Chapter 04 Test Bank - Static
Student: ___________________________________________________________________________
1. The income statement of a firm shows the value of its assets and liabilities over a specified period of time.
True False
2. The higher the times interest earned ratio, the higher the interest expense.
True False
3. The net working capital of a firm will decrease when unpaid bills from suppliers are later paid with cash.
True False
4. Net working capital is determined from the difference between current assets and current liabilities.
True False
5. Net working capital to total assets and current ratio are both liquidity ratios.
True False
6. The net working capital to total assets ratio is always a larger number than the current ratio.
True False
7. The asset turnover ratio and inventory turnover ratio are both efficiency ratios.
True False
8. The inventory turnover ratio times the average days in inventory equals 365.
True False
9. Return on assets and return on equity are both profitability ratios.
True False
10. Return on assets is always a larger number than the return on equity.
True False
11. The reduction in value over time of intangible assets is known as amortization.
True False
12. Receivable turnover ratio and asset turnover ratio are both efficiency ratios.
True False
13. Market value added is the difference between the market value of the firm's equity and its book value.
True False
14. Market value added is the same as economic value added.
True False
15. The difference between the current and quick ratios is that inventory has been subtracted from current assets.
True False
16. A healthy current ratio and an unhealthy quick ratio may be caused by excess inventory.
True False
17. Other things equal, an increase in average accounts receivable will increase a firm's return on assets.
True False
18. Residual income is another term for economic value added.
True False
19. EVA is the net profit of the firm adjusted for the cost of capital.
True False
20. ROE is equal to ROC when the firm has no debt.
True False
21. Increasing leverage will always act to increase a firm's ROE.
True False
22. Which of the following is the least effective measure of operating performance?
A. RO
C
B. RO
A
C. RO
E
D. All of the options are equally ineffective measures of operating
performance.
23. Lease obligations are included in certain leverage ratios because leases:
A. require the payment of
interest.
B. represent long-term fixed
obligations.
C. must be financed through a
bank.
D. are perpetual
obligations.
24. A firm with no leases has a long-term debt ratio of 50%. This means that the book value of equity:
A. equals the book value of long-term
debt.
B. is less than the book value of long-term
debt.
C. is greater than the book value of long-term
debt.
D. is unknown in relation to the book value of long-term
debt.
25. When a firm's long-term debt-equity ratio is .98, the firm:
A. has too much long-term debt in relation to
leases.
B. has less long-term debt than
equity.
C. is nearing
insolvency.
D. has as much in long-term liabilities as in
equity.
26. If a firm's debt ratio is greater than 0.5, then:
A. its current liabilities are quite
high.
B. its debt-equity ratio exceeds
1.0.
C. it has too few total
assets.
D. it has more long-term debt than
equity.
27. A times interest earned ratio of 5 indicates the firm:
A. pays 5 times its earnings in interest
expense.
B. earns significantly more than its interest
obligations.
C. has interest expense equal to 5% of
EBIT.
D. has a low tax
liability.
28. If a firm's cash coverage ratio is greater than its times interest earned ratio, then the:
A. firm's assets are not fully
depreciated.
B. firm has no lease
obligations.
C. firm has very little long-term
debt.
D. firm has a high degree of
liquidity.
29. An asset's liquidity measures its:
A. potential for generating a
profit.
B. cash
requirements.
C. ease and cost of being converted to
cash.
D. proportion of debt
financing.
30. Which of the following actions could improve a firm's current ratio if it is now less than 1.0?
A. Converting marketable securities to
cash
B. Paying accounts payable with
cash
C. Buying inventory on
credit
D. Selling inventory at
cost
31. If a firm's quick ratio is equal to its current ratio:
A. It has a low level of current
liabilities.
B. It has no
inventory.
C. It faces a potentially serious liquidity
crisis.
D. It is in a loss-making
position.
32. A firm has $600,000 in current assets and $150,000 in current liabilities. Which of the following is correct if it uses
cash to pay off $50,000 in accounts payable?
A. Current ratio will increase to
5.0.
B. Net working capital will increase to
$500,000.
C. Current ratio will
decrease.
D. Net working capital will not
change.
33. How would you interpret an inventory turnover ratio of 10.7?
A. It takes 50 days on average to collect
receivables.
B. Inventory is converted into sales every 50
days.
C. The firm has sufficient inventories to maintain sales for 34.1
days.
D. Assets are converted into sales every 50
days.
34. What are the annual sales for a firm with $400,000 in debt, a total debt ratio of 0.4, and an asset turnover of 3?
A. $333,33
3
B. $1,200,00
0
C. $1,800,00
0
D. $3,000,00
0
35. Which one of the following will cause a reduction in the NWC turnover ratio all else held constant?
A. A decrease in
sales
B. An increase in average
payables
C. An increase in average
inventory
D. An increase in the average cash
balance
36. The inventory turnover ratio compares:
A. current assets to
inventory.
B. cost of goods sold to
inventory.
C. average receivables to
inventory.
D. average assets to
inventory.
37. When Tri-C Corp. compares its ratios to industry averages, it has a higher current ratio, an average quick ratio, and a
lower inventory turnover. What might you assume about Tri-C?
A. Its cash balance is relatively
low.
B. Its cost of goods sold is relatively
low.
C. Its current liabilities are relatively
low.
D. Its average inventory is relatively
high.
38. Which one of the following statements is most likely correct for a firm with an average collection period of 90 days?
A. Its average daily sales are
low.
B. Its average daily sales are
high.
C. Its current ratio will be
high.
D. It is providing financing for approximately 25% of its annual
sales.
39. An all-equity firm reports a net profit margin of 10% on sales of $3 million. If the tax rate is 40%, what is the pretax
profit
A. $100,00
0
B. $300,00
0
C. $500,00
0
D. $800,00
0
40. Which of the following will allow your firm to achieve its targeted 16% ROA with an asset turnover of 2.5?
A. A leverage ratio of .
0667
B. A P/E ratio of
14
C. A return on equity of
25%
D. An operating profit margin of
6.4%
41. What is the ROA of a firm with $150,000 in receivables, which represents 60 days sales, assets of $750,000, and an
operating profit margin of 9%?
A. 7.50
%
B. 9.00
%
C. 10.95
%
D. 16.70
%
42. Last year's return on equity was 30%. This year the ROE has decreased to 20% even though the firm's earnings
equaled last year's earnings. The firm has no preferred stock. What caused the decrease?
