Finance 5320 Homework Ch. 1 - 4

Last year, Jackson Tires reported net sales of $60 million and total operating costs (including depreciation) of $39 million. It had $95 million of investor-supplied capital, with an after-tax cost of 7.5%. If the company's tax rate is 25%, how much value did its management create or lose for Jackson Tire during the year?

-8.625 million EBIT = 60 - 39

Is required by the SEC and includes the audited document that shows the company's financial results for the past year and management's discussion about the future outlook and plans.

-Annual report

Which of the following asset classes is generally considered to be the most liquid?

-Cash

Which source of investor income is susceptible to double taxation?

-Dividends

Ratios that help determine whether a company can access its cash and pay its debts that mature in less than a year are called _____ ratios.

-Liquidity

Which of the following statements is true about market value ratios?

-Low P/E ratios could mean that the company has a great deal of uncertainty in its future earnings

Sheila saves $10,000 and buys a certificate of deposit (CD) that will mature in six months.

-Money Markets

What is the most commonly used base item for a common size income statement?

-Net sales

Purple Consulting has five consultants in the firm. The company's annual revenue is around $500,000. Income is distributed among all consultants, and each is personally liable for claims if the company goes under.

-Partnership

They are established by an employer to facilitate and organize employee retirement funds. They are asset pools that invest in securities that have a potential to give stable returns.

-Pension Funds

U.S. banks raise additional capital by issuing new stocks and bonds to repay the money they received from the government during the 2008 financial crisis.

-Primary Markets

Aggregates all cash inflows, which the company receives from its ongoing activities and investment sources, and all cash outflows.

-Statement of cash flows

Reconciles (1) the amount of retained earnings recorded at the beginning of the reporting period, (2) changes during that period, and (3) the amount of retained earnings at the end of the reporting period.

-Statement of stockholder equity

If the Fed increases the money supply, short-term interest rates tend to decline.

-True

An analyst with a leading investment bank tracks the stock of Mandalays Inc. According to her estimations, the value of Mandalays Inc.'s stock should be $25.00 per share, but Mandalays Inc.'s stock is trading at $18.95 per share on the New York Stock Exchange (NYSE). Considering the analyst's expectations, the stock is currently:

-Undervalued

A stock trading at a price below its intrinsic value is considered to be _______. A stock trading at a price above its intrinsic value is considered to be _______.

-Undervalued -Overvalued

Financial Markets

-Ways of connecting providers of cash today with users of cash by exchanging the cash now for claims on future cash

Net profit margin equation

=net income / sales

Which of the following are money market instruments?

-Certificates of deposit -Treasury Bills

Company A uses long-term debt to finance its assets, and company B uses capital generated from shareholders to finance its assets. Which company would be considered a financially leveraged firm?

-Company A

Influenced by a firm's ability to make interest payments and pay back its debt, if all else is equal, creditors would prefer to give loans to companies with ____ times-interest-earned ratios (TIE).

-High

Several analysts use net cash flow that is calculated by subtracting non cash revenues from the net income and adding back non cash expenses. If a firm has a lot of net cash flow, does that mean the firm's balance sheet cash account must be high?

-No

A company records a decrease in its total raw materials inventory from the previous year.

-Operating activity

_____ ratios help measure a company's ability to generate income and profits based on its invested capital.

-Profitability

Financial analysis

-set of tools for evaluating opportunities to exchange cash now for claims on future cash

And, according to my understanding of the DuPont equation and its calculation of ROE, the three ratios provide insights into the company's ________________ , effectiveness in using the company's assets, and ___________ .

-use of debt versus equity financing -control over its expenses

Basic earning power equation

=EBIT / Total Assets

Expected stock price equation

=Expected EPS x P/E Ratio

EPS Equation

=Net income / Shares outstanding

Actual cash collected equation

=Net sales - Increase in accounts receivable

EBIT Equation

=Net sales - Total operating costs

P/E Ratio equation

=Stock price / EPS

Equity multiplier

=total assets / total common equity

In a state of market equilibrium, the intrinsic value of the stock will be ______ the market price of the stock.

