Test 2

I True / False Questions

1. Ratios are used to compare different firms in the same industry. TRUE
2. Financial ratios are used to weigh and evaluate the operational performance of the
firm. TRUE
3. Liquidity ratios indicate how fast a firm can generate cash to pay bills. TRUE
4. Asset utilization ratios describe how capital is being utilized to buy assets. FALSE
5. Profitability ratios allow one to measure the ability of the firm to earn an adequate
return on sales, total assets, and invested capital. TRUE
6. Asset utilization ratios measure the returns on various assets such as return on total
assets. FALSE
7. A banker or trade creditor is most concerned about a firm's profitability ratios.
FALSE
8. Ratios are only useful for those areas of business that involve investment
decisions.
FALSE
9. Debt utilization ratios are used to evaluate the firm's debt position with regard to its
asset base and earning power. TRUE
10. The DuPont system of analysis emphasizes that profit generated by assets can be
derived by various combinations of profit margins and asset turnover. TRUE
11. Satisfactory return on assets may be achieved through high profit margins or rapid
turnover of assets, but not a combination of both. FALSE
12. Heavy use of long-term debt can be of benefit to a firm. TRUE
13. Return on equity will be higher than return on assets if there is debt in the capital
structure. TRUE
14. Higher debt utilization ratios will always increase a firm's return on equity given a
positive return on assets. TRUE
15. Return on equity will not change if the firm increases its use of debt. FALSE
16. In analyzing ratios, the age of the firm's assets need not be considered. FALSE
17. Asset utilization ratios relate balance sheet assets to income statement
sales. TRUE
18. A current ratio of 2 to 1 is always acceptable, for a company in any industry.
FALSE
19. To compute the quick ratio, accounts receivable are not included in current assets.
FALSE
20. The current ratio is a more severe test of a firm's liquidity than the quick ratio.
FALSE
II Multiple Choice Questions
1. Ratio analysis can be useful for
A. historical trend analysis within a firm.
B. comparison of ratios within a single industry.
C. measuring the effects of financing.
D. All of these are true.

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2. In examining the liquidity ratios, the primary emphasis is the firm's
A. ability to effectively employ its resources.
B. overall debt position.
C. ability to pay short-term obligations on time.
D. ability to earn an adequate return.

3. Which of the following is not an asset utilization ratio?

A. Inventory turnover
B. Return on assets
C. Fixed asset turnover
D. Average collection period

4. A short-term creditor would be most interested in

A. profitability ratios.
B. asset utilization ratios.
C. liquidity ratios.
D. debt utilization ratios.

5. Which of the following is not considered to be a profitability ratio?

A. profit margin
B. times interest earned
C. return on equity
D. return on assets (investment)

6. Which two ratios are used in the DuPont system to create return on assets?
A. Return on assets and asset turnover
B. Profit margin and asset turnover
C. Return on total capital and the profit margin
D. Inventory turnover and return on fixed assets

7. The Bubba Corp. had earnings before taxes of $200,000 and sales of $2,000,000. If
it is in the 50% tax bracket its after-tax profit margin is:
A. 5%
B. 12%
C. 20%
D. 25%

8. A firm has a debt to equity ratio of 50%, debt of $300,000, and net income of
$90,000. The return on equity is
A. 60%
B. 15%
C. 30%
D. not enough information

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9. A firm has a debt to asset ratio of 75%, $240,000 in debt, and net income of
$48,000. Calculate return on equity.
A. 60%
B. 20%
C. 26%
D. not enough information

10. For a given level of profitability as measured by profit margin, the firm's return on
equity will
A. increase as its debt-to-assets ratio decreases.
B. decrease as its current ratio increases.
C. increase as its debt-to assets ratio increases.
D. decrease as its times-interest-earned ratio decreases.

11. ABC Co. has an average collection period of 60 days. Total credit sales for the
year were $3,000,000. What is the balance in accounts receivable at year-end?
A. $50,000
B. $100,000
C. $500,000
D. $80,000

12. Asset utilization ratios

A. relate balance sheet assets to income statement sales.
B. measure how much cash is available for reinvestment into current assets.
C. are most important to stockholders.
D. measures the firm's ability to generate a profit on sales.

13. XYZ's receivables turnover is 10x. The accounts receivable at year-end are
$600,000. The average collection period is 36 days. What was the sales figure for the
year assuming all sales are on credit?
A. $60,000
B. $6,000,000
C. $24,000,000
D. none of these

14. A decreasing average collection period could be associated with (select the one
best answer)
A. increasing sales.
B. decreasing sales.
C. decreasing account receivable.
D. a and c.

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15. If accounts receivable stays the same, and credit sales go up
A. the average collection period will go up.
B. the average collection period will go down.
C. accounts receivable turnover will decrease.
D. B and C.
III Essay Questions

1. Match the following with the items below:

a. asset utilization ratios
b. debt utilization ratios
c. inflation
d. DuPont System of ratio analysis
e. FIFO
f. inventory profits
g. LIFO
h. liquidity ratios
i. profitability ratios
j. replacement costs
k. trend analysis
l. times interest earned
m. fixed charge coverage
1. _____ A system of including inventory into cost of goods sold in which the items
purchased last are written off first.
2. _____ A phantom source of profit that can mislead even the most alert analysts.
3. _____ A result of an inflationary economy in which old stocks of goods are sold at
large
profits.
4. _____ A method of study that breaks down return on assets between the profit
margin and asset turnover.
5. _____ Ratios that measure the speed at which the firm is turning over its assets.
6. _____ Ratios that measure the firm's ability to pay off short-term obligations as
they come due.
7. _____ A system that includes inventory into cost of goods sold in which the items
purchased first are written off first.
8. _____ A group of ratios that indicate to what extent a firm has borrowed funds and
how prudently these funds are being managed.
9. _____ Costs incurred if the present asset base were repurchased at current prices.
10. _____ The ratios that measure return on sales, assets and invested capital of the
firm.
11. _____ analysis of performance over a number of years that is made to ascertain
significant
patterns.
12. _____ Measures the firm's ability to meet all fixed obligations.

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 13. _____ Indicates the strength of the firm regarding its coverage of interest
payments.

(1.) g (2.) c (3.) f (4.) d (5.) a (6.) h (7.) e (8.) b (9.) j (10.) i (11.) k (12.) m (13.) l

2. Complete the following balance sheet for the Range Company using the following
information:
Debt to Assets = 60 percent
Quick Ratio = 1.1
Asset Turnover = 5
Fixed Asset Turnover = 12.037
Current Ratio = 2
Average Collection Period = 16.837 days

Assume all sales are on credit and a 360-day year.

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