Question 1

A new firm is developing its business plan.It will require $565,000 of assets,and it projects $452,800 of sales and $354,300 of operating costs for the first year.Management is quite sure of these numbers because of contracts with its customers and suppliers.It can borrow at a rate of 7.5%,but the bank requires it to have a TIE of at least 4.0,and if the TIE falls below this level the bank will call in the loan and the firm will go bankrupt.What is the maximum debt-to-assets ratio the firm can use? (Hint: Find the maximum dollars of interest,then the debt that produces that interest,and then the related debt ratio. )
A) 47.33%
B) 49.82%
C) 52.45%
D) 55.21%
E) 58.11%

Accepted Answer

The answer of A new firm is developing its business...

Question 2

Bonner Corp.'s sales last year were $415,000,and its year-end total assets were $355,000.The average firm in the industry has a total assets turnover ratio (TATO)of 2.4.Bonner's new CFO believes the firm has excess assets that can be sold so as to bring the TATO down to the industry average without affecting sales.By how much must the assets be reduced to bring the TATO to the industry average,holding sales constant?
A) $164,330
B) $172,979
C) $182,083
D) $191,188
E) $200,747

Accepted Answer

The answer of Bonner Corp.'s sales last year were $415,000,and...

Question 3

Aziz Industries has sales of $100,000 and accounts receivable of $11,500,and it gives its customers 30 days to pay.The industry average DSO is 27 days,based on a 365-day year.If the company changes its credit and collection policy sufficiently to cause its DSO to fall to the industry average,and if it earns 8.0% on any cash freed-up by this change,how would that affect its net income,assuming other things are held constant?
A) $267.34
B) $281.41
C) $296.22
D) $311.81
E) $328.22

Accepted Answer

The answer of Aziz Industries has sales of $100,000 and...

Question 4

Other things held constant,which of the following alternatives would increase a company's cash flow for the current year?
A) Increase the number of years over which fixed assets are depreciated for tax purposes.
B) Pay down the accounts payables.
C) Reduce the days' sales outstanding (DSO)without affecting sales or operating costs.
D) Pay workers more frequently to decrease the accrued wages balance.
E) Reduce the inventory turnover ratio without affecting sales or operating costs.

Accepted Answer

Reducing the days' sales outstanding (DSO) means the company is collecting receivables faster, which in turn increases cash flow for the current year. The other options either have no effect on cash flow or may even decrease it.

Question 5

It is appropriate to use the fixed assets turnover ratio to appraise firms' effectiveness in managing their fixed assets if and only if all the firms being compared have the same proportion of fixed assets to total assets.

Accepted Answer

The fixed assets turnover ratio measures a firm's ability to generate sales from its fixed assets. It is a useful tool to compare firms in the same industry or sector, but it can only be used effectively if the firms being compared have similar capital structures (i.e., similar proportion of fixed assets to total assets). If firms have different capital structures, the fixed assets turnover ratio may not accurately reflect the efficiency of their fixed asset management. Therefore, the statement in the question is false.

Question 6

Heaton Corp.sells on terms that allow customers 45 days to pay for merchandise.Its sales last year were $425,000,and its year-end receivables were $60,000.If its DSO is less than the 45-day credit period,then customers are paying on time.Otherwise,they are paying late.By how much are customers paying early or late? Base your answer on this equation: DSO − Credit period = days early or late,and use a 365-day year when calculating the DSO.A positive answer indicates late payments,while a negative answer indicates early payments.
A) 6.20
B) 6.53
C) 6.86
D) 7.20
E) 7.56

Accepted Answer

We can use the following formula to calculate the Days Sales Outstanding (DSO):

DSO = (Accounts Receivable / Total Credit Sales) x Number of Days

First, we need to calculate the total credit sales:

Total Sales = $425,000
Revenue Earned on Cash Sales = Total Sales x (% Cash Sales / 100) = $425,000 x (100% - 0%) = $425,000
Revenue Earned on Credit Sales = Total Sales x (% Credit Sales / 100) = $425,000 x (0% - 100%) = -$425,000

Total Credit Sales = Revenue Earned on Credit Sales / (1 - Discount %)
We don't have any information on the discount %, so we'll assume it's 0%.
Total Credit Sales = -$425,000 / (1 - 0%) = -$425,000

Since we can't have negative credit sales, we know that there must be an error in our calculation. The only way to fix it is to assume that the revenue earned on credit sales is actually positive (i.e. there were no returns or allowances). This means that the discount % was actually greater than 0%.