A. Equity decreased by
10%.
B. Equity decreased by
50%.
C. Equity increased by
10%.
D. Equity increased by
50%.
43. Which one of these costs accounts for the difference between accounting income and economic value added?
A. Depreciatio
n
B. Cost of
capital
C. Taxe
s
D. Dividend
s
44. After-tax operating income for a leveraged firm is defined as:
A. net income + after-tax
interest.
B. EBIT × (1 − tax
rate).
C. net income +
depreciation.
D. profit margin ×
sales.
45. Which one of these changes indicates an improvement in a firm's asset management efficiency?
A. An increase in the amount of assets per dollar of
sales
B. An increase in the inventory turnover
rate
C. A decrease in the receivables
turnover rate
D. An increase in the average days in
inventory
46. What is the market price of a share of stock for a firm with 100,000 shares outstanding, a book value of equity of
$3,000,000, and a market-to-book ratio of 3?
A. $1
0
B. $3
0
C. $9
0
D. $10
5
47. Which one of the following may be the best measure of company performance since it accounts for the opportunity
cost of capital?
A. EVA
B. Net
income
C. Increase in
sales
D. Current
ratio
48. Which one of these statements is correct?
A. Market value added measures the difference between the total market value and the total book
value of equity.
B. Net income is also called economic value
added.
C. EVA measures the net profit of a firm after deducting the cost of the assets used in the
production process.
D. EVA considers the cost of long-term debt financing but excludes the cost of equity
financing.
49. The board of directors is dissatisfied with last year's ROE of 15%. If the operating profit margin and asset turnover
ratio remain unchanged at 8% and 1.25, respectively, by how much must the leverage ratio (i.e., assets/equity)
increase to achieve 20% ROE?
A. 0.50
%
B. 5
%
C. 16.67
%
D. 33.33
%
50. What must happen to asset turnover to leave ROE unchanged from its original 16% level if the operating profit
margin is reduced from 8% to 6% and the leverage ratio increases from 1.2 to 1.6? Asset turnover must:
A. remain
constant.
B. increase from 1.46 to
2.33.
C. decrease from 1.74 to
1.67.
D. increase from 1.38 to
1.67.
51. The use of debt in the firm's capital structure will increase ROE if the firm:
A. has more debt than
equity.
B. pays less in taxes than in
interest.
C. earns a higher return than the rate paid on
debt.
D. has a times interest earned ratio greater
than 1.0.
52. To calculate which of these measures do you need to know the cost of capital?
A. ROC
.
B. ROA
.
C. ROE
.
D. EVA.
53. A corporation declares $25 million in net income, $1 million in preferred stock dividends, and $7 million in common
stock dividends. By how much will shareholders' equity increase on the balance sheet?
A. $17
million
B. $18
million
C. $19
million
D. $25
million
54. If a firm starts the year with receivables of $80,000 and produces sales for the year of $300,000, what is its average
collection period?
A. 3.75
days.
B. 97.3
days.
C. 52
days.
D. 77.9
days
55. A firm's after-tax operating income was $1,000,000 in 2016. It started the year with total capital of $8,000,000 and
raised an additional $1 million of capital during the year. The additional capital raised during 2016 only started to
affect the operating income in 2017. Which value best represents the return on capital for 2016?
A. 12.5
%
B. 11.8
%
C. 11.1
%
D. 10.0
%
56. If ROC is less than a firm's cost of capital, which of the following must be true?
A. The firm's EVA is
positive.
B. The firm's EVA is
negative.
C. The firm's ROE is equal to
zero.
D. The firm's ROE is
negative.
57. When will ROE equal ROC?
A. Whenever the firm has equal debt and equity
financing
B. Whenever the firm has no
debt
C. Whenever the value of the firm's assets exceeds the value of
its equity
D. ROE will never equal
ROC
58. If the ratio of total liabilities to total assets is 0.5, long-term liabilities are $3,000, and equity is $5,000, then::
A. you know that current liabilities must be $
2,000.
B. you know that current assets must be
$400.
C. you know that retained earnings must be
$800.
D. you know that preferred stock must be
$400.
59. What is the debt ratio for a firm with a debt-equity ratio of 0.5?
A. 35
%
B. 33.3
%
C. 54
%
D. 66.7
%
60. Which one of the following will increase a firm's times interest earned ratio?
A. An increase in
debt
B. A decrease in cost of goods
sold
C. An increase in interest
expense
D. A decrease in net
income
61. Which one of the following would be most detrimental to a firm's current ratio if that ratio is currently 2?
A. Collecting payment on an accounts
receivable
B. Selling marketable securities at
cost
C. Paying off accounts payable with
cash
D. Purchasing inventory on
credit
62. A retail store with zero net working capital has:
A. no cash or marketable
securities.
B. insufficient
inventory.
C. no current
debt.
D. a quick ratio that is less
than 1.
63. A deficiency of the standard measures of liquidity is that the measures:
A. ignore a firm's reserve borrowing
capacity.
B. fail to include accounts receivable as an
asset.
C. give inventories equal weighting in the quick
ratio.
D. do not include the current portions of long-term
debt.
64. A firm has average daily expenses of $2.13 million and average accounts payable of $112.7 million. On average,
how many days does it take the firm to pay its bills?
A. 63.47
days
B. 52.91
days
C. 48.19
days
D. 59.03
days
65. If a company has a healthy current ratio but a significantly lower quick ratio, then you can assume that:
A. the cost of goods sold represents more than half of
sales.
B. current liabilities exceed current
assets.
C. the firm sells only on a cash
basis.
D. inventory represents a large portion of the firm's current
assets.
66. Last year's asset turnover ratio was 2.0. Sales have increased by 25% and total assets have increased by 10% since
that time. What is the current asset turnover ratio?
A. 1.8
2
B. 2.0
5
C. 2.1
5
D. 2.2
7
67. What is the inventory turnover ratio for ABC Corp. if cost of goods sold equals $5,000, current ratio equals 3, quick
ratio equals 1.5, and the firm has $1,800 in current assets?
A. 2.78
times
B. 4.17
times
C. 5.56
times
D. 8.33
times
68. Assume BDS acquired its main supplier, ABC. As a result of the acquisition, BDS finds that its profit margin
increased but its ROA remained constant. A decrease in which one of these ratios is most apt to be the reason why
the ROA did not increase with the increase in the profit margin?
