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Ch 03 Analysis of Financial Statements
30. Heaton Corp. sells on terms that allow customers 45 days to pay for merchandise. Its sales last year were $425,000,
and its year-end receivables were $60,000. If its DSO is less than the 45-day credit period, then customers are paying on
time. Otherwise, they are paying late. By how much are customers paying early or late? Base your answer on this
equation: DSO − Credit period = days early or late, and use a 365-day year when calculating the DSO. A positive answer
indicates late payments, while a negative answer indicates early payments.
a.
6.20
b.
6.53
c.
6.86
d.
7.20
e.
7.56
Ch 03 Analysis of Financial Statements
31. Harper Corp.'s sales last year were $395,000, and its year-end receivables were $42,500. Harper sells on terms that
call for customers to pay 30 days after the purchase, but many delay payment beyond Day 30. On average, how many
days late do customers pay? Base your answer on this equation: DSO − Allowed credit period = Average days late, and
use a 365-day year when calculating the DSO.
a.
7.95
b.
8.37
c.
8.81
d.
9.27
e.
9.74
32. Bonner Corp.'s sales last year were $415,000, and its year-end total assets were $355,000. The average firm in the
industry has a total assets turnover ratio (TATO) of 2.4. Bonner's new CFO believes the firm has excess assets that can be
sold so as to bring the TATO down to the industry average without affecting sales. By how much must the assets be
reduced to bring the TATO to the industry average, holding sales constant?
a.
$164,330
b.
$172,979
Ch 03 Analysis of Financial Statements
c.
$182,083
d.
$191,188
e.
$200,747
33. Muscarella Inc. has the following balance sheet and income statement data:
Cash
$ 14,000
Accounts payable
$ 42,000
Receivables
70,000
Other current liabilities
28,000
Inventories
210,000
Total CL
$ 70,000
Total CA
$294,000
Long-term debt
70,000
Net fixed assets
126,000
Common equity
280,000
Total assets
$420,000
Total liab. and equity
$420,000
Sales
$280,000
Net income
$ 21,000
The new CFO thinks that inventories are excessive and could be lowered sufficiently to cause the current ratio to equal the
industry average, 2.70, without affecting either sales or net income. Assuming that inventories are sold off and not
replaced to get the current ratio to the target level, and that the funds generated are used to buy back common stock at
book value, by how much would the ROE change?
a.
4.28%
b.
4.50%
c.
4.73%
Ch 03 Analysis of Financial Statements
d.
4.96%
e.
5.21%
Pettijohn Inc.
The balance sheet and income statement shown below are for Pettijohn Inc. Note that the firm has no amortization
Ch 03 Analysis of Financial Statements
charges, it does not lease any assets, none of its debt must be retired during the next 5 years, and the notes payable will be
rolled over.
Balance Sheet (Millions of $)
Assets
2016
Cash and securities
$ 1,554.0
Accounts receivable
9,660.0
Inventories
13,440.0
Total current assets
$24,654.0
Net plant and equipment
17,346.0
Total assets
$42,000.0
Liabilities and Equity
Accounts payable
$ 7,980.0
Notes payable
5,880.0
Accruals
4,620.0
Total current liabilities
$18,480.0
Long-term bonds
10,920.0
Total debt
$29,400.0
Common stock
3,360.0
Retained earnings
9,240.0
Total common equity
$12,600.0
Total liabilities and equity
$42,000.0
Income Statement (Millions of $)
2016
Net sales
$58,800.0
Operating costs except depr'n
$54,978.0
Depreciation
$ 1,029.0
Earnings bef int and taxes (EBIT)
$ 2,793.0
Less interest
1,050.0
Earnings before taxes (EBT)
$ 1,743.0
Taxes
$ 610.1
Net income
$ 1,133.0
Other data:
Shares outstanding (millions)
175.00
Common dividends
$ 509.83
Int rate on notes payable & L-T bonds
6.25%
Federal plus state income tax rate
35%
Year-end stock price
$77.69
34. Refer to the data for Pettijohn Inc. What is the firm's days sales outstanding? Assume a 360-day year for this
calculation.
a.
48.17
b.
50.71
c.
53.38
d.
56.19
e.
