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Exam 4: Statement Analysis

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Question 31

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Which of the following statements is CORRECT?

A) If a security analyst saw that a firm's days' sales outstanding (DSO) was higher than the industry average, and was increasing and trending still higher, this would be interpreted as a sign of strength.
B) A high average DSO indicates that none of its customers are paying on time. In addition, it makes no sense to evaluate the firm's DSO with the firm's credit terms.
C) There is no relationship between the days' sales outstanding (DSO) and the average collection period (ACP) . These ratios measure entirely different things.
D) A reduction in accounts receivable would have no effect on the current ratio, but it would lead to an increase in the quick ratio.
E) If a firm increases its sales while holding its accounts receivable constant, then, other things held constant, its days' sales outstanding will decline.

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Question 32

Multiple Choice

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Which of the following statements is CORRECT?

A) If Firms X and Y have the same P/E ratios, then their market-to-book ratios must also be equal.
B) If Firms X and Y have the same net income, number of shares outstanding, and price per share, then their P/E ratios must also be the same.
C) If Firms X and Y have the same earnings per share and market-to-book ratio, they must have the same price/earnings ratio.
D) If Firm X's P/E ratio exceeds that of Firm Y, then Y is likely to be less risky and/or be expected to grow at a faster rate.
E) If Firms X and Y have the same net income, number of shares outstanding, and price per share, then their market-to-book ratios must also be the same.

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Question 33

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Helmuth Inc's latest net income was $1,250,000, and it had 225,000 shares outstanding. The company wants to pay out 45% of its income. What dividend per share should it declare?

What is the firm's market-to-book ratio?

Last year Rennie Industries had sales of $305,000, assets of $175,000, a profit margin of 5.3%, and an equity multiplier of 1.2. The CFO believes that the company could reduce its assets by $51,000 without affecting either sales or costs. Had it reduced its assets by this amount, and had the debt/assets ratio, sales, and costs remained constant, how much would the ROE have changed?

Beranek Corp has $720,000 of assets, and it uses no debt--it is financed only with common equity. The new CFO wants to employ enough debt to raise the debt/assets ratio to 40%, using the proceeds from borrowing to buy back common stock at its book value. How much must the firm borrow to achieve the target debt ratio?

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.

Which of the following statements is CORRECT?

Suppose you are analyzing two firms in the same industry. Firm A has a profit margin of 10% versus a margin of 8% for Firm B. Firm A's debt ratio is 70% versus one of 20% for Firm B. Based only on these two facts, you cannot reach a conclusion as to which firm is better managed, because the difference in debt, not better management, could be the cause of Firm A's higher profit margin.

Klein Cosmetics has a profit margin of 5.0%, a total assets turnover ratio of 1.5 times, a zero debt ratio and therefore an equity multiplier of 1.0, and an ROE of 7.5%. The CFO recommends that the firm borrow money, use it to buy back stock, and raise the debt ratio to 50% and the equity multiplier to 2.0. She thinks that operations would not be affected, but interest on the new debt would lower the profit margin to 4.5%. This would probably be a good move, as it would increase the ROE from 7.5% to 13.5%.

Chang Corp. has $375,000 of assets, and it uses only common equity capital (zero debt) . Its sales for the last year were $595,000, and its net income was $25,000. Stockholders recently voted in a new management team that has promised to lower costs and get the return on equity up to 15.0%. What profit margin would the firm need in order to achieve the 15% ROE, holding everything else constant?

Which of the following statements is CORRECT?

Determining whether a firm's financial position is improving or deteriorating requires analyzing more than the ratios for a given year. Trend analysis is one method of examining changes in a firm's performance over time.

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.

What is the firm's ROA?

If a firm sold some inventory on credit, its current ratio would probably not change much, but its quick ratio would increase.

Companies HD and LD have the same total assets, sales, operating costs, and tax rates, and they pay the same interest rate on their debt. However, company HD has a higher debt ratio. Which of the following statements is CORRECT?

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.

Companies HD and LD have the same sales, tax rate, interest rate on their debt, total assets, and basic earning power. Both companies have positive net incomes. Company HD has a higher debt ratio and, therefore, a higher interest expense. Which of the following statements is CORRECT?

Which of the following would, generally, indicate an improvement in a company's financial position, holding other things constant?