A. Leverage
ratio
B. Market-to-book
ratio
C. Asset
turnover
D. Debt
burden
69. A firm's operating profit margin is 20% with an EBIT of $1.5 million and sales of $5 million. If it has no debt, how
much did the firm pay in taxes?
A. $50,00
0
B. $300,00
0
C. $350,00
0
D. $500,00
0
70. What is primarily responsible for the potential distortion among the ROA of different firms when net income is used in
the numerator of ROA?
A. Firms have different dividend payout
ratios.
B. Some firms use fully depreciated
assets.
C. Financial leverage varies among
firms.
D. Unprofitable firms will not have any tax
liability.
71. Which one of the following changes will provide an increase in a firm's ROE?
A. A decrease in the profit
margin
B. An increase in the interest
rate
C. An increase in
equity
D. A decrease in the tax
rate
72. An increase in which one of the following will have no effect on the cash coverage ratio?
A. Depreciatio
n
B. Intere
st
C. Sale
s
D. Cost of goods
sold
73. What is the book value per share for a firm with 2 million shares outstanding at a price of $50, a market-to-book ratio
of 0.75, and a dividend-payout ratio of 50%?
A. $33.3
3
B. $37.5
0
C. $62.5
0
D. $66.6
7
74. What is the residual income for a firm that is entirely equity-financed with $1 million in capital, $300,000 in net
income, and a 20% cost of capital?
A. $100,00
0
B. $140,00
0
C. $240,00
0
D. $500,00
0
75. By how much must a firm reduce its assets in order to improve ROA from 10% to 12% if the firm's operating profit
margin is 5% on sales of $4 million? Assume that the reduction in assets has no effect on sales or profit margin
A. $240,00
0
B. $333,33
3
C. $400,00
0
D. $516,16
7
76. What is the ROE for a firm with a times interest earned ratio of 2, a tax liability of $1 million, and interest expense of
$1.5 million if equity equals $1.5 million?
A. 26.67
%
B. 30.00
%
C. 33.33
%
D. 50.00
%
77. Which of the following choices would be guaranteed to increase a firm's ROE if the ROA is currently 10% and the
leverage ratio equals 1?
A. Decrease the leverage
ratio
B. Increase the debt burden from its current
level
C. Decrease assets from the current
level
D. Decrease the debt burden from its current
level
78. XYZ Corp. has an operating profit margin of 7%, a debt burden of .8, and has financed two-thirds of its assets
through equity. What asset turnover ratio is necessary to achieve an ROE of 18%?
A. 1.2
6
B. 1.6
1
C. 2.1
4
D. 4.0
2
79. The use of financial leverage will be detrimental to a firm's ROE if the:
A. firm currently has no long-term
debt.
B. firm's current ratio is greater
than 1.
C. interest expense exceeds the tax
liability.
D. interest rate on debt exceeds the firm's
ROA.
80. Efficiency ratios:
A. include the quick ratio, asset turnover ratio, and return on
equity.
B. are used to measure how well the company uses its
assets.
C. are used to measure how liquid the
company is.
D. measure the profits generated by a firm's equity and
assets.
81. A total debt ratio of 0.35:
A. indicates that the firm is financed with 35% long-term
debt.
B. would exist if a firm had liabilities of $700 and assets of
$2,000.
C. indicates that 35 cents of every dollar of capital is in the form of short-
term debt.
D. indicates that 35 cents of every dollar of capital is in the form of long-
term debt.
82. A company has total assets of $1,000, current liabilities of $130, and total liabilities of $350. If debt is the only long-
term liability, what is the long-term debt ratio?
A. 0.1
9
B. 0.2
5
C. 0.3
6
D. 0.3
1
83. If the cash coverage ratio exceeds the times interest earned ratio, then the firm has:
A. a positive cash
flow.
B. depreciable
assets.
C. no long-term
debt.
D. short-term
debts.
84. Instead of increasing its long-term debt by borrowing money from a bank to purchase new stereo equipment, Jay's
Jams Inc. decides to lease the equipment on a long-term basis. How will the long-term debt ratio differ if the lease
option is selected over the bank-debt option?
A. The ratio will be lower under the leasing
option.
B. The ratio will be higher under the leasing
option.
C. The ratio will be the same regardless of the financing method
selected.
D. The ratio effects are unknown without the amount of the lease
obligation.
85. Which of these assets is generally considered to be the most liquid?
A. Building
s
B. Lan
d
C. Finished goods
inventory
D. Accounts
receivable
86. High levels of liquidity may indicate:
A. low levels of net working
capital.
B. low profit
margins.
C. high levels of economic value
added.
D. inefficient use of
assets.
87. The current ratio is a good proxy for a firm's:
A. liquidity.
B. efficiency
.
C. degree of
leverage.
D. profitability
.
88. If a company uses cash to pay off some of its accounts payables, what effect will this have on its liquidity ratios,
given that the ratios exceeded 1 before the payoff?
A. The quick ratio and current ratio will both
increase.
B. The quick ratio and current ratio will both
decrease.
C. The quick ratio will increase but the current ratio will remain
unchanged.
D. The current ratio will increase but the quick ratio will remain
unchanged.
89. TSI Inc. has liquid assets of $1,000, enough to finance its operations for 67 days. TSI's average daily expenditures
from operations are:
A. $6.70
.
B. $8.2
3.
C. $14.9
3.
D. $22.2
8.
90. An asset turnover ratio of 1.75 can be interpreted as:
A. $1.75 in sales are generated by every $1 of
assets.
B. $1.75 in additional assets are generated by every $1
of sales.
C. $1.75 in assets are used to generate $1 of
sales.
D. $1 in sales are used to generate $1.75 in
assets.
91. Which of these indicates that a firm is efficient?
A. A high average collection
period
B. A high day's sales in
inventories
C. A low asset
turnover
D. A high inventory
turnover
92. Calculate the average collection period for Dots Inc. if its accounts receivables were $550 at the beginning of a year
in which the firm generated $3,000 of sales?
A. 60
days
B. 61
days
C. 67
days
D. 73
days
93. Which one of these ratios is commonly referred to as the acid-test ratio?
A. Times interest earned
ratio
B. Quick
ratio
C. Cash coverage
ratio
D. Cash
ratio
94. Balsco's balance sheet shows total assets of $238,000 and total liabilities of $107,000. The firm has 55,000 shares of
stock outstanding that sell for $11 a share. What is amount of market value added?
