BUS 320 Chapter 3

debt utilization ratios

A group of ratios that indicates to what extent debt is being used and the prudence with which it is being managed. Calculations include debt to total assets, times interest earned, and fixed charge coverage.

Du Pont System of ratio analysis

A method of study that breaks down return on assets between the profit margin and asset turnover and compels the analyst to look into the sources of profitability.

inventory profits

A result of an inflationary economy in which old stocks of goods are sold at large profits.

LIFO

A system of writing off inventory into cost of goods sold in which the items purchased last are written off first. Referred to as last-in, first-out inventory method.

FIFO

A system that converts inventory into cost of goods sold by writing off the items purchased earliest sooner.

trend analysis

Analysis of performance over a number of years that is made to ascertain significant patterns.

replacement costs

Costs incurred if the present asset base were repurchased at current prices.

times interest earned

Indicates the strength of the firm regarding its coverage of interest payments.

Fixed Charge Coverage

Measures the firm's ability to meet all fixed obligations.

asset utilization ratios

Ratios that measure the speed at which the firm is turning over its assets.

inflation

a phantom source of profit that can mislead even the most alert analysts

A current ratio of 2 to 1 is always acceptable for a company in any industry.

false

The stock market tends to move up when inflation goes up.

false

Times interest earned is an example of a profitability ratio.

false

liquidity ratios

ratios that measure the firm's ability to pay off short-term obligations as they come due

Profitability Ratios

ratios that measure the rate of return a firm is earning on various measures of investment

A company can improve its return on equity (ROE) by changing its capital structure.

true

Asset utilization ratios can be used to measure the effectiveness of a firm's managers.

true

During disinflation, stock prices tend to go up because the investor's required rate of return goes down.

true

Liquidity ratios indicate how fast a firm can generate cash to pay bills.

true

Profitability ratios are distorted by inflation because profits are stated in current dollars, while assets and equity are stated in historical dollars.

true

Return on equity will be higher than return on assets if there is higher amounts of debt in the capital structure.

true

The DuPont system of analysis emphasizes that profit generated by assets can be derived by a combination of profit levels and how fast an asset can turnover.

true