Chapter 3 questions
Which of the following is the correct representation of the cash coverage ratio?
(EBIT + depreciation) / interest expense
What is the formula for computing the internal growth rate (IGR)?
(ROA * b) / (1 - ROA * b)
Which of the following is the correct representation of the total debt ratio?
(total assets - total equity) / total assets
Which of the following items are used to compute the current ratio?
- accounts payable - cash
Based on the DuPont identity, an increase in sales, all else held equal, _____ ROE.
- may increase or decrease - may not change
Which of the following best explains why financial managers use a common-size income statement?
the common-size income statement can show which costs are rising or falling as a percentage of sales
Which of these will decrease a firm's sustainable rate of growth?
an increase in the dividend payout ratio
Long-term solvency ratios are also known as:
financial leverage ratios
Return on assets is a measure of _____.
profitability
The profit margin is equal to net income divided by _____.
sales
Which one of the following best explains why financial managers use a common-size balance sheet?
to track changes in a firm's capital structure
T/F: In a common-size income statement, each item is expressed as a percentage of total sales.
true
T/F: Financial ratios are computed only using balance sheet information.
false
T/F: There is a solid and prescriptive method to select which ratios to use in financial statement analysis.
false
T/F: If there is a conflict between market and accounting data, accounting data should be given precedence
false
If a company has had negative earnings for several periods they might choose to use a _____.
price-sales ratio
The DuPont identity shows that _____ times total asset turnover times equity multiplier equals ROE.
profit margin
Which of the following would help a company take action to improve its ratios?
- comparing to major competitors - comparing to peer companies - comparing to its own historical ratios - comparing to aspirant companies
Based on the sustainable growth rate, which of the following factors affect a firm's ability to sustain growth?
- profit margin - financial policy - dividend policy
Which of the following create problems with financial statement analysis?
- the firm and its competitors operate under different regulatory environments - the firm or its competitors are conglomerates - the firm or its competitors are global companies
Which of the following are true of financial ratios?
- they are used for comparison purposes - they are developed from a firm's financial information
Which of the following are traditional financial ratio categories?
- turnover ratios - profitability ratios - financial leverage ratios
Days' sales in receivables is given by the following ratio:
365 / receivables turnover
Financial statement analysis is primarily "management by _____."
exception
If a company has inventory, the quick ratio will always be _____ the current ratio.
less than
Short-term ratios are also called _____ ratios.
liquidity
The price-earnings (PE) ratio is a _____ ratio.
market value
One of the most important uses of financial statement information within the firm is:
performance evaluation
A common-size balance sheet expresses accounts as a percentage of _____.
total assets
Which of the following affects ROE according to the DuPont identity?
- asset use efficiency - financial leverage - operating efficiency
Given an internal growth rate of 3%, a firm can:
grow by 3% or less without any additional external financing
The information needed to compute the profit margin can be found on the _____.
income statement
An increase in a firm's total asset turnover will _____ the sustainable growth rate.
increase
An increase in the profit margin will _____ a firm's sustainable growth rate.
increase
If sales increase while there is no change in accounts receivable, the receivables turnover ratio will _____.
increase
Inventory turnover is cost of goods sold divided by _____.
inventory
Which of the following is true about the sustainable growth rate?
it is the maximum rate of growth a firm can maintain without increasing its financial leverage
What will happen to the current ration if current assets increase, while everything else remains unchanged?
it will increase
Long-term solvency ratios measure what aspect of the firm's financial position?
its financial leverage
Current assets on the common-size balance sheet over the past three years have increased from 32 to 35% while current liabilities have decreased from 29 to 25%. This indicates that the firm has increased its _____.
liquidity
Short-term solvency ratios are also called _____ ratios.
liquidity
Time-trend analysis is an example of:
management by exception
How is the PE ratio computed?
market price per share / earnings per share
How is the market-to-book ratio measured?
market value per share / book value per share
The retention ratio equals one _____ the dividend payout ratio.
minus
Which of the following is the correct equation for computing return on assets (ROA)?
net income / total assets
Which of the following items is added back to EBIT while calculating the coverage ratio, but not while calculating the times interest earned ratio?
non-cash expenses
Return on equity (ROE) is a measure of _____.
profitability
Which of the following represents the receivables turnover ratio?
sales / accounts receivable
The times interest earned ratio is a measure of long-term _____.
solvency
What does it mean when a company reports ROA of 12%?
the company generates $12 in net income for every $100 invested in assets
T/F: A way to establish a benchmark for ratio analysis is to identify a peer group.
true
T/F: It is important to investigate trends in financial ratios to identify the reason for the trend.
true
T/F: The total debt ratio equals the total assets minus total equity all over total assets.
true
_____ are the prime source of information about a firm's financial health.
Financial statements
The cash coverage ratio adds _____ to operating earnings (EBIT) for a better measure of how much cash is available to meet interest obligations.
depreciation
The _____ payout ratio equals cash dividends divided by net income.
dividend
T/F: Blue Company and Red Company have equal levels of current assets and current liabilities. Blue Company has higher inventory levels than Red Company. Blue Company is more liquid than Red Company.
false
T/F: The dividend payout ratio equals cash dividends divided by sales
false
What is the formula for computing a firm's sustainable growth rate?
(ROE * b) / (1 - ROE * b)
Cal's market has return on equity (ROE) of 15%. What does this mean?
Cal's generated $0.15 in profit for every $1 of book value of equity
The _____ identity can help to explain why two firms with the same return on equity may not be operating in the same way.
DuPont
A problem with the TIE ratio is that it is based on EBIT, which is not a measure of _____ available to pay interest.
cash
A firm with a market-to-book value that is greater than 1 is said to have _____ value for shareholders.
created
What does it mean when a firm has a days' sales in receivables of 45?
the firm collects its credit sales in 45 days on average
The DuPont identity breaks ROE into _____ parts
three
A firm with a profit margin of 10% generates _____ in net income for every dollar in sales.
10 cents
_____ financial statements enable one to compare firms that differ in size.
Standardized
The quick ratio provides a more reliable measure of liquidity than the current ratio especially when the company's inventory takes _____ to sell.
a long time
The current ratio computes the relationship between _____.
current assets and current liabilities
The cash ratio is found by dividing cash by:
current liabilities
Over the past year, the current assets account on the common-size balance sheet of a firm has decreased, while the current liabilities account has increased. The firm has _____ its liquidity over the past year.
decreased