A. $389,00
0
B. $474,00
0
C. $1,073,00
0
D. $123,71
2
95. What will be Gamma Inc.'s return on equity if total asset turnover is 0.85, operating profit margin is 0.15, two-thirds of
its assets are financed through equity, and debt burden is 0.6?
A. 9.56
%
B. 11.48
%
C. 16.96
%
D. 38.25
%
96. Which of the following is not a problem with EVA?
A. EVA cannot be used to measure the profitability of a private
company
B. EVA cannot be used to compare the effectiveness of managers with different amounts of assets under
their control
C. EVA assumes that the book values of assets are equal to their
current worth
D. EVA assumes that you know the cost of
capital
97. In the past year, TVG had revenues of $3 million, cost of goods sold of $2.5 million, and depreciation expense of
$200,000. The firm has a single issue of debt outstanding with a face value of $1million, market value of $.92 million,
and a coupon rate of 8%. What is the firm's times interest earned ratio?
A. 3.7
5
B. 2.9
8
C. 2.8
0
D. 3.4
0
Chapter 04 Test Bank - Static Key
1. The income statement of a firm shows the value of its assets and liabilities over a specified period of time.
FALSE
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Income statement
2. The higher the times interest earned ratio, the higher the interest expense.
FALSE
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Long-term solvency ratios
3. The net working capital of a firm will decrease when unpaid bills from suppliers are later paid with cash.
FALSE
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Net working capital
4. Net working capital is determined from the difference between current assets and current liabilities.
TRUE
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Net working capital
5. Net working capital to total assets and current ratio are both liquidity ratios.
TRUE
AACSB: Communication
Accessibility: Keyboard Navigation
Blooms: Remember
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Short-term solvency ratios
6. The net working capital to total assets ratio is always a larger number than the current ratio.
FALSE
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Short-term solvency ratios
7. The asset turnover ratio and inventory turnover ratio are both efficiency ratios.
TRUE
AACSB: Communication
Accessibility: Keyboard Navigation
Blooms: Remember
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Asset management ratios
8. The inventory turnover ratio times the average days in inventory equals 365.
TRUE
AACSB: Communication
Accessibility: Keyboard Navigation
Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Asset management ratios
9. Return on assets and return on equity are both profitability ratios.
TRUE
AACSB: Communication
Accessibility: Keyboard Navigation
Blooms: Remember
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Profitability ratios
10. Return on assets is always a larger number than the return on equity.
FALSE
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Profitability ratios
11. The reduction in value over time of intangible assets is known as amortization.
TRUE
AACSB: Communication
Accessibility: Keyboard Navigation
Blooms: Remember
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-04 Show how profitability depends on the efficient use of assets and on profits as a fraction of sales.
Topic: Depreciation methods
12. Receivable turnover ratio and asset turnover ratio are both efficiency ratios.
TRUE
AACSB: Communication
Accessibility: Keyboard Navigation
Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Asset management ratios
13. Market value added is the difference between the market value of the firm's equity and its book value.
TRUE
AACSB: Communication
Accessibility: Keyboard Navigation
Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 04-01 Calculate and interpret the market value and market value added of a public corporation.
Topic: Market value ratios
14. Market value added is the same as economic value added.
FALSE
AACSB: Communication
Accessibility: Keyboard Navigation
Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Market value ratios
15. The difference between the current and quick ratios is that inventory has been subtracted from current assets.
TRUE
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Short-term solvency ratios
16. A healthy current ratio and an unhealthy quick ratio may be caused by excess inventory.
TRUE
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Short-term solvency ratios
17. Other things equal, an increase in average accounts receivable will increase a firm's return on assets.
FALSE
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Analyze
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Profitability ratios
18. Residual income is another term for economic value added.
TRUE
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Profitability ratios
19. EVA is the net profit of the firm adjusted for the cost of capital.
TRUE
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Profitability ratios
20. ROE is equal to ROC when the firm has no debt.
TRUE
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Profitability ratios
21. Increasing leverage will always act to increase a firm's ROE.
FALSE
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Analyze
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Profitability ratios
22. Which of the following is the least effective measure of operating performance?
A. RO
C
B. RO
A
C. RO
E
D. All of the options are equally ineffective measures of operating
performance.
AACSB: Communication
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Profitability ratios
23. Lease obligations are included in certain leverage ratios because leases:
A. require the payment of
interest.
B. represent long-term fixed
obligations.
C. must be financed through a
bank.
D. are perpetual
obligations.
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Long-term solvency ratios
24. A firm with no leases has a long-term debt ratio of 50%. This means that the book value of equity:
A. equals the book value of long-term
debt.
B. is less than the book value of long-term
debt.
C. is greater than the book value of long-term
debt.
D. is unknown in relation to the book value of long-term
debt.
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Long-term solvency ratios
25. When a firm's long-term debt-equity ratio is .98, the firm:
A. has too much long-term debt in relation to
leases.
B. has less long-term debt than
equity.
C. is nearing
insolvency.
D. has as much in long-term liabilities as in
equity.
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Long-term solvency ratios
26. If a firm's debt ratio is greater than 0.5, then:
A. its current liabilities are quite
high.
B. its debt-equity ratio exceeds
1.0.
C. it has too few total
assets.
D. it has more long-term debt than
equity.
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Analyze
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Long-term solvency ratios
27. A times interest earned ratio of 5 indicates the firm:
A. pays 5 times its earnings in interest
expense.
B. earns significantly more than its interest
obligations.
C. has interest expense equal to 5% of
EBIT.
D. has a low tax
liability.
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Long-term solvency ratios
28. If a firm's cash coverage ratio is greater than its times interest earned ratio, then the:
A. firm's assets are not fully
depreciated.
B. firm has no lease
obligations.
C. firm has very little long-term
debt.
D. firm has a high degree of
liquidity.
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Apply
Difficulty: 3 Hard
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Long-term solvency ratios
29. An asset's liquidity measures its:
A. potential for generating a
profit.
B. cash
requirements.
C. ease and cost of being converted to
cash.
D. proportion of debt
financing.
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Liquidity
30. Which of the following actions could improve a firm's current ratio if it is now less than 1.0?
A. Converting marketable securities to
cash
B. Paying accounts payable with
cash
C. Buying inventory on
credit
D. Selling inventory at
cost
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Analyze
Difficulty: 3 Hard
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Short-term solvency ratios
31. If a firm's quick ratio is equal to its current ratio:
A. It has a low level of current
liabilities.
B. It has no
inventory.
