ 1,029.00\
\text { Earnings bef int and taxes (EBIT) } & \$ 2,497.00 \
\text { Less interest } & 1,050.00 \
\text { Earnings before taxes (EBT) } & \$ 1,447.00 \
\text { Taxes } & \$ 314.00 \
\text { Net income } & \$ 1,133.00\
\text { Dther data: }\
\text { Shares outstanding (millions) } & 175.00 \
\text { Common dividends } & 509.83 \
\text { Int rate on notes payable \& L-T bonds } & 6.25 \% \
\text { Federal plus state income tax rate } & 21.7 \% \
\text { Year-end stock price } & \$ 77.69
\end{array}\)
-Refer to the data for Pettijohn Inc.What is the firm's current ratio?
A) 0.97
B) 1.08
C) 1.20
D) 1.33
E) 1.47

Accepted Answer

The current ratio is calculated as Total Current Assets / Total Current Liabilities. From the balance sheet, Total Current Assets = $24,654 million and Total Current Liabilities = $18,480 million. Therefore, the current ratio = $24,654 / $18,480 = 1.33.

Question 16

One problem with ratio analysis is that relationships can be manipulated.For example, we know that if our current ratio is less than 1.0, then using some of our cash to pay off some of our current liabilities would cause the current ratio to increase and thus make the firm look stronger.

Accepted Answer

The answer of One problem with ratio analysis is that...

Question 17

pettijohn Inc.
The balance sheet and income statement shown below are for Pettijohn Inc. Note that the firm hasno amortization charges, it does not lease any ass ets, none of its debt must be retired during the next 5 years, and the notes payable will be rolled over.

$\text { Balance Shet (Millions of } \$ \text { ) }$
\(\begin{array}{lr}
\text { Assets } & \underline{2016} \
\text { Cash and securities } & \$ 1,554.00 \
\text { Accounts receivable } & 9,660.00 \
\text { inventories } & 13,440.00 \
\text { Total current assets } & \$ 24,654.00 \
\text { Net plant and equipment } & 17,346.00 \
\text { Total assets } & \$ 42,000.00 \
\text { Liabilities and Equity } \
\text { Accounts payable } & \$ 7,980.00 \
\text { Notes payable } & 5,880.0 0\
\text { Accruals } & 4,620.00\
\text { Total current liabilities } & \$ 18,480.00 \
\text { Cong-term bonds } & 10,920.00 \
\text { Cotal liabilities } & \$ 29,400.0 0\
\text { Common stock } & 3,360.00 \
\text { Retained earnings } & 9,240.00 \
\text { Total common equity } & \$ 12,600.00 \
\text { Total liabilities and equity } & \$ 42,000.00
\\
\text { Income Statement (Millions of \$) } & 2016 \
\text { Net sales } & \$ 58,800.00 \
\text { Operating costs except depr'n } & \$ 55,274.00 \
\text { Depreciation } & \$ 1,029.00\
\text { Earnings bef int and taxes (EBIT) } & \$ 2,497.00 \
\text { Less interest } & 1,050.00 \
\text { Earnings before taxes (EBT) } & \$ 1,447.00 \
\text { Taxes } & \$ 314.00 \
\text { Net income } & \$ 1,133.00\
\text { Dther data: }\
\text { Shares outstanding (millions) } & 175.00 \
\text { Common dividends } & 509.83 \
\text { Int rate on notes payable \& L-T bonds } & 6.25 \% \
\text { Federal plus state income tax rate } & 21.7 \% \
\text { Year-end stock price } & \$ 77.69
\end{array}\)
-Refer to the data for Pettijohn Inc.What is the firm's quick ratio?
A) 0.49
B) 0.61
C) 0.73
D) 0.87
E) 1.05

Accepted Answer

The quick ratio is calculated as (Cash and securities + Accounts receivable) / Total current liabilities. From the balance sheet, Cash and securities = $1,554.00 million, Accounts receivable = $9,660.00 million, and Total current liabilities = $18,480.00 million. Thus, the quick ratio = ($1,554.00 + $9,660.00) / $18,480.00 = $11,214.00 / $18,480.00 = 0.607 or approximately 0.61.