59.14
Ch 03 Analysis of Financial Statements
35. Refer to the data for Pettijohn Inc. What is the firm's total assets turnover?
a.
0.90
b.
1.12
c.
1.40
d.
1.68
e.
2.02
Ch 03 Analysis of Financial Statements
36. Refer to the data for Pettijohn Inc. What is the firm's inventory turnover ratio?
a.
4.17
b.
4.38
c.
4.59
d.
5.82
e.
5.07
37. Debt management ratios show the extent to which a firm's managers are attempting to magnify returns on owners'
capital through the use of financial leverage.
a.
True
b.
False
Ch 03 Analysis of Financial Statements
38. The times-interest-earned ratio is one, but not the only, indication of a firm's ability to meet its long-term and short-
term debt obligations.
a.
True
b.
False
39. Suppose a firm wants to maintain a specific TIE ratio. It knows the amount of its debt, the interest rate on that debt,
the applicable tax rate, and its operating costs. With this information, the firm can calculate the amount of sales required
to achieve its target TIE ratio.
a.
True
b.
False
Ch 03 Analysis of Financial Statements
40. If a bank loan officer were considering a company's request for a loan, which of the following statements would you
consider to be CORRECT?
a.
Other things held constant, the lower the current ratio, the lower the interest rate the bank would charge the
firm.
b.
The lower the company's EBITDA coverage ratio, other things held constant, the lower the interest rate the
bank would charge the firm.
c.
Other things held constant, the higher the debt ratio, the lower the interest rate the bank would charge the firm.
d.
Other things held constant, the lower the debt ratio, the lower the interest rate the bank would charge the firm.
e.
The lower the company's TIE ratio, other things held constant, the lower the interest rate the bank would
charge the firm.
Ch 03 Analysis of Financial Statements
41. Which of the following statements is CORRECT?
a.
If two firms differ only in their use of debt⎯i.e., they have identical assets, sales, operating costs, and tax
rates⎯but one firm has a higher debt ratio, the firm that uses more debt will have a higher profit margin on
sales.
b.
If one firm has a higher debt ratio than another, we can be certain that the firm with the higher debt ratio will
have the lower TIE ratio, as that ratio depends entirely on the amount of debt a firm uses.
c.
A firm's use of debt will have no effect on its profit margin on sales.
d.
If two firms differ only in their use of debt⎯i.e., they have identical assets, sales, operating costs, interest rates
on their debt, and tax rates⎯but one firm has a higher debt ratio, the firm that uses more debt will have a lower
profit margin on sales.
e.
The debt ratio as it is generally calculated makes an adjustment for the use of assets leased under operating
leases, so the debt ratios of firms that lease different percentages of their assets are still comparable.
42. Hutchinson Corporation has zero debt⎯it is financed only with common equity. Its total assets are $410,000. The new
CFO wants to employ enough debt to bring the debt/assets ratio to 40%, using the proceeds from the borrowing to buy
back common stock at its book value. How much must the firm borrow to achieve the target debt ratio?
Ch 03 Analysis of Financial Statements
a.
$155,800
b.
$164,000
c.
$172,200
d.
$180,810
e.
$189,851
43. Orono Corp.'s sales last year were $435,000, its operating costs were $362,500, and its interest charges were $12,500.
What was the firm's times interest earned (TIE) ratio?
a.
4.72
b.
4.97
c.
5.23
d.
5.51
e.
5.80
Ch 03 Analysis of Financial Statements
44. Bostian, Inc. has total assets of $625,000. Its total debt outstanding is $185,000. The Board of Directors has directed
the CFO to move towards a debt-to-assets ratio of 55%. How much debt must the company add or subtract to achieve the
target debt ratio?
a.
$158,750
b.
$166,688
c.
$175,022
d.
$183,773
e.
$192,962
Ch 03 Analysis of Financial Statements
45. A new firm is developing its business plan. It will require $565,000 of assets, and it projects $452,800 of sales and
$354,300 of operating costs for the first year. Management is quite sure of these numbers because of contracts with its
customers and suppliers. It can borrow at a rate of 7.5%, but the bank requires it to have a TIE of at least 4.0, and if the
TIE falls below this level the bank will call in the loan and the firm will go bankrupt. What is the maximum debt-to-assets
ratio the firm can use? (Hint: Find the maximum dollars of interest, then the debt that produces that interest, and then the
related debt ratio.)
a.