-Equal to

Green Caterpillar's accumulated owed financial obligations decreased from Year 1 to Year 2

-FALSE -Accruals actually increased from $0 in Year 1 to $176 million at the end of year 2.

Decision makers and analysts look deeply into profitability ratios to identify trends in a company's profitability. Profitability ratios give insights into both the survivability of a company and the benefits that shareholders receive. Identify which of the following statements are true about profitability ratios.

-If a company has a net profit margin of 10%, it means that the company earned a net income of $0.10 for each dollar of sales. -If a company's operating margin increases but its profit margin decreases, it could mean that the company paid more in interest or taxes.

Gives information about earnings before interest, taxes, depreciation, and amortization.

-Income statement

How profitable has the firm been?

-Income statement

These financial instruments are investment pools that buy such short-term debt instruments as Treasury bills (T-bills), certificates of deposit (CDs), and commercial paper. They can be easily liquidated.

-Money market mutual funds

They collect a pool of funds from investors for the purpose of diversifying risk, earning interest or dividends, and/or generating profits from the investments' increased value.

-Mutual Funds

Which of the following characteristics would apply to a corporation?

-Owners have limited liability -Chartered by a state and its own entity separate from its owners -easier to transfer ownership in the form of stock -has unlimited life

What financial accounts are affected by the payment of $10,000 of its federal and state taxes payable?

-Taxes payable -Cash

Suppose the stock price of Weghorst Co. falls by 10%. What impact will it have on its market-to-debt ratio if nothing changes in the company's balance sheet?

-The Market debt ratio will increase, reflecting an increase in the financial risk of the company.

What does the value of the firm depend on?

-The ability to generate cash flow that is available to distribute to the company's investors, including creditors and stockholders

Foreign investments fuel growth in a country. However, this investment is based on factors that affect the business environment and increase riskiness, such as macroeconomic policies, political changes, labor issues, tax rates, and regulations.

-True

Steve's grandfather loans him $30,000 to start a small coffee shop in the East Village in Manhattan.

-Direct transfers

Paradigm media is a company run by a group of new media professionals. The owners of the company do not have any personal liability and file taxes based on individual income.

-LLC/LLP

______ ratios examine the market value of a company's share price, its profits and cash dividends, and the book value of the firm's assets and relate them to other data items to determine how the firm is perceived in the stock market.

-Market - value or market - based

Which performance measure evaluates to what extent managers perform their primary task—that is, to create shareholder wealth?

-Market Value Added

If I remember correctly, the DuPont equation breaks down our ROE into three component ratios: the_______ , the total asset turnover ratio, and the________ .

-Net profit margin -Equity multiplier

Net cash flow equation

= net income - non cash revenues + non cash charges

Market value of equity equation

= stock price x shares outstanding

Retained Earnings Equation

= total common equity - common stock

Market debt ratio equation

= total debt / (total debt + market value of equity)

TIE ratio equation

=EBIT / Interest charges

Operating margin equation

=EBIT / Sales

Cash & Equivalents equation

=Total current assets - account receivable - inventories

BVPS equation

=common equity / shares outstanding

Inventories equation

=current assets - (cash + accounts receivables)

Current ratio equation

=current assets / current liabilities

Expected EPS Equation

=expected net income / outstanding shares next year

M/B ratio equation

=market price per share / BVPS

Dividends paid equation

=net income - (ending retained earnings - beginning retained earnings)

Return on common equity equation

=net income / common equity

Profit margin equation

=net income / sales

Return on total assets

=net income / total assets

Shareholder's equity equation

=paid in capital + reatined earnings

ROE equation

=profit margin x total asset turnover x equity multiplier

Total asset turnover equation

=sales / total assets

Net plant & Equipment (NET FIXED ASSETS) equation

=total assets - total current assets

Shareholders equity equation

=total assets - total liabilities

Debt to equity ratio equation

=total debt / total equity

One way to interpret the change in Green Caterpillar's accounts receivable balance from Year 1 to Year 2 is that more customers purchased new items on credit rather than paying off existing credit accounts.