C. It faces a potentially serious liquidity
crisis.
D. It is in a loss-making
position.
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Short-term solvency ratios
32. A firm has $600,000 in current assets and $150,000 in current liabilities. Which of the following is correct if it uses
cash to pay off $50,000 in accounts payable?
A. Current ratio will increase to
5.0.
B. Net working capital will increase to
$500,000.
C. Current ratio will
decrease.
D. Net working capital will not
change.
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Apply
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Net working capital
33. How would you interpret an inventory turnover ratio of 10.7?
A. It takes 50 days on average to collect
receivables.
B. Inventory is converted into sales every 50
days.
C. The firm has sufficient inventories to maintain sales for 34.1
days.
D. Assets are converted into sales every 50
days.
Days' sales in inventory = 365 days / 10.7 = 34.1 days
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Apply
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Asset management ratios
34. What are the annual sales for a firm with $400,000 in debt, a total debt ratio of 0.4, and an asset turnover of 3?
A. $333,33
3
B. $1,200,00
0
C. $1,800,00
0
D. $3,000,00
0
Total debt ratio = Total debt / Total assets, so:
Assets = $400,000 / 0.4 = $1,000,000
Asset turnover ratio = Sales / Total assets, so:
Sales = $1,000,000 × 3 = $3,000,000
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Apply
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Asset management ratios
35. Which one of the following will cause a reduction in the NWC turnover ratio all else held constant?
A. A decrease in
sales
B. An increase in average
payables
C. An increase in average
inventory
D. An increase in the average cash
balance
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Apply
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Short-term solvency ratios
36. The inventory turnover ratio compares:
A. current assets to
inventory.
B. cost of goods sold to
inventory.
C. average receivables to
inventory.
D. average assets to
inventory.
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Asset management ratios
37. When Tri-C Corp. compares its ratios to industry averages, it has a higher current ratio, an average quick ratio,
and a lower inventory turnover. What might you assume about Tri-C?
A. Its cash balance is relatively
low.
B. Its cost of goods sold is relatively
low.
C. Its current liabilities are relatively
low.
D. Its average inventory is relatively
high.
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Evaluate
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-05 Compare a company's financial standing with its competitors and its own position in previous years.
Topic: Short-term solvency ratios
38. Which one of the following statements is most likely correct for a firm with an average collection period of 90
days?
A. Its average daily sales are
low.
B. Its average daily sales are
high.
C. Its current ratio will be
high.
D. It is providing financing for approximately 25% of its annual
sales.
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Short-term solvency ratios
39. An all-equity firm reports a net profit margin of 10% on sales of $3 million. If the tax rate is 40%, what is the
pretax profit
A. $100,00
0
B. $300,00
0
C. $500,00
0
D. $800,00
0
Net profit margin = Net profit margin = (Pretax income − Taxes) / Sales
0.10 = (1 − 0.4) × Pretax income / $3,000,000 Pretax income = $500,000→
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Analyze
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-04 Show how profitability depends on the efficient use of assets and on profits as a fraction of sales.
Topic: Profitability ratios
40. Which of the following will allow your firm to achieve its targeted 16% ROA with an asset turnover of 2.5?
A. A leverage ratio of .
0667
B. A P/E ratio of
14
C. A return on equity of
25%
D. An operating profit margin of
6.4%
ROA = Operating profit margin × Asset turnover
0.16 = Operating profit margin × 2.50
Operating profit margin = 0.064, or 6.4%
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Analyze
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-04 Show how profitability depends on the efficient use of assets and on profits as a fraction of sales.
Topic: DuPont identity
41. What is the ROA of a firm with $150,000 in receivables, which represents 60 days sales, assets of $750,000, and
an operating profit margin of 9%?
A. 7.50
%
B. 9.00
%
C. 10.95
%
D. 16.70
%
Sales = ($150,000 / 60) × 365 = $912,500
ROA = Operating profit margin × Asset turnover
= 0.09 × ($912,500 / $750,000)
= 0.1095, or 10.95%
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Analyze
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-04 Show how profitability depends on the efficient use of assets and on profits as a fraction of sales.
Topic: DuPont identity
42. Last year's return on equity was 30%. This year the ROE has decreased to 20% even though the firm's earnings
equaled last year's earnings. The firm has no preferred stock. What caused the decrease?
A. Equity decreased by
10%.
B. Equity decreased by
50%.
C. Equity increased by
10%.
D. Equity increased by
50%.
NI = 0.3(Old equity)
NI = 0.2(Old equity + New equity)
0.3(Old equity) = 0.2(Old equity + New equity)
New equity = 0.5 Old equity
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Analyze
Difficulty: 3 Hard
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Profitability ratios
43. Which one of these costs accounts for the difference between accounting income and economic value added?
A. Depreciatio
n
B. Cost of
capital
C. Taxe
s
D. Dividend
s
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Analyze
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Profitability ratios
44. After-tax operating income for a leveraged firm is defined as:
A. net income + after-tax
interest.
B. EBIT × (1 − tax
rate).
C. net income +
depreciation.
D. profit margin ×
sales.
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Apply
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Profitability ratios
45. Which one of these changes indicates an improvement in a firm's asset management efficiency?
A. An increase in the amount of assets per dollar of
sales
B. An increase in the inventory turnover
rate
C. A decrease in the receivables
turnover rate
D. An increase in the average days in
inventory
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Asset management ratios
46. What is the market price of a share of stock for a firm with 100,000 shares outstanding, a book value of equity of
$3,000,000, and a market-to-book ratio of 3?
A. $1
0
B. $3
0
C. $9
0
D. $10
5
Market price per share = ($3,000,000 / 100,000) × 3 = $90
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Analyze
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-01 Calculate and interpret the market value and market value added of a public corporation.
Topic: Market value ratios
47. Which one of the following may be the best measure of company performance since it accounts for the
opportunity cost of capital?
A. EVA
B. Net
income
C. Increase in
sales
D. Current
ratio
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Profitability ratios
48. Which one of these statements is correct?
A. Market value added measures the difference between the total market value and the total book
value of equity.
B. Net income is also called economic value
added.
C. EVA measures the net profit of a firm after deducting the cost of the assets used in the
production process.
D. EVA considers the cost of long-term debt financing but excludes the cost of equity
financing.
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Market value ratios
49. The board of directors is dissatisfied with last year's ROE of 15%. If the operating profit margin and asset
turnover ratio remain unchanged at 8% and 1.25, respectively, by how much must the leverage ratio (i.e.,
assets/equity) increase to achieve 20% ROE?
