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Exam 3: Analysis of Financial Statements

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Question 1

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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.

A) True
B) False

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Question 2

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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.

F) All of the above
G) D) and E)

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C

Question 3

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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.

If a firm finances with only debt and common equity, and if its equity multiplier is 3.0, then its debt ratio must be 0.667.

Last year Rosenberg Corp.had $195,000 of assets, $18,775 of net income, and a debt-to-total-assets ratio of 32%.Now suppose the new CFO convinces the president to increase the debt ratio to 48%.Sales and total assets will not be affected, but interest expenses would increase.However, the CFO believes that better cost controls would be sufficient to offset the higher interest expense and thus keep net income unchanged.By how much would the change in the capital structure improve the ROE?

Determining whether a firm's financial position is improving or deteriorating requires analyzing more than the ratios for a given year.Trend analysis is one method of measuring changes in a firm's performance over time.

Companies Heidee and Leaudy have the same sales, tax rate, interest rate on their debt, total assets, and basic earning power.Both companies have positive net incomes.Company Heidee has a higher debt ratio and, therefore, a higher interest expense.Which of the following statements is CORRECT?

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.

Last year Mason Inc.had a total assets turnover of 1.33 and an equity multiplier of 1.75.Its sales were $195,000 and its net income was $10,549.The CFO believes that the company could have operated more efficiently, lowered its costs, and increased its net income by $5,250 without changing its sales, assets, or capital structure.Had it cut costs and increased its net income in this amount, by how much would the ROE have changed?

Last year Vaughn Corp.had sales of $315,000 and a net income of $17,832, and its year-end assets were $210,000.The firm's total-debt-to-total-assets ratio was 42.5%.Based on the DuPont equation, what was Vaughn's ROE?

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

Lindley Corp.'s stock price at the end of last year was $33.50, and its book value per share was $25.00.What was its market/book ratio?

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.

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 decline in a firm's inventory turnover ratio suggests that it is managing its inventory more efficiently and also that its liquidity position is improving, i.e., it is becoming more liquid.

The inventory turnover ratio and days sales outstanding (DSO) are two ratios that are used to assess how effectively a firm is managing its assets.

Which of the following statements is CORRECT?

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

Pettijohn Inc. The balance sheet and income statement shown below are for Pettijohn Inc. Note that the firm has no amortization charges, it does not lease any assets, none of its debt must be retired during the next 5 years, and the notes payable will be rolled over. -Refer to the data for Pettijohn Inc.What is the firm's market-to-book ratio?

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.