-Correct -The $253 million increase in accounts receivable means either that Year 1's existing credit customers are not paying off their owed balances and new or existing customers are making additional purchases on credit, or that Year 1's credit customers have repaid their owed balances and Year 2 credit sales have exceeded Year 1's credit sales.

Ratios that help assess a company's ability to service the interest and repayment obligations on its long-term debt and the degree to which it uses borrowed versus invested financial capital are called _________ ratios.

-Debt of financial leverage management

Based on your understanding of the different items reported on the balance sheet and the information they provide, if everything else remains the same, then the cash and equivalents item on the current balance sheet is likely to ________ if the firm increases the dividends paid on its common stock.

-Decrease

Which of the following statements represent a weakness or limitation of ratio analysis?

-Different firms may use different accounting practices -A firm may operate in multiple industries

A small startup firm has each of the partners contribute $50,000 in capital to help the company make payroll for the next three months.

-Direct Transfers

Which of the following best describes shareholders' equity?

-Equity is the difference between the company's assets and liabilities

When the economy is weakening, the Fed is likely to decrease short-term interest rates.

-False

When the economy is weakening, the Fed is likely to increase short-term interest rates.Foreign investments fuel growth in a country. However, this investment is based on factors that affect the business environment and increase riskiness, such as macroeconomic policies, political changes, labor issues, tax rates, and regulations.When the economy is weakening, the Fed is likely to decrease short-term interest rates.

-False

Helen buys 1,000 shares of Microsoft stock through her online brokerage account.

-Financial Asset Markets

The intrinsic value of a company's stock, also known as its ________ refers to the stock's true value based on expected future cash flows and the risks involved. The value perceived by stock market investors determines the market price of a stock.

-Fundamental Value

A company agrees to buy copper from a seller in Chile at a certain price at the beginning of next year. Both companies sign a contract that locks in a future price at which the trade will take place.

-Futures Markets

_______ is the process in which derivatives are used to reduce risk exposure. In contrast, market participants engage in _______ in order to generate higher returns, while also increasing their exposure to risks.

-Hedging -Speculation

If the stock price of Krit Corp. Increases in the next two years, Wilson's wealth in Krit Corp. Will

-Increase -The primary objective of company management is to maximize shareholder wealth, which implies that managers should make decisions that maximize the long-run value of the company's stock.

Elliot invests $25,000 by purchasing 1,000 shares of an emerging markets mutual fund. This mutual fund invests in companies in Brazil, India, and China. He bought the mutual fund from the mutual fund company.

-Indirect transfers through financial intermediaries

Israel launched a 10-year global bond issue of $1.5 billion in early 2009. Leading investment banks like Citigroup, Deutsche Bank, and Goldman Sachs managed the deal. (Source: Reuters.com, Mar. 18, 2009.)

-Indirect transfers through investment banks

Which of the following is true about the leveraging effect?

-Interest on debt is a tax deductible expense, which means that it can reduce a firm's taxable income & tax obligation

What financial accounts are affected by the sell of $165,000 of merchandise on Credit?

-Inventory -Cash -Sales

A pharmaceutical company buys marketing rights to sell a drug exclusively in East Asian markets.

-Investing activity

EVA calculates the value added to a firm in a given year. Does that mean that a firm's MVA is the sum of all the EVAs generated by the firm during its life? (Note: Stern Stewart copyrighted the terms MVA and EVA. Other firms use different terms for these concepts, but MVA and EVA are most commonly used in practice.)

-No

Fitzi Chemical Co. earns revenue from its cash receipts from royalties.

-Operating activity

Analysts and theorists have debated over the different factors that caused the subprime mortgage meltdown. According to your understanding of the crisis, which of the following factors led to the financial crisis? Check all that apply.

