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Chapter 03 - Financial Analysis
1. Ratios are used to compare different firms in the same industry.
Chapter 03 - Financial Analysis
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 return on
sales, total assets, and invested capital.
6. Asset utilization ratios measure the returns on various assets such as return on total assets.
Chapter 03 - Financial Analysis
7. A banker or trade creditor is most concerned about a firm's profitability ratios.
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 various combinations of profit margins and asset turnover.
11. Satisfactory return on assets may be achieved through high profit margins or rapid
turnover of assets, but not a combination of both.
Chapter 03 - Financial Analysis
12. Heavy use of long-term debt can be of benefit to a firm.
13. Return on equity will be higher than return on assets if there is 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.
Chapter 03 - Financial Analysis
16. In analyzing ratios, the age of the firm's assets need not be considered.
17. Asset utilization ratios relate balance sheet assets to income statement sales.
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. The current ratio is a more severe test of a firm's liquidity than the quick ratio.
Chapter 03 - Financial Analysis
21. Asset utilization ratios can be used to measure the effectiveness of a firm's managers.
22. Fiercely competitive industries such as the computer industry have had lower profit
margins and return on equity in recent years even though they are under extreme pressure to
maintain high profitability.
23. Ratios are not distorted by inflation.
24. Profitability ratios are distorted by inflation because profits are stated in current dollars
and assets and equity are stated in historical dollars.
25. FIFO will cause inflated profits during deflation.
Chapter 03 - Financial Analysis
26. As long as prices continue to rise faster than costs in an inflationary environment, reported
profits will generally continue to rise.
27. Industries most sensitive to inflation-induced profits are those with cyclical products such
as lumber, copper, etc.
28. The stock market tends to move up when inflation goes up.
29. Under generally acceptable accounting principles, two companies with identical operating
results may not report identical net incomes.
Chapter 03 - Financial Analysis
30. During disinflation, stock prices tend to go up because the investor's required rate of
return goes down.
31. LIFO inventory valuation is responsible for much of the inventory profits caused by
inflation.
32. Analysts agree that extraordinary gains/losses should be excluded from ratio analysis
because they are one time events, and do not measure annual operating performance.
33. LIFO inventory pricing does a better job than FIFO in equating current costs with current
revenue.
Chapter 03 - Financial Analysis
34. Intangible assets are becoming an important part of the assets in a company's financial
statements because accountants are recognizing the growing impact of brand names.
35. Absolute values taken from financial statements are more useful than relative values.
36. Trend analysis is used to project the future performance of an industry.
38. A company can improve their ROE by changing their capital structure.
Chapter 03 - Financial Analysis
39. Because ratios are historic, they have minimal value to an investor.
40. Times interest earned is an example of a profitability ratio.
41. Investors are most concerned with the liquidity ratios of a company.
42. Ratio analysis can be useful for
Chapter 03 - Financial Analysis
43. In examining the liquidity ratios, the primary emphasis is the firm's
44. Which of the following is not an asset utilization ratio?
45. A short-term creditor would be most interested in
Chapter 03 - Financial Analysis
46. Which of the following is not considered to be a profitability ratio?
47. Which two ratios are used in the DuPont system to create return on assets?
48. 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:
Chapter 03 - Financial Analysis
49. A firm has a debt to equity ratio of 40%, debt of $250,000, and net income of $100,000.
The return on equity is
Chapter 03 - Financial Analysis
3-14
50. A firm has a debt to asset ratio of 60%, $300,000 in debt, and net income of $50,000.
Calculate return on equity.
51. F
Chapter 03 - Financial Analysis
or a given level of profitability as measured by profit margin, the firm's return on equity will
52. ABC Co. has an average collection period of 90 days. Total credit sales for the year were
$6,000,000. What is the balance in accounts receivable at year-end?
53. Asset utilization ratios
Chapter 03 - Financial Analysis
54. 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?
55. A decreasing average collection period could be associated with (select the one best
answer)
Chapter 03 - Financial Analysis
56. If accounts receivable stays the same, and credit sales go up
57. Total asset turnover indicates the firm's
58. A firm has current assets of $100,000 and total assets of $300,000. The firm's sales are
$900,000. The firm's fixed asset turnover is
Chapter 03 - Financial Analysis
59. A quick ratio that is much smaller than the current ratio reflects
60. A firm's long term assets = $100,000, total assets = $400,000, inventory = $50,000 and
current liabilities = $200,000.
Chapter 03 - Financial Analysis
61. Investors and financial analysts wanting to evaluate the operating efficiency of a firm's
managers would probably look primarily at the firm's
62. An increasing average collection period indicates
63. In addition to comparison with industry ratios, it is also helpful to analyze ratios using
Chapter 03 - Financial Analysis
64. If a firm has both interest expense and lease payments,
65. A firm has operating profit of $210,000 after deducting lease payments of $30,000.
Interest expense is $50,000. What is the firm's fixed charge coverage?