Question 18

Considered alone, which of the following would increase a company's current ratio?
A) An increase in accounts payable.
B) An increase in net fixed assets.
C) An increase in accrued liabilities.
D) An increase in notes payable.
E) An increase in accounts receivable.

Accepted Answer

The current ratio is calculated as current assets divided by current liabilities. An increase in accounts receivable increases the company's current assets without affecting its current liabilities, thus increasing the current ratio.

Question 19

Which of the following statements is CORRECT?
A) "Window dressing" is any action that improves a firm's fundamental, long-run position and thus increases its intrinsic value.
B) Borrowing by using short-term notes payable and then using the proceeds to retire long-term debt is an example of "window dressing." Offering discounts to customers who pay with cash rather than buy on credit and then using the funds that come in quicker to purchase additional inventories is another example of "window dressing."
C) Borrowing on a long-term basis and using the proceeds to retire short-term debt would improve the current ratio and thus could be considered to be an example of "window dressing."
D) Offering discounts to customers who pay with cash rather than buy on credit and then using the funds that come in quicker to purchase additional inventories is an example of "window dressing."
E) Using some of the firm's cash to reduce long-term debt is an example of "window dressing."

Accepted Answer

"Window dressing" refers to actions that improve financial statements without improving the firm's fundamental position. Borrowing long-term to retire short-term debt can improve the current ratio, which is a form of window dressing.

Question 20

Firms A and B have the same current ratio, 0.75, the same amount of sales and cost of goods sold, and the same amount of current liabilities.However, Firm A has a higher inventory turnover ratio than B.Therefore, we can conclude that A's quick ratio must be smaller than B's.

Accepted Answer

A higher inventory turnover ratio indicates that Firm A is selling its inventory more quickly than Firm B. Since the quick ratio excludes inventory from current assets, Firm A's more efficient inventory management does not directly affect its quick ratio compared to Firm B's, especially given the same current liabilities and current ratio. The quick ratio depends on liquid assets other than inventory, which are not specified to differ between the firms.

Quiz 3: Analysis of Financial Statements

One problem with ratio analysis is that relationships can be manipulated.For example, if our current ratio is greater than 1.5, then borrowing on a short-term basis and using the funds to build up our cash account would cause the current ratio to increase.

Lincoln Industries' current ratio is 0.5.Considered alone, which of the following actions would increase the company's current ratio?

A firm wants to strengthen its financial position.Which of the following actions would increase its quick ratio?

Ratio analysis involves analyzing financial statements in order to appraise a firm's financial position and strength.

High current and quick ratios always indicate that a firm is managing its liquidity position well.

The "apparent," but not the "true," financial position of a company whose sales are seasonal can differ dramatically, depending on the time of year when the financial statements are constructed.

Amram Company's current ratio is 1.9.Considered alone, which of the following actions would reduce the company's current ratio?

Significant variations in accounting methods among firms make meaningful ratio comparisons between firms more difficult than if all firms used similar accounting methods.

A firm wants to strengthen its financial position.Which of the following actions would increase its current ratio?

Which of the following would, generally, indicate an improvement in a company's financial position, holding other things constant?

Although a full liquidity analysis requires the use of a cash budget, the current and quick ratios provide fast and easy-to-use measures of a firm's liquidity position.

Even though Firm A's current ratio exceeds that of Firm B, Firm B's quick ratio might exceed that of A.However, if A's quick ratio exceeds B's, then we can be certain that A's current ratio is also larger than that of B.

One problem with ratio analysis is that relationships can be manipulated.For example, we know that if our current ratio is less than 1.0, then using some of our cash to pay off some of our current liabilities would cause the current ratio to increase and thus make the firm look stronger.

Considered alone, which of the following would increase a company's current ratio?

Which of the following statements is CORRECT?

Firms A and B have the same current ratio, 0.75, the same amount of sales and cost of goods sold, and the same amount of current liabilities.However, Firm A has a higher inventory turnover ratio than B.Therefore, we can conclude that A's quick ratio must be smaller than B's.