-Regulations were relaxed, leading to non qualifying mortgages getting approved for loans -Mortgage brokers did not verify borrowers carefully

A friend comes to you and asks you to invest in his business instead of investing in Treasury bonds. You think he has a good business model, so you tell him you are willing to invest as long as the expected return on the investment is at least four times the return you would have received on the Treasury bonds. Determine which of these fundamental factors is affecting the cost of money in the scenario described:

-Risk

Roberto recently started a new business with money that he collected from his friends and family. All other factors being equal, which of the following financing options has a higher cost for someone who needs capital to start a business?

-Roberto's aunt invested $100,000 in the business as an investment for retirement, and she expects to receive regular equal payments of $5,500 every year for the next nine years.

A DuPont analysis is conducted using the DuPont equation, which helps to identify and analyze three important factors that drive a company's ROE. According to the equation, which of the following factors directly affect a company's ROE? Check all that apply.

-Sales/Total assets -Net income/Sales

The owners of the corporation are the ______. The primary objective of the corporate management team is to _____ the shareholders' wealth by ______ the _______ over the long run.

-Shareholders of the company -Maximize _Maximizing -Fundamental price of the company's common stock

Issued by nonfederal government entities, these financial instruments are debt securities that fund their capital expenditures. They are exempt from most taxes imposed in the area where the securities are issued.

-State and Local Government bonds

On December 31 of Year 2, Green Caterpillar Garden Supplies Inc. had $3,459 million of actual money that it could have spent immediately.

-TRUE -The funds recorded in green caterpillar's cash and equivalents account represents funds that are either cash or can be converted into cash almost immediately

Which of the following statements best describes free cash flow?

-The cash flow available for distribution to all investors after the company has made all investments in fixed assets and working capital necessary to sustain a firm's ongoing operations

When determining the value of a firm, which of the following statements is true?

-The timing of cash flows can generate is very important in determining the value of a firm. All else being equal, cash received sooner is better.

Is it possible for a company to exhibit a negative EPS and thus a negative P/E ratio?

-Yes

A _______ is a financial instrument whose value is derived from some other asset, called the underlying asset. Derivatives include options, futures, and forward contracts. These can be combined with each other or traditional securities such as stocks, bonds, and loans, to create hybrid instruments.

-derivative

A financial instrument whose value is derived from the value of an underlying asset is called a

-derivative

The Yum chain of restaurants conducts an initial public offering to raise funds for expansion.

-financing activity

Debt ratio equation

= total debt / total assets =total debt / total debt & equity

Quick ratio equation

=(current assets - inventories)/ current liabilities

Inventory turnover ratio equation

=COGS / Inventories

The EVA metric effectively measures the amount of shareholder wealth that the firm's management has _____ the firm's value during a time period. If EVA is _____ then management has increased value.

-Added to -Positive

If a taxpayer is liable to pay $8,950 under AMT law but $7,500 according to the regular tax system, the taxpayer will need to pay taxes according to the

-Alternative minimum tax (AMT ) system

You bought 1,000 shares of Tund Corp. stock for $90.03 per share and sold it for $60.59 per share within the same year. How will your gain or loss be treated when you file your taxes?

-As a capital loss deducted from current taxable income

These ratios, which help determine how efficiently a firm is using its assets to generate sales are called ________ ratios.

-Asset management or activity

Provides a quantitative summary of a company's assets, liabilities, and net worth at a specific point in time.

-Balance Sheet

FCF Equation

FCF = Sales Revenues - Operating Costs - Operating Taxes

he filing document, which includes a set of rules created by the founders of the corporation such as: (1) directors' election process, (2) terms of the directorial position, (3) whether the existing stockholders will have the first right to buy new shares the firm issues, and (4) procedures to amend the bylaws, and so on, is called the corporate

-Bylaws

Issued by money-centered financial firms, these short- or medium-term insured debt instruments pay higher interest than a regular savings account. They are low-risk instruments and have low returns.

