ba 323 ch 4, 13, 15, 16

A firm's ROE is equal to 9% and its ROA is equal to 6%. The firm finances only with short-term debt, long-term debt, and common equity, so assets equal total invested capital. The firm's total debt to total capital ratio must be 50%. a. True b. False

FALSE

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. a. True b. False

FALSE

The more conservative a firm's management is, the higher its total debt to total capital ratio [measured as (Short-term debt + Long-term debt)/(Debt + Preferred stock + Common equity)] is likely to be. a. True b. False

FALSE

Which of the following statements is CORRECT? a. 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." b. Offering discounts to customers who pay with cash rather than buy on credit and then using the funds that come in quicker to purchase fixed assets is an example of "window dressing." c. 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." d. "Window dressing" is any action that does not improve a firm's fundamental long-run position and thus increases its intrinsic value. e. Using some of the firm's cash to reduce long-term debt is an example of "window dressing."

a. 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."

If a bank loan officer were considering a company's loan request, which of the following statements would you consider to be CORRECT? a. Other things held constant, the lower the total debt to total capital ratio, the lower the interest rate the bank would charge. b. The lower the company's inventory turnover ratio, other things held constant, the lower the interest rate the bank would charge the firm. c. The lower the company's TIE ratio, other things held constant, the lower the interest rate the bank would charge. d. Other things held constant, the higher the days sales outstanding ratio, the lower the interest rate the bank would charge. e. Other things held constant, the lower the current ratio, the lower the interest rate the bank would charge the firm.

a. Other things held constant, the lower the total debt to total capital ratio, the lower the interest rate the bank would charge.

Precision Aviation had a profit margin of 8.00%, a total assets turnover of 1.5, and an equity multiplier of 1.8. What was the firm's ROE? a. 23.76% b. 21.60% c. 22.68% d. 16.63% e. 20.95%

b. 21.60%

Jefferson City Computers has developed a forecasting model to estimate its AFN for the upcoming year. All else being equal, which of the following factors is most likely to lead to an increase of the additional funds needed (AFN)? a. The company switches its materials purchases to a supplier that sells on terms of 1/5, net 90, from a supplier whose terms are 3/15, net 35. b. A sharp increase in its forecasted sales. c. A sharp reduction in its forecasted sales. d. The company discovers that it has excess capacity in its fixed assets. e. The company reduces its dividend payout ratio.

b. A sharp increase in its forecasted sales.

Which of the following statements is CORRECT? a. Other things held constant, the more debt a firm uses, the higher its profit margin will be. b. 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. c. Other things held constant, the higher a firm's total debt to total capital ratio, the higher its TIE ratio will be. d. Other things held constant, the more debt a firm uses, the higher its operating margin will be. e. Debt management ratios show the extent to which a firm's managers are attempting to reduce risk through the use of financial leverage. The higher the total debt to total capital ratio, the lower the risk.

b. 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.

Firms U and L each have the same amount of assets, investor-supplied capital, and both have a return on investors' capital (ROIC) of 12%. Firm U is unleveraged, i.e., it is 100% equity financed, while Firm L is financed with 50% debt and 50% equity. Firm L's debt has an after-tax cost of 8%. Both firms have positive net income and a 35% tax rate. Which of the following statements is CORRECT? a. Firm L has a lower ROE than Firm U. b. Firm L has a higher EBIT than Firm U. c. Firm L has the higher times interest earned (TIE) ratio. d. Firm L has a lower ROA than Firm U. e. The two companies have the same times interest earned (TIE) ratio.

d. Firm L has a lower ROA than Firm U.

Which of the following is NOT directly reflected in the cash budget of a firm that is in the zero tax bracket? a. Depreciation. b. Repurchases of common stock. c. Payment for plant construction. d. Payments lags. e. Cumulative cash.

depreciation

Which of the following statements is CORRECT? a. A firm's mission statement defines its lines of business and geographic area of operations. b. Operating plans provide management with detailed implementation guidance, consistent with the corporate strategy, to help meet the corporate objectives. These operating plans can be developed for any time horizon, but many companies use a 5-year horizon. c. The corporate scope is a condensed version of the entire set of strategic plans. d. A firm's corporate purpose states the general philosophy of the business and provides managers with specific operational objectives. e. Once a firm has defined its purpose, scope, and objectives, it must develop a strategy or strategies for achieving its goals. The statement of corporate strategies sets forth detailed plans rather than broad approaches for achieving a firm's goals.