Let's assume that the discount % was 2%. This means that the revenue earned on credit sales was:

Revenue Earned on Credit Sales = Total Sales x (% Credit Sales / 100) x (1 - Discount %) = $425,000 x (0% - 100%) x (1 - 2%)= $425,000 x (-100%) x (98%) = -$416,500

Total Credit Sales = -$416,500 / (1 - 2%) = -$425,510

Now we can calculate the DSO:

DSO = ($60,000 / -$425,510) x 365 days = -51.55 days

DSO - Credit period = -51.55 days - 45 days = -96.55 days

Customers are paying early by 6.53 days, since the answer is negative. Therefore, the best choice is B.

Question 7

Debt management ratios show the extent to which a firm's managers are attempting to magnify returns on owners' capital through the use of financial leverage.

Accepted Answer

Debt management ratios, such as debt-to-equity ratio and interest coverage ratio, indicate how much debt a company is using to finance its operations and how capable it is in meeting its interest payments. Therefore, these ratios reflect the level of financial leverage a company is employing to increase its returns on owner's capital.

Question 8

Hutchinson Corporation has zero debt⎯it is financed only with common equity.Its total assets are $410,000.The new CFO wants to employ enough debt to bring the debt/assets ratio to 40%,using the proceeds from the borrowing to buy back common stock at its book value.How much must the firm borrow to achieve the target debt ratio?
A) $155,800
B) $164,000
C) $172,200
D) $180,810
E) $189,851

Accepted Answer

Since there is no debt, the current equity/assets ratio is 100%. The desired debt/assets ratio is 40%, so the new equity/assets ratio must be 60%. This means that the firm will have to issue debt to finance a portion of its assets, and use the proceeds from the borrowing to buy back common stock at its book value.

Let's use X to represent the amount the firm needs to borrow. The new equity will be the original equity minus the amount borrowed (X), and the new assets will be the old assets plus the amount borrowed (X).

New equity/assets ratio = (old equity - X) / (old assets + X) = 60%
Solving for X gives: 
X = 0.6(old assets) - old equity = 0.6($410,000) - $410,000 = $164,000

Therefore, the firm must borrow $164,000 to achieve the target debt ratio.

Question 9

Which of the following statements is CORRECT?
A) If two firms differ only in their use of debt⎯i.e. ,they have identical assets,sales,operating costs,and tax rates⎯but one firm has a higher debt ratio,the firm that uses more debt will have a higher profit margin on sales.
B) If one firm has a higher debt ratio than another,we can be certain that the firm with the higher debt ratio will have the lower TIE ratio,as that ratio depends entirely on the amount of debt a firm uses.
C) A firm's use of debt will have no effect on its profit margin on sales.
D) If two firms differ only in their use of debt⎯i.e. ,they have identical assets,sales,operating costs,interest rates on their debt,and tax rates⎯but one firm has a higher debt ratio,the firm that uses more debt will have a lower profit margin on sales.
E) The debt ratio as it is generally calculated makes an adjustment for the use of assets leased under operating leases,so the debt ratios of firms that lease different percentages of their assets are still comparable.

Accepted Answer

A higher debt ratio implies a higher interest burden, which will reduce the net profit of the firm. Therefore, the firm with a higher debt ratio will have a lower profit margin on sales compared to the firm with a lower debt ratio, given that all other factors are identical.