-Certificates of deposit

They accept deposits from savers and make loans to people who need it. They provide various services, such as checking accounts and money market transactions, to facilitate capital exchange between savers and people who need it.

-Commercial Banks

______ involves creating a ratio using a common item as the denominator for all items in the balance sheet. It also involves creating an income statement to analyze a company's performance over time and compare its performance with the industry average.

-Common size analysis

Issued by corporations, these financial instruments fund their long-term financing requirements.

-Corporate bonds

Caesar, the CEO of a beverage company, is required to certify the accuracy of information provided in the company's quarterly reports.

-Corporation

Total current assets equation

= Accounts payable + accruals + notes payable

Suppose a firm in the 40% federal-plus-state tax bracket needs to pay $1 in dividends to its shareholders. What is the pretax income it should have to pay this dividend?

- 1.67% -$1/(1-40%) = 1.67

Free cash flow can be used for various reasons, including distributing it to stockholders and debt holders. Which of the following is not a use of free cash flow?

- Acquiring operating assets

How much of the firm's earnings are left as balance after the pays out dividends to its shareholder?

- Statement of stockholders equity

Suppose you're an investor. You put $1,000,000 in the Indian equity market by buying shares in the Indian market, and your investment value is converted into Indian rupees to buy those shares. The exchange rate at the time of your investment is Rs. 45 per U.S. dollar. You are aware of the risks involved at the time of investment. Keeping other factors constant, which of the following statements describes the risk involved with investing in the international market?

- The value of your investment will decrease if stock values fall in the local market

Diusitech Inc. recently raised capital through an initial public offering (IPO). Its stock can now be purchased on the NYSE. This company is referred to as:

- a publicly owned corporation

NOW Inc. released its annual results and financial statements. Grace is reading the summary in the business pages of today's paper. In its annual report this year, NOW Inc. reported a net income of $116 million. Last year, the company reported a retained earnings balance of $595 million, whereas this year it increased to $700 million. How much was paid out in dividends this year?

-11 million =116 - ($700 - $ 595)

Suppose you want to invest $10,000. You have two options: (1) Invest in California municipal bonds with an expected rate of return of 13.00%, or (2) invest in J and K Corp.'s bonds with an expected rate of return of 24.05%. Assume that your decision is based on a tax perspective. If everything else is the same for both bonds, at what tax rate would you be indifferent between these two bonds?

-45.95% =24.05% x (1-T) = 13.00 (1-T) = 13.00% / 24.50% T = 1 - (13%/24.05%) =49.95%

Globo-Chem Co. reported net sales of $600 million last year and generated a net income of $132 million. Last year's accounts receivable increased by $17 million. What is the maximum amount of cash that Globo-Chem Co. received from sales last year?

-583 million =600-17

Walker Telecommunications has a quick ratio of 2.00x, $35,550 in cash, $19,750 in accounts receivable, some inventory, total current assets of $79,000, and total current liabilities of $27,650. The company reported annual cost of goods sold of $200,000 in the most recent annual report. Over the past year, how often did Walker Telecommunications sell and replace its inventory?

-8.44

Which of the following components would be best for you to include in your financial statement analysis?

-A comparison of the firm's performance with other firm's in the same industry based on their financial ratios

Weghorst Co. has a debt-to-equity ratio of 2.40, compared to the industry average of 1.92. Its competitor Bellywood Co., however, has a debt-to-equity ratio of 3.60. Based on what debt-to-equity ratios imply, which of the following statements is true?

-Bellywood Co. has greater financial risk as compared to Weghorst Co. and to the average financial risk in the industry

Krit Corp. is a U.S. manufacturing company based in the Midwest. As an investor, Wilson bought 175 shares of stock in Krit Corp. The stock price of Krit Corp. is currently trading at $30.00 per share. Wilson's total wealth in Krit Corp. is:

Wilson's wealth = number of shares x market price per share =175 x $30.00 = 5,520.00