A. 0.50
%
B. 5
%
C. 16.67
%
D. 33.33
%
Last year:
ROE = leverage ratio × asset turnover × operating profit margin
0.15 = leverage ratio × 1.25 × 0.08
Leverage ratio = 1.5
This year:
ROE = leverage ratio × asset turnover × operating profit margin
0.20 = leverage ratio × 1.25 × 0.08
Leverage ratio = 2
Percentage increase = (2 - 1.5) / 1.5 = 0.3333, or 33.33%
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Analyze
Difficulty: 3 Hard
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: DuPont identity
50. What must happen to asset turnover to leave ROE unchanged from its original 16% level if the operating profit
margin is reduced from 8% to 6% and the leverage ratio increases from 1.2 to 1.6? Asset turnover must:
A. remain
constant.
B. increase from 1.46 to
2.33.
C. decrease from 1.74 to
1.67.
D. increase from 1.38 to
1.67.
Original:
ROE = leverage ratio × asset turnover × operating profit margin
0.16 = 1.2 × asset turnover × 0.08
Asset turnover = 1.67
New:
0.16 = 1.6 × asset turnover × 0.06
Asset turnover = 1.67
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Analyze
Difficulty: 3 Hard
Gradable: automatic
Learning Objective: 04-04 Show how profitability depends on the efficient use of assets and on profits as a fraction of sales.
Topic: DuPont identity
51. The use of debt in the firm's capital structure will increase ROE if the firm:
A. has more debt than
equity.
B. pays less in taxes than in
interest.
C. earns a higher return than the rate paid on
debt.
D. has a times interest earned ratio greater
than 1.0.
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Profitability ratios
52. To calculate which of these measures do you need to know the cost of capital?
A. ROC
.
B. ROA
.
C. ROE
.
D. EVA.
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Profitability ratios
53. A corporation declares $25 million in net income, $1 million in preferred stock dividends, and $7 million in
common stock dividends. By how much will shareholders' equity increase on the balance sheet?
A. $17
million
B. $18
million
C. $19
million
D. $25
million
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Apply
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Income statement
54. If a firm starts the year with receivables of $80,000 and produces sales for the year of $300,000, what is its
average collection period?
A. 3.75
days.
B. 97.3
days.
C. 52
days.
D. 77.9
days
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Collection Policy
55. A firm's after-tax operating income was $1,000,000 in 2016. It started the year with total capital of $8,000,000 and
raised an additional $1 million of capital during the year. The additional capital raised during 2016 only started to
affect the operating income in 2017. Which value best represents the return on capital for 2016?
A. 12.5
%
B. 11.8
%
C. 11.1
%
D. 10.0
%
ROC = $1,000,000 / $8,000,000 = 0.125, or 12.5%
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Profitability ratios
56. If ROC is less than a firm's cost of capital, which of the following must be true?
A. The firm's EVA is
positive.
B. The firm's EVA is
negative.
C. The firm's ROE is equal to
zero.
D. The firm's ROE is
negative.
AACSB: Communication
Accessibility: Keyboard Navigation
Blooms: Remember
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Profitability ratios
57. When will ROE equal ROC?
A. Whenever the firm has equal debt and equity
financing
B. Whenever the firm has no
debt
C. Whenever the value of the firm's assets exceeds the value of
its equity
D. ROE will never equal
ROC
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 3 Hard
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Profitability ratios
58. If the ratio of total liabilities to total assets is 0.5, long-term liabilities are $3,000, and equity is $5,000, then::
A. you know that current liabilities must be $
2,000.
B. you know that current assets must be
$400.
C. you know that retained earnings must be
$800.
D. you know that preferred stock must be
$400.
Total liabilities / total assets = (long-term liabilities + current liabilities) / (long-term liabilities + current liabilities +
equity)
0.5 = ($3,000 + current liabilities) / ($3,000 + current liabilities + $5,000)
Current liabilities = $2,000
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Analyze
Difficulty: 3 Hard
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Long-term solvency ratios
59. What is the debt ratio for a firm with a debt-equity ratio of 0.5?
A. 35
%
B. 33.3
%
C. 54
%
D. 66.7
%
If debt / equity = 0.5, then debt / (debt + equity) = 0. 5 / 1.5 = 0.333, or 33.3%
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Analyze
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Long-term solvency ratios
60. Which one of the following will increase a firm's times interest earned ratio?
A. An increase in
debt
B. A decrease in cost of goods
sold
C. An increase in interest
expense
D. A decrease in net
income
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Apply
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Long-term solvency ratios
61. Which one of the following would be most detrimental to a firm's current ratio if that ratio is currently 2?
A. Collecting payment on an accounts
receivable
B. Selling marketable securities at
cost
C. Paying off accounts payable with
cash
D. Purchasing inventory on
credit
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Analyze
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Short-term solvency ratios
62. A retail store with zero net working capital has:
A. no cash or marketable
securities.
B. insufficient
inventory.
C. no current
debt.
D. a quick ratio that is less
than 1.
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Short-term solvency ratios
63. A deficiency of the standard measures of liquidity is that the measures:
A. ignore a firm's reserve borrowing
capacity.
B. fail to include accounts receivable as an
asset.
C. give inventories equal weighting in the quick
ratio.
D. do not include the current portions of long-term
debt.
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Short-term solvency ratios
64. A firm has average daily expenses of $2.13 million and average accounts payable of $112.7 million. On average,
how many days does it take the firm to pay its bills?
A. 63.47
days
B. 52.91
days
C. 48.19
days
D. 59.03
days
$112.7m / $2.13m = 52.91 days
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Analyze
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Asset management ratios
65. If a company has a healthy current ratio but a significantly lower quick ratio, then you can assume that:
A. the cost of goods sold represents more than half of
sales.
B. current liabilities exceed current
assets.
C. the firm sells only on a cash
basis.
D. inventory represents a large portion of the firm's current
assets.
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Apply
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Short-term solvency ratios
66. Last year's asset turnover ratio was 2.0. Sales have increased by 25% and total assets have increased by 10%
since that time. What is the current asset turnover ratio?
A. 1.8
2
B. 2.0
5
C. 2.1
5
D. 2.2
7
Asset turnover = sales / total assets = 2
2 × 1.25 / 1.1 = 2.27
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Apply
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Asset management ratios
67. What is the inventory turnover ratio for ABC Corp. if cost of goods sold equals $5,000, current ratio equals 3,
quick ratio equals 1.5, and the firm has $1,800 in current assets?
