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1. Vertical analysis of financial statements is accomplished by preparing common-size
statements.
2. In determining whether a company's financial condition is improving or deteriorating over
time, horizontal analysis of financial statement data would be more useful than vertical analysis.
3. A common-size financial statement is a vertical analysis in which each financial
statement account is expressed as a percentage.
4. The acid-test ratio is usually greater than the current ratio.
5. Liquidity refers to how quickly an asset can be converted into cash.
6. If the acid-test ratio is less than one, then paying off some current liabilities with cash will
increase the acid-test (quick) ratio.
7. A company could improve its acid-test ratio by selling some equipment it no longer needs
for cash.
8. Acquiring land by taking out a long-term mortgage will not affect the current ratio.
9. Purchasing marketable securities with cash will have no effect on a company's acid-test
ratio.
10. As the accounts receivable turnover ratio decreases, the average collection period
increases.
11. If a company's operating cycle is much longer than its average payment period for
suppliers, it creates the need to borrow money to fund its inventories and accounts receivable.
12. All other things the same, purchasing inventory would decrease the inventory turnover
ratio.
13. Buying inventory in large lots to take advantage of quantity discounts can be responsible
for a high inventory turnover ratio.
14. All other things the same, when a company increases its inventories in anticipation of later
higher sales, the accounts receivable turnover ratio for the current period increases.
15. All other things the same, purchasing merchandise inventory would have no effect on the
accounts receivable turnover ratio at a retailer.
16. All other things the same, when a customer purchases an item for cash, the accounts
receivable turnover ratio increases.
17. As the inventory turnover increases, the average sales period decreases.
18. To increase total asset turnover, management must either increase sales or reduce total
stockholders' equity.
19. The formula for the average sale period is: Average sale period = Accounts receivable
turnover ÷ Inventory turnover.
20. The formula for total asset turnover is: Total asset turnover = Total assets ÷ Total
stockholders' equity.
21. A company whose inventory turnover ratio is much slower than the average for its industry
may have too much inventory or the wrong sorts of inventory.
22. All other things the same, those who hold the company's debt (i.e., its creditors) would like
a low debt-to-equity ratio to provide a buffer of protection.
23. All other things the same, if long-term debt is exchanged for short-term debt, the debt-to-
equity ratio will be unchanged.
24. The times interest earned ratio is based on net income because that is the amount of
earnings that is available for making interest payments. Interest expense is deducted before
taxes are determined; creditors have first claim on the earnings before taxes are paid.
25. Issuing common stock will decrease a company's financial leverage.
26. The formula for the times interest earned ratio is: Times interest earned = Earnings before
interest expense and income taxes ÷ Interest expense.
27. If a company's return on assets is substantially lower than its cost of borrowing, then the
common stockholders would normally want the company to have a relatively high debt/equity
ratio.
28. The formula for the return on equity is: Return on equity = Net income ÷ Average total
stockholders' equity.
29. When computing the return on equity, retained earnings should be excluded from the
average total stockholders' equity.
30. When computing the return on total assets, the interest expense is added back to net
income to show what earnings would have been if the company had no debt.
31. When a company sells used equipment for a loss, the net profit margin percentage is
unaffected.
32. All other things the same, if a company uses long-term debt to purchase land to develop in
the future, the company's return on total assets will decrease.
33. If a retailer sells a product whose contribution margin equals the gross margin percentage,
the gross margin percentage will be unaffected by the transaction.
34. The gross margin percentage is computed by dividing the gross margin by net income
before interest and taxes.
35. The formula for the net profit margin percentage is: Net profit margin percentage = Net
income ÷ Sales.
36. When fixed costs are included in the cost of goods sold, the gross margin percentage
should increase and decrease with sales volume.
37. The gross margin percentage is computed by dividing sales by the gross margin.
38. A high price-earnings ratio means that investors are willing to pay a premium for the
company's stock.
39. An increase in the number of shares of common stock outstanding will increase a
company's price-earnings ratio if the market price per share remains unchanged.
40. The dividend payout ratio is equal to the dividend per share divided by the earnings per
share.
41. All other things the same, if the company purchases equipment on credit, this transaction
would have no impact on the company's book value per share.
42. Purchasing inventory on credit increases the book value per share of a retailer.
43. The price-earnings ratio is determined by dividing market price per share of stock by the
earnings per share.
44. Earnings per share is computed by multiplying net income by the average number of
common shares outstanding.
45. Selling used equipment at book value for cash will:
13-17
46. If current assets exceed current liabilities, prepaying an expense on the last day of the
year will:
47. Zack Company has a current ratio of 2.5. What will be the effect of a purchase of
inventory with cash on the acid-test ratio and on working capital?
Acid-Test Ratio Working Capital
A) decrease decrease
B) decrease no effect
C) no effect decrease
D) no effect no effect
48. Norton Inc. could improve its current ratio of 2 by:
49. The ratio of total cash, marketable securities, accounts receivable, and short-term notes
to current liabilities is:
50. A company's current ratio is greater than 1. Purchasing raw materials on credit would:
51. Sand Company has an acid-test ratio of 0.8. Which of the following actions would improve
the acid-test ratio?
52. A company's current ratio and an acid-test ratio are both greater than 1. Payment of an
account payable would:
53. Turner Co. presently has a current ratio of 0.8. The company has been informed by its
bank that it must improve its current ratio to qualify for a line of credit. Which of the following
actions would improve the current ratio?