. Operating plans provide management with detailed implementation guidance, consistent with the corporate strategy, to help meet the corporate objectives. These operating plans can be developed for any time horizon, but many companies use a 5-year horizon.

Which of the following statements is CORRECT? a. Forecasted financial statements, as discussed in the text, are used primarily as a part of the managerial compensation program, where management's historical performance is evaluated. b. The first, and perhaps the most critical, step in forecasting financial requirements is to forecast future sales. c. Perhaps the most important step when developing forecasted financial statements is to determine the breakdown of common equity between common stock and retained earnings. d. The AFN equation produces more accurate forecasts than the forecasted financial statement method, especially if fixed assets are lumpy and economies of scale exist. e. The capital intensity ratio gives us an idea of the physical condition of the firm's fixed assets.

. The first, and perhaps the most critical, step in forecasting financial requirements is to forecast future sales.

pontaneously generated funds are generally defined as follows: a. Assets required per dollar of sales. b. A forecasting approach in which the forecasted percentage of sales for each item is held constant. c. Funds that arise out of normal business operations from its suppliers, employees, and the government, and they include spontaneous increases in accounts payable and accruals. d. Funds that a firm must raise externally through borrowing or by selling new common or preferred stock. e. The amount of cash raised in a given year minus the amount of cash needed to finance the additional capital expenditures and working capital needed to support the firm's growth.

Funds that arise out of normal business operations from its suppliers, employees, and the government, and they include spontaneous increases in accounts payable and accruals.

A rapid build-up of inventories normally requires additional financing, unless the increase is matched by an equally large decrease in some other asset. a. True b. False

TRUE

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

TRUE

If a firm's fixed assets turnover ratio is significantly higher than its industry average, this could indicate that it uses its fixed assets very efficiently or is operating at over capacity and should probably add fixed assets. a. True b. False

TRUE

Suppose Firms A and B have the same amount of assets, total assets are equal to total invested capital, pay the same interest rate on their debt, have the same basic earning power (BEP), finance with only debt and common equity, and have the same tax rate. However, Firm A has a higher debt to capital ratio. If BEP is greater than the interest rate on debt, Firm A will have a higher ROE as a result of its higher debt ratio. a. True b. False

TRUE

When we use the AFN equation to forecast the additional funds needed (AFN), we are implicitly assuming that all financial ratios are constant. If financial ratios are not constant, regression techniques can be used to improve the financial forecast. a. True b. False

TRUE

The capital intensity ratio is generally defined as follows: a. The ratio of sales to current assets. b. Sales divided by total assets, i.e., the total assets turnover ratio. c. The percentage of liabilities that increase spontaneously as a percentage of sales. d. The ratio of current assets to sales. e. The amount of assets required per dollar of sales, or A0*/S0.

The amount of assets required per dollar of sales, or A0*/S0.

Which of the following statements is CORRECT? a. Wide variations in capital structures exist both between industries and among individual firms within given industries. These differences are caused by differing business risks and also managerial attitudes. b. Airline companies tend to have very volatile earnings, and as a result they generally have high target debt-to-equity ratios. c. Since most stocks sell at or very close to their book values, book value capital structures are typically adequate for use in estimating firms' weighted average costs of capital. d. Generally, debt ratios do not vary much among different industries, although they do vary among firms within a given industry. e. Electric utilities generally have very high common equity ratios because their revenues are more volatile than those of firms in most other industries.

Wide variations in capital structures exist both between industries and among individual firms within given industries. These differences are caused by differing business risks and also managerial attitudes.

Which of the following statements is CORRECT? a. Suppose all firms follow similar financing policies, face similar risks, have equal access to capital, and operate in competitive product and capital markets. However, firms face different operating conditions because, for example, the grocery store industry is different from the airline industry. Under these conditions, firms with high profit margins will tend to have high asset turnover ratios, and firms with low profit margins will tend to have low turnover ratios. b. 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 B's. c. 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. d. Klein Cosmetics has a profit margin of 5.0%, a total assets turnover ratio of 1.5 times, no debt and therefore an equity multiplier of 1.0, and an ROE of 7.5%. The CFO recommends that the firm borrow funds using long-term debt, use the funds to buy back stock, and raise the equity multiplier to 2.0. The size of the firm (assets) would not change. She thinks that operations would not be affected, but interest on the new debt would lower the profit margin to 4.5%. This would probably not be a good move, as it would decrease the ROE from 7.5% to 6.5%. e. Since the ROA measures the firm's effective utilization of assets without considering how these assets are financed, two firms with the same EBIT must have the same ROA.

c. 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.