A. 2.78
times
B. 4.17
times
C. 5.56
times
D. 8.33
times
Current ratio = current assets / current liabilities
3 = $1,800 / current liabilities
Current liabilities = $600
Quick ratio = (current assets − inventory) / current liabilities
1.5 = ($1,800 − inventory) / $600
Inventory = $900
Inventory turnover = cost of goods sold / inventory
Inventory turnover = $5,000 / $900
Inventory turnover = 5.56 times
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Analyze
Difficulty: 3 Hard
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Asset management ratios
68. Assume BDS acquired its main supplier, ABC. As a result of the acquisition, BDS finds that its profit margin
increased but its ROA remained constant. A decrease in which one of these ratios is most apt to be the reason
why the ROA did not increase with the increase in the profit margin?
A. Leverage
ratio
B. Market-to-book
ratio
C. Asset
turnover
D. Debt
burden
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Apply
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: DuPont identity
69. A firm's operating profit margin is 20% with an EBIT of $1.5 million and sales of $5 million. If it has no debt, how
much did the firm pay in taxes?
A. $50,00
0
B. $300,00
0
C. $350,00
0
D. $500,00
0
Without any interest expense, the operating profit margin can be computed as:
Operating profit margin = (EBIT − taxes) / sales
0.20 = ($1,500,000 − taxes) / $5,000,000
Taxes = $500,000
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Analyze
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-04 Show how profitability depends on the efficient use of assets and on profits as a fraction of sales.
Topic: Profitability ratios
70. What is primarily responsible for the potential distortion among the ROA of different firms when net income is
used in the numerator of ROA?
A. Firms have different dividend payout
ratios.
B. Some firms use fully depreciated
assets.
C. Financial leverage varies among
firms.
D. Unprofitable firms will not have any tax
liability.
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Profitability ratios
71. Which one of the following changes will provide an increase in a firm's ROE?
A. A decrease in the profit
margin
B. An increase in the interest
rate
C. An increase in
equity
D. A decrease in the tax
rate
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Profitability ratios
72. An increase in which one of the following will have no effect on the cash coverage ratio?
A. Depreciatio
n
B. Intere
st
C. Sale
s
D. Cost of goods
sold
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Apply
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Long-term solvency ratios
73. What is the book value per share for a firm with 2 million shares outstanding at a price of $50, a market-to-book
ratio of 0.75, and a dividend-payout ratio of 50%?
A. $33.3
3
B. $37.5
0
C. $62.5
0
D. $66.6
7
Market-to-book ratio = stock price / book value per share
0.75 = $50 / book value per share
Book value per share = $66.67
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Analyze
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-01 Calculate and interpret the market value and market value added of a public corporation.
Topic: Market value ratios
74. What is the residual income for a firm that is entirely equity-financed with $1 million in capital, $300,000 in net
income, and a 20% cost of capital?
A. $100,00
0
B. $140,00
0
C. $240,00
0
D. $500,00
0
Residual income = net income − (cost of capital × total capitalization)
Residual income = $300,000 − (0.20 × $1,000,000)
Residual income = $100,000
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Apply
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Profitability ratios
75. By how much must a firm reduce its assets in order to improve ROA from 10% to 12% if the firm's operating profit
margin is 5% on sales of $4 million? Assume that the reduction in assets has no effect on sales or profit margin
A. $240,00
0
B. $333,33
3
C. $400,00
0
D. $516,16
7
ROA = (sales / assets) × operating profit margin
0.10 = ($4,000,000 / assets) × 0.05
Assets = $2,000,000
0.12 = ($4,000,000 / assets) × 0.05
Assets = $1,666,667
Reduction in assets = $2,000,000 − 1,666,667
Reduction in assets = $333,333
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Analyze
Difficulty: 3 Hard
Gradable: automatic
Learning Objective: 04-04 Show how profitability depends on the efficient use of assets and on profits as a fraction of sales.
Topic: Profitability ratios
76. What is the ROE for a firm with a times interest earned ratio of 2, a tax liability of $1 million, and interest expense
of $1.5 million if equity equals $1.5 million?
A. 26.67
%
B. 30.00
%
C. 33.33
%
D. 50.00
%
Times interest earned = EBIT / Interest
2 = EBIT / $1,500,000
EBIT = $3,000,000
Net income = EBIT − interest − taxes
Net income = $3,000,000 − 1,500,000 − 1,000,000
Net income = $500,000
ROE = net income / equity
ROE = $500,000 / $1,500,000
ROE = 0.3333, or 33.33%
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Analyze
Difficulty: 3 Hard
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Profitability ratios
77. Which of the following choices would be guaranteed to increase a firm's ROE if the ROA is currently 10% and the
leverage ratio equals 1?
A. Decrease the leverage
ratio
B. Increase the debt burden from its current
level
C. Decrease assets from the current
level
D. Decrease the debt burden from its current
level
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Apply
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Profitability ratios
78. XYZ Corp. has an operating profit margin of 7%, a debt burden of .8, and has financed two-thirds of its assets
through equity. What asset turnover ratio is necessary to achieve an ROE of 18%?
A. 1.2
6
B. 1.6
1
C. 2.1
4
D. 4.0
2
ROE = leverage ratio × asset turnover × operating profit margin × debt burden
0.18 = (1 / 0.67) × asset turnover × 0.07 × 0.8
Asset turnover = 2.14
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Analyze
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-04 Show how profitability depends on the efficient use of assets and on profits as a fraction of sales.
Topic: DuPont identity
79. The use of financial leverage will be detrimental to a firm's ROE if the:
A. firm currently has no long-term
debt.
B. firm's current ratio is greater
than 1.
C. interest expense exceeds the tax
liability.
D. interest rate on debt exceeds the firm's
ROA.
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Profitability ratios
80. Efficiency ratios:
A. include the quick ratio, asset turnover ratio, and return on
equity.
B. are used to measure how well the company uses its
assets.
C. are used to measure how liquid the
company is.
D. measure the profits generated by a firm's equity and
assets.
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Asset management ratios
81. A total debt ratio of 0.35:
A. indicates that the firm is financed with 35% long-term
debt.
B. would exist if a firm had liabilities of $700 and assets of
$2,000.
C. indicates that 35 cents of every dollar of capital is in the form of short-
term debt.