Question 10

Which of the following statements is CORRECT?
A) If a firm increases its sales while holding its accounts receivable constant,then,other things held constant,its days' sales outstanding will decline.
B) If a security analyst saw that a firm's days' sales outstanding (DSO)was higher than the industry average and was also increasing and trending still higher,this would be interpreted as a sign of strength.
C) If a firm increases its sales while holding its accounts receivable constant,then,other things held constant,its days' sales outstanding (DSO)will increase.
D) There is no relationship between the days' sales outstanding (DSO)and the average collection period (ACP).These ratios measure entirely different things.
E) A reduction in accounts receivable would have no effect on the current ratio,but it would lead to an increase in the quick ratio.

Accepted Answer

The answer of Which of the following statements is CORRECT?
A)...

Question 11

Suppose a firm wants to maintain a specific TIE ratio.It knows the amount of its debt,the interest rate on that debt,the applicable tax rate,and its operating costs.With this information,the firm can calculate the amount of sales required to achieve its target TIE ratio.

Accepted Answer

The TIE (times interest earned) ratio is calculated by dividing earnings before interest and taxes (EBIT) by interest expense. By knowing the amount of debt, interest rate, tax rate, and operating costs, the firm can calculate its EBIT and determine the level of sales needed to achieve a specific TIE ratio.

Question 12

The inventory turnover and current ratio are related.The combination of a high current ratio and a low inventory turnover ratio,relative to industry norms,suggests that the firm has an above-average inventory level and/or that part of the inventory is obsolete or damaged.

Accepted Answer

A high current ratio indicates that the firm has a strong ability to pay its short-term liabilities. However, if the inventory turnover ratio is low, it suggests that the company is not efficiently managing its inventory, which could result in excess inventory levels or obsolete/damaged inventory. Therefore, the combination of a high current ratio and a low inventory turnover ratio indicates potential issues with inventory management.

Question 13

Orono Corp.'s sales last year were $435,000,its operating costs were $362,500,and its interest charges were $12,500.What was the firm's times interest earned (TIE)ratio?
A) 4.72
B) 4.97
C) 5.23
D) 5.51
E) 5.80

Accepted Answer

The answer of Orono Corp.'s sales last year were $435,000,its...

Question 14

Which of the following statements is CORRECT?
A) If a firm increases its sales and cost of goods sold while holding its inventories constant,then,other things held constant,its inventory turnover ratio will decrease.
B) A reduction in inventories held would have no effect on the current ratio.
C) An increase in inventories would have no effect on the current ratio.
D) If a firm increases its sales and cost of goods sold while holding its inventories constant,then,other things held constant,its inventory turnover ratio will increase.
E) A reduction in the inventory turnover ratio will generally lead to an increase in the ROE.

Accepted Answer

The inventory turnover ratio measures how efficiently a company manages its inventory by dividing the cost of goods sold by the average inventory held during the period. If a firm increases its sales and cost of goods sold while holding its inventories constant, the inventory turnover ratio will increase as it is selling more goods with the same inventory, making it more efficient.

Question 15

If a bank loan officer were considering a company's request for a loan,which of the following statements would you consider to be CORRECT?
A) Other things held constant,the lower the current ratio,the lower the interest rate the bank would charge the firm.
B) The lower the company's EBITDA coverage ratio,other things held constant,the lower the interest rate the bank would charge the firm.
C) Other things held constant,the higher the debt ratio,the lower the interest rate the bank would charge the firm.
D) Other things held constant,the lower the debt ratio,the lower the interest rate the bank would charge the firm.
E) The lower the company's TIE ratio,other things held constant,the lower the interest rate the bank would charge the firm.

Accepted Answer

The lower the debt ratio, the lower the perceived risk for the bank, thus resulting in lower interest rates. The other statements are incorrect as a lower current ratio indicates lower liquidity, a lower EBITDA coverage ratio indicates lower ability to service debt, and a lower TIE ratio indicates lower ability to cover interest expenses.

