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Chapter 03 Test Bank – Static Key
1. Ratios are used to compare different firms in the same industry.
2. Financial ratios are used to weigh and evaluate the operational performance of the firm.
3. Liquidity ratios indicate how fast a firm can generate cash to pay bills.
4. Asset utilization ratios describe how capital is being utilized to buy assets.
5. Profitability ratios allow one to measure the ability of the firm to earn an adequate profit compared to
sales, total assets, and invested capital.
6. Asset utilization ratios measure the net returns on various assets such as return on total assets.
7. A trade creditor is most concerned about a firm’s profitability ratios.
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8. Ratios are only useful for those areas of business that involve investment decisions.
9. Debt utilization ratios are used to evaluate the firm’s debt position with regard to its asset base and
earning power.
10. 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.
11. Satisfactory return on assets may be achieved through high profit margins or rapid turnover of assets,
but not a combination of both.
12. Heavy use of long-term debt can be of benefit to a firm to help expand, although it adds to the firm’s
overall level of risk.
13. Return on equity will be higher than return on assets if there is higher amounts of debt in the capital
structure.
14. Higher debt utilization ratios will always increase a firm’s return on equity given a positive return on
assets.
15. Return on equity will not change if the firm increases its use of debt.
16. The age of the firm’s assets is not necessary for analyzing ratios..
17. Asset utilization ratios relate balance sheet assets to income statement net income.
18. A current ratio of 2 to 1 is always acceptable for a company in any industry.
19. To compute the quick ratio, accounts receivable are not included in current assets.
20. Asset utilization ratios can be used to measure the effectiveness of a firm’s managers.
21. Ratios are not misleading by inflation.
22. Profitability ratios are distorted by inflation because profits are stated in current dollars, while assets
and equity are stated in historical dollars.
23. As long as prices of products continue to rise faster than costs in an inflationary environment, reported
profits will generally continue to rise.
24. Industries with cyclical products such as lumber and copperare more sensitive to inflation-induced
profits because many sales prices and/or expenses are set by the market.
25. Although Apple Computers has a profit margin significantly greater than that of a long-time industry
giant such as IBM, IBM continues to have a higher return on equity than Apple. The primary reason for this
unusual condition is that IBM has a much greater equity than Apple.
26. The stock market tends to move up when inflation goes up.
27. Economists believe that prices of goods may rise before 2020since the prices of most goods fell during
the 2008-2009 recession.
28. Under generally acceptable accounting principles, two companies with identical operating results may
not report identical net incomes.
29. During disinflation, stock prices tend to go up because the investor’s required rate of return goes down.
30. LIFO and FIFO are two ways that companies following the generally accepted accounting principles
value their inventory. One method may be preferred over the other during inflationary time periods, which
results in different profits, even though both methods are legal to use.
31. Analysts agree that extraordinary gains/losses should be excluded from ratio analysis because they are
one-time events, and can distort annual results from normal operations.
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32. LIFO inventory pricing does a better job than FIFO in equating current costs with current revenue.
33. Trend analysis is used to project the future performance of an industry.
34. If two companies have the same return on equity (ROE), they will also have the same return on assets
35. A company can improve its return on equity (ROE) by changing its capital structure.
36. Because ratios are historic, they have minimal value to an investor.
37. Times interest earned is an example of a profitability ratio.
38. Investors are most concerned with the liquidity ratios of a company.
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39. Ratio analysis can be useful for
40. In examining the liquidity ratios, the primary emphasis is the firm’s
41. Which of the following is not an asset utilization ratio?
42. A short-term creditor would be most interested in
43. Which of the following is not considered to be a profitability ratio?
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44. Which two ratios are used in the Du Pont system to create return on assets?
45. The Bubba Corp. had earnings before taxes of $400,000 and sales of $2,000,000. If it is in the 40% tax
bracket, its after-tax profit margin is
46. A firm has a debt-to-equity ratio of 40%, a debt of $250,000, and a net income of $100,000. The return
on equity is
47. A firm has a debt-to-total assets ratio of 60%, $300,000 in debt, and a net income of $50,000. Calculate
return on equity.
48. For a given level of profitability as measured by profit margin, the firm’s return on equity will
49. ABC Co. has an average collection period of 90 days for its accounts receivable. If total credit sales for
the year were $6,000,000, what is the balance in accounts receivable at year-end? Assume a 360-day
calendar year.
50. Asset utilization ratios
51. XYZ’s receivables turnover is 4x. The accounts receivable at year-end are $600,000. The average
collection period is 90 days. What was the sales figure for the year assuming all sales are on credit?
52. If ABC’s sales are $1,000,000, while accounts receivable is $100,000, inventory is $45,000, and fixed
assets are $132,000, what is ABC’s fixed asset turnover?
53. If XYZ’s receivables turnover is 4x, what does that mean?
54. A decreasing average receivables collection period could be associated with
55. If accounts receivable stays the same, and credit sales go up
56. Total asset turnover indicates the firm’s
57. A firm only has current assets and fixed assets. Its current assets are $100,000 and total assets are
$300,000. The firm’s sales are $900,000. The firm’s fixed asset turnover is
58. A quick ratio that is much smaller than the current ratio reflects
59. A firm’s long-term assets = $100,000, total assets = $400,000, inventory = $50,000 and current
liabilities = $200,000. What are the firm’s current ratio and quick ratio?
60. Investors and financial analysts wanting to evaluate the operating efficiency of a firm’s managers would
primarily look at the firm’s
61. An increasing average receivables collection period indicates
62. In addition to comparison with industry ratios, it is also helpful to analyze ratios using
63. If a firm has both a fixed interest expense and fixed lease payments,
64. A firm has operating profit of $210,000 after deducting fixed lease payments of $30,000. The fixed
interest expense is $50,000. What is the firm’s fixed charge coverage ratio?
65. A firm has total assets of $3,000,000 and stockholders equity is $1,000,000. What is the debt–to-total
asset ratio?
66. The higher a firm’s debt utilization ratios, excluding debt–to-total assets, the
67. If fixed lease payments are reduced and everything else remains constant,
68. Industries most sensitive to inflation-induced profits are those with
69. Replacement cost accounting (current cost method) during a period of inflation will usually
70. During inflation, replacement cost accounting will
71. Income can be distorted by factors other than inflation. The most important causes of distortion for
inter-industry comparisons are
72. Disinflation may cause
73. Disinflation, as compared to inflation, would normally be good for investments in
74. A conservative company experiencing rapid price increases for its products would use LIFO to try to:
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75. The _______ method of inventory costing is least likely to lead to inflation-induced profits.
76. Assuming proper accounting disclosure is used, a large extraordinary loss has what effect on the
normal operating profits in the future?
77. Which of the following is a potential problem of utilizing ratio analysis?
78. If government bonds pay 7.0% interest and insured savings accounts pay 5.0% interest, stockholders in
a moderately risky firm would expect return-on-equity values of
79. The most rigorous test of a firm’s ability to pay its short-term obligations is its
80. If the company’s accounts receivable turnover is increasing, the average collection period
81.
Refer to the tables above. Using the Du Pont method, return on assets (investment) for Megaframe
Computer is approximately
82.
Refer to the tables above. Compute Megaframe’s after-tax profit margin.
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83.
Refer to the tables above. The firm’s return on equity is
84.
Refer to the tables above. What is the firm’s average collection period? Assume a 360-day calendar
year
85.