47.33%
b.
49.82%
c.
52.45%
d.
55.21%
e.
58.11%
Ch 03 Analysis of Financial Statements
46. Ziebart Corp.'s EBITDA last year was $390,000 ( = EBIT + depreciation + amortization), its interest charges were
$9,500, it had to repay $26,000 of long-term debt, and it had to make a payment of $17,400 under a long-term lease. The
firm had no amortization charges. What was the EBITDA coverage ratio?
a.
7.32
b.
7.70
c.
8.09
d.
8.49
e.
8.92
Pettijohn Inc.
The balance sheet and income statement shown below are for Pettijohn Inc. Note that the firm has no amortization
charges, it does not lease any assets, none of its debt must be retired during the next 5 years, and the notes payable will be
rolled over.
Balance Sheet (Millions of $)
Assets
2016
Cash and securities
$ 1,554.0
Accounts receivable
9,660.0
Inventories
13,440.0
Ch 03 Analysis of Financial Statements
Total current assets
$24,654.0
Net plant and equipment
17,346.0
Total assets
$42,000.0
Liabilities and Equity
Accounts payable
$ 7,980.0
Notes payable
5,880.0
Accruals
4,620.0
Total current liabilities
$18,480.0
Long-term bonds
10,920.0
Total debt
$29,400.0
Common stock
3,360.0
Retained earnings
9,240.0
Total common equity
$12,600.0
Total liabilities and equity
$42,000.0
Income Statement (Millions of $)
2016
Net sales
$58,800.0
Operating costs except depr'n
$54,978.0
Depreciation
$ 1,029.0
Earnings bef int and taxes (EBIT)
$ 2,793.0
Less interest
1,050.0
Earnings before taxes (EBT)
$ 1,743.0
Taxes
$ 610.1
Net income
$ 1,133.0
Other data:
Shares outstanding (millions)
175.00
Common dividends
$ 509.83
Int rate on notes payable & L-T bonds
6.25%
Federal plus state income tax rate
35%
Year-end stock price
$77.69
47. Refer to the data for Pettijohn Inc. What is the firm's TIE?
a.
1.94
b.
2.15
c.
2.39
d.
2.66
e.
2.93
Ch 03 Analysis of Financial Statements
48. Refer to the data for Pettijohn Inc. What is the firm's EBITDA coverage?
a.
3.29
b.
3.46
c.
3.64
d.
3.82
e.
4.01
49. Refer to the data for Pettijohn Inc. What is the firm's debt-to-assets ratio?
a.
45.93%
b.
51.03%
Ch 03 Analysis of Financial Statements
c.
56.70%
d.
63.00%
e.
70.00%
50. Profitability ratios show the combined effects of liquidity, asset management, and debt management on operating
results.
a.
True
b.
False
Ch 03 Analysis of Financial Statements
51. The basic earning power ratio (BEP) reflects the earning power of a firm's assets after giving consideration to financial
leverage and tax effects.
a.
True
b.
False
52. Since the ROA measures the firm's effective utilization of assets (without considering how these assets are financed),
two firms with the same EBIT must have the same ROA.
a.
True
b.
False
Ch 03 Analysis of Financial Statements
53. Suppose Firms A and B have the same amount of assets, pay the same interest rate on their debt, have the same basic
earning power (BEP), and have the same tax rate. However, Firm A has a higher debt ratio. If BEP is greater than the
interest rate on debt, Firm A will have a higher ROE as a result of its higher debt ratio.
a.
True
b.
False
Ch 03 Analysis of Financial Statements
54. A firm's new president wants to strengthen the company's financial position. Which of the following actions would
make it financially stronger?
a.
Increase inventories while holding sales and cost of goods sold constant.
b.
Increase accounts receivable while holding sales constant.
c.
Increase EBIT while holding sales constant.
d.
Increase accounts payable while holding sales constant.
e.
Increase notes payable while holding sales constant.
55. If the CEO of a large, diversified, firm were filling out a fitness report on a division manager (i.e., "grading" the
manager), which of the following situations would be likely to cause the manager to receive a better grade? In all cases,
assume that other things are held constant.