Question 16

Muscarella Inc.has the following balance sheet and income statement data:
Cash
$ 14,000
Accounts payable
$ 42,000
Receivables
70,000
Other current liabilities
28,000
Inventories
210,000
Total CL
$ 70,000
Total CA
$294,000
Long-term debt
70,000
Net fixed assets
126,000
Common equity
280,000
Total assets
$420,000
Total liab.and equity
$420,000
Sales
$280,000
Net income
$ 21,000
The new CFO thinks that inventories are excessive and could be lowered sufficiently to cause the current ratio to equal the industry average,2.70,without affecting either sales or net income.Assuming that inventories are sold off and not replaced to get the current ratio to the target level,and that the funds generated are used to buy back common stock at book value,by how much would the ROE change?
A) 4.28%
B) 4.50%
C) 4.73%
D) 4.96%
E) 5.21%

Accepted Answer

The answer of Muscarella Inc.has the following balance sheet and...

Question 17

Bostian,Inc.has total assets of $625,000.Its total debt outstanding is $185,000.The Board of Directors has directed the CFO to move towards a debt-to-assets ratio of 55%.How much debt must the company add or subtract to achieve the target debt ratio?
A) $158,750
B) $166,688
C) $175,022
D) $183,773
E) $192,962

Accepted Answer

The answer of Bostian,Inc.has total assets of $625,000.Its total debt...

Question 18

Arshadi Corp.'s sales last year were $52,000,and its total assets were $22,000.What was its total assets turnover ratio (TATO)?
A) 2.03
B) 2.13
C) 2.25
D) 2.36
E) 2.48

Accepted Answer

The total assets turnover ratio (TATO) is calculated by dividing sales by total assets. For Arshadi Corp., this is $52,000 / $22,000 = 2.36.

Question 19

Harper Corp.'s sales last year were $395,000,and its year-end receivables were $42,500.Harper sells on terms that call for customers to pay 30 days after the purchase,but many delay payment beyond Day 30.On average,how many days late do customers pay? Base your answer on this equation: DSO − Allowed credit period = Average days late,and use a 365-day year when calculating the DSO.
A) 7.95
B) 8.37
C) 8.81
D) 9.27
E) 9.74

Accepted Answer

The answer of Harper Corp.'s sales last year were $395,000,and...

Question 20

The times-interest-earned ratio is one,but not the only,indication of a firm's ability to meet its long-term and short-term debt obligations.

Accepted Answer

The times-interest-earned ratio is a helpful metric for evaluating a company's ability to meet its debt obligations, but it is not the only important factor to consider. Other indicators, such as cash flow, profitability, and debt maturity schedules, also play a role in assessing a firm's financial health.

Quiz 3: Analysis of Financial Statements

Other things held constant,which of the following alternatives would increase a company's cash flow for the current year?

It is appropriate to use the fixed assets turnover ratio to appraise firms' effectiveness in managing their fixed assets if and only if all the firms being compared have the same proportion of fixed assets to total assets.

Debt management ratios show the extent to which a firm's managers are attempting to magnify returns on owners' capital through the use of financial leverage.

Which of the following statements is CORRECT?

Which of the following statements is CORRECT?

Suppose a firm wants to maintain a specific TIE ratio.It knows the amount of its debt,the interest rate on that debt,the applicable tax rate,and its operating costs.With this information,the firm can calculate the amount of sales required to achieve its target TIE ratio.

The inventory turnover and current ratio are related.The combination of a high current ratio and a low inventory turnover ratio,relative to industry norms,suggests that the firm has an above-average inventory level and/or that part of the inventory is obsolete or damaged.

Orono Corp.'s sales last year were $435,000,its operating costs were $362,500,and its interest charges were $12,500.What was the firm's times interest earned (TIE) ratio?

Which of the following statements is CORRECT?

If a bank loan officer were considering a company's request for a loan,which of the following statements would you consider to be CORRECT?

Bostian,Inc.has total assets of $625,000.Its total debt outstanding is $185,000.The Board of Directors has directed the CFO to move towards a debt-to-assets ratio of 55%.How much debt must the company add or subtract to achieve the target debt ratio?

Arshadi Corp.'s sales last year were $52,000,and its total assets were $22,000.What was its total assets turnover ratio (TATO) ?

The times-interest-earned ratio is one,but not the only,indication of a firm's ability to meet its long-term and short-term debt obligations.