Question 1

If Sassycat, Inc. had gross profit of $35,000, interest expense $10,000, and operating expenses $20,000, then the interest coverage ratio would be 1.25

Accepted Answer

The interest coverage ratio is calculated as EBIT (Earnings Before Interest and Taxes) divided by interest expense. In this case, EBIT is gross profit minus operating expenses, which is $35,000 - $20,000 = $15,000. Therefore, the interest coverage ratio is $15,000 / $10,000 = 1.5.

Question 2

Bach Instruments had total assets of $600,000; total liabilities of $270,000; and total Stockholders' Equity of $330,000. Bach's debt ratio is: (Round your final answer to the nearest whole number.)

Accepted Answer

The debt ratio is calculated as total liabilities divided by total assets. For Bach Instruments, the debt ratio is $270,000 / $600,000 = 0.45, or 45%.

Question 3

A company will want a lower interest coverage ratio if it is unsure of its EBIT.

Accepted Answer

A company would want a higher interest coverage ratio if it is unsure of its EBIT, as a higher ratio provides a larger cushion to cover interest expenses. A lower ratio would increase the risk of defaulting on interest payments.

Question 4

Livingston Organization had total assets of $635,000; total liabilities of $185,000; and total Stockholders' Equity of $450,000. Livingston's debt ratio is: (Round your final answer to the nearest whole number.)

Accepted Answer

The debt ratio is calculated as total liabilities divided by total assets. For Livingston Organization, the debt ratio is $185,000 / $635,000 = 0.2913, which rounds to 29%.

Question 5

The debt ratio equals total assets divided by total liabilities.

Accepted Answer

The debt ratio equals total liabilities divided by total assets. It measures the percentage of a company's assets that are financed by debt.

Question 6

Stella Corp. has the following liabilities: $30,000 salaries payable, $70,000 accounts payable, $180,000 notes payable (to be made in 10 equal annual payments), and warranty payable $22,000 (all of Stella's products come with a 90-day manufacturer warranty). The total current liabilities is:

Accepted Answer

The answer of Stella Corp. has the following liabilities: $30,000...

Question 7

By NOT accruing warranty expense:

Accepted Answer

Accruing warranty expense is necessary to recognize the estimated future costs of honoring warranty claims on products sold. By not accruing this expense, reported liabilities, which represents the estimated future costs, will be understated. This, in turn, will result in an overstatement of net income because expenses incurred to honor warranty claims were not recognized.

Question 8

Dante's Designs has current assets of $57,000 long-term assets of $139,000 current liabilities of $49,000 long-term liabilities of $93,000. Dante's debt ratio is: (Round your final answer to the nearest whole number.)

Accepted Answer

Dante's total liabilities are $142,000 ($49,000 + $93,000). 
Therefore, the debt ratio is: 
($142,000 / ($57,000 + $139,000)) x 100% = 72% 
(rounded to the nearest whole number)

Question 9

Which current liability is generally listed first?

Accepted Answer

Accounts payable are generally listed first among current liabilities as they are the most common and frequent type of liability for most businesses.

Question 10

One type of liability that is easy to overlook is a(n):

Accepted Answer

A contingent liability is a potential liability that may occur in the future depending on the outcome of a specific event or circumstance. It is easy to overlook this type of liability because it is not yet a definite obligation and may not be included in the financial statements. However, if the event or circumstance does occur, the liability must be recognized and disclosed in the financial statements. Therefore, it is important to identify and evaluate contingent liabilities to properly assess the financial position of a company.

Question 11

Proper classification of liabilities can pose an ethical challenge, since it might be tempting to manipulate them in order to make the business appear more profitable.

Accepted Answer

Proper classification of liabilities is crucial for accurate financial reporting. However, there may be a temptation to manipulate or misclassify them in order to present a more favorable financial picture. This can be considered unethical and can result in legal and reputational consequences. Therefore, it is important to adhere to ethical standards and accurately report liabilities.

Question 12

The interest coverage ratio equals interest expense divided by EBIT.

Accepted Answer

The interest coverage ratio is calculated by dividing EBIT (Earnings Before Interest and Taxes) by the interest expense, not the other way around.

Question 13

Vintage Boutique reported Interest expense of $5,500, Income tax expense of $24,000 and Net income of $77,000. Vintage Boutique's interest coverage ratio is: (Round your final answer to two decimal places.)

Accepted Answer

Interest coverage ratio is calculated by dividing earnings before interest and taxes (EBIT) by interest expense.

EBIT = Net income + Interest expense + Income tax expense 
EBIT = $77,000 + $5,500 + $24,000 
EBIT = $106,500

Interest coverage ratio = EBIT / Interest expense 
Interest coverage ratio = $106,500 / $5,500 
Interest coverage ratio = 19.36

Therefore, the answer is D, 19.36. This means that Vintage Boutique's earnings are 19.36 times larger than its interest expense, indicating that the company can comfortably meet its interest obligations.

Question 14

Wolfe Company has a 5-year mortgage for $120,000 which requires 4 equal payments of principal plus interest. In the first year of the mortgage, Wolfe will report this liability as a:

Accepted Answer

The mortgage requires 4 equal payments of principal, meaning each year Wolfe will pay off 1/4 of the principal amount, which is $30,000 ($120,000 divided by 4). Therefore, the portion of the mortgage due within the next year ($30,000) is classified as a current liability, and the remaining balance ($90,000) is classified as a long-term liability.

Question 15

If Caesar's Coffee Company had total liabilities of $200,000 and total Stockholders' Equity of $150,000, then the debt ratio would be 57%.

Accepted Answer

Debt ratio is calculated by dividing the total liabilities by the total assets of a company. However, the question only provides information about total liabilities and total stockholders' equity. Therefore, we need to calculate the total assets first:

Total Assets = Total Liabilities + Stockholders' Equity 
Total Assets = $200,000 + $150,000 
Total Assets = $350,000

Now we can calculate the debt ratio:

Debt Ratio = Total Liabilities / Total Assets 
Debt Ratio = $200,000 / $350,000 
Debt Ratio = 0.57 or 57%

Therefore, the answer is A (True).

Question 16

A company's ability to pay the interest on its debt is often measured with the interest coverage ratio.

Accepted Answer

The interest coverage ratio measures a company's ability to pay the interest on its debt.

Question 17

The debt ratio is an indicator of a company's ability to incur more debt.

Accepted Answer

The debt ratio measures the percentage of a company's assets that are financed by debt. A high debt ratio indicates that a company has a lot of debt relative to its assets, which could make it more difficult for the company to take on additional debt. Therefore, the debt ratio is an indicator of a company's ability to incur more debt.

Question 18

Both the formulas for current ratio and debt ratio use current liabilities in the computation.

Accepted Answer

The current ratio uses current liabilities in its computation (current assets divided by current liabilities), while the debt ratio uses total liabilities (total liabilities divided by total assets), not just current liabilities.

Question 19

The debt ratio is an indicator of a company's profitability.

Accepted Answer

The debt ratio is actually an indicator of a company's leverage, or the amount of debt it has relative to its assets. It does not directly measure profitability, although high levels of debt can affect profitability if the company is unable to make debt payments or if interest payments on debt consume a significant portion of the company's earnings.

Question 20

A debt ratio of 0.50 (50%)would mean that half of a company's assets would need to be sold to pay off all of its current liabilities.

Accepted Answer

A debt ratio of 0.50 means that half of a company's assets are financed by debt, while the other half is financed by equity. It does not mean that half of the assets would need to be sold to pay off current liabilities.

Quiz 9: Current Liabilities and Long-Term Debt