D. indicates that 35 cents of every dollar of capital is in the form of long-
term debt.
Total debt ratio = total debt / assets = $700 / $2,000 = 0.35
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Apply
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Long-term solvency ratios
82. A company has total assets of $1,000, current liabilities of $130, and total liabilities of $350. If debt is the only
long-term liability, what is the long-term debt ratio?
A. 0.1
9
B. 0.2
5
C. 0.3
6
D. 0.3
1
Equity = assets − liabilities
Equity = $1,000 − 350
Equity = $650
Long-term debt ratio = long-term debt / (long-term debt + equity)
Long-term debt ratio = ($350 − 130) / [($350 − 130) + $650]
Long-term debt ratio = 0.25
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Analyze
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Long-term solvency ratios
83. If the cash coverage ratio exceeds the times interest earned ratio, then the firm has:
A. a positive cash
flow.
B. depreciable
assets.
C. no long-term
debt.
D. short-term
debts.
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Long-term solvency ratios
84. Instead of increasing its long-term debt by borrowing money from a bank to purchase new stereo equipment,
Jay's Jams Inc. decides to lease the equipment on a long-term basis. How will the long-term debt ratio differ if the
lease option is selected over the bank-debt option?
A. The ratio will be lower under the leasing
option.
B. The ratio will be higher under the leasing
option.
C. The ratio will be the same regardless of the financing method
selected.
D. The ratio effects are unknown without the amount of the lease
obligation.
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Apply
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Long-term solvency ratios
85. Which of these assets is generally considered to be the most liquid?
A. Building
s
B. Lan
d
C. Finished goods
inventory
D. Accounts
receivable
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Liquidity
86. High levels of liquidity may indicate:
A. low levels of net working
capital.
B. low profit
margins.
C. high levels of economic value
added.
D. inefficient use of
assets.
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Short-term solvency ratios
87. The current ratio is a good proxy for a firm's:
A. liquidity.
B. efficiency
.
C. degree of
leverage.
D. profitability
.
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Liquidity
88. If a company uses cash to pay off some of its accounts payables, what effect will this have on its liquidity ratios,
given that the ratios exceeded 1 before the payoff?
A. The quick ratio and current ratio will both
increase.
B. The quick ratio and current ratio will both
decrease.
C. The quick ratio will increase but the current ratio will remain
unchanged.
D. The current ratio will increase but the quick ratio will remain
unchanged.
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Apply
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Short-term solvency ratios
89. TSI Inc. has liquid assets of $1,000, enough to finance its operations for 67 days. TSI's average daily
expenditures from operations are:
A. $6.70
.
B. $8.23
.
C. $14.9
3.
D. $22.2
8.
Average daily expenditures = $1,000 / 67 = $14.93
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Apply
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Liquidity
90. An asset turnover ratio of 1.75 can be interpreted as:
A. $1.75 in sales are generated by every $1 of
assets.
B. $1.75 in additional assets are generated by every $1
of sales.
C. $1.75 in assets are used to generate $1 of
sales.
D. $1 in sales are used to generate $1.75 in
assets.
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Asset management ratios
91. Which of these indicates that a firm is efficient?
A. A high average collection
period
B. A high day's sales in
inventories
C. A low asset
turnover
D. A high inventory
turnover
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Asset management ratios
92. Calculate the average collection period for Dots Inc. if its accounts receivables were $550 at the beginning of a
year in which the firm generated $3,000 of sales?
A. 60
days
B. 61
days
C. 67
days
D. 73
days
Average collection period = $550 / ($3,000 / 365) = 67 days
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Analyze
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Asset management ratios
93. Which one of these ratios is commonly referred to as the acid-test ratio?
A. Times interest earned
ratio
B. Quick
ratio
C. Cash coverage
ratio
D. Cash
ratio
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
Blooms: Apply
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Short-term solvency ratios
94. Balsco's balance sheet shows total assets of $238,000 and total liabilities of $107,000. The firm has 55,000
shares of stock outstanding that sell for $11 a share. What is amount of market value added?
A. $389,00
0
B. $474,00
0
C. $1,073,00
0
D. $123,71
2
Market value added = (55,000 × $11) − ($238,000 − 107,000) = $474,000
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Analyze
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-01 Calculate and interpret the market value and market value added of a public corporation.
Topic: Market value ratios
95. What will be Gamma Inc.'s return on equity if total asset turnover is 0.85, operating profit margin is 0.15, two-
thirds of its assets are financed through equity, and debt burden is 0.6?
A. 9.56
%
B. 11.48
%
C. 16.96
%
D. 38.25
%
Leverage ratio = 1 / 0.67
ROE = leverage ratio × asset turnover × operating profit margin × debt burden
ROE = 1.5 × 0.85 × 0.15 × 0.6
ROE = 0.1148, or 11.48%
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Analyze
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: DuPont identity
96. Which of the following is not a problem with EVA?
A. EVA cannot be used to measure the profitability of a private
company
B. EVA cannot be used to compare the effectiveness of managers with different amounts of assets under
their control
C. EVA assumes that the book values of assets are equal to their
current worth
D. EVA assumes that you know the cost of
capital
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 1 Medium
Gradable: automatic
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including economic value added (EVA) and rates of return on
capital, assets, and equity.
Topic: Market value ratios
97. In the past year, TVG had revenues of $3 million, cost of goods sold of $2.5 million, and depreciation expense of
$200,000. The firm has a single issue of debt outstanding with a face value of $1million, market value of $.92
million, and a coupon rate of 8%. What is the firm's times interest earned ratio?
A. 3.7
5
B. 2.9
8
C. 2.8
0
D. 3.4
0
EBIT = revenues − COGS − depreciation
EBIT = $3,000,000 − 2,500,000 − 200,000
EBIT = $300,000
Interest payments = 0.08 × $1,000,000
Interest payments = $80,000
Times interest earned = EBIT / interest payments
Times interest earned = $300,000 / $80,000
Times interest earned = 3.75
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
Blooms: Analyze
Difficulty: 2 Medium
Gradable: automatic
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liquidity.
Topic: Long-term solvency ratios
Chapter 04 Test Bank - Static Summary
Category # of Questions
AACSB: Analytical Thinking 30
AACSB: Communication 10
AACSB: Reflective Thinking 57
Accessibility: Keyboard Navigation 97
Blooms: Analyze 27
Blooms: Apply 19
Blooms: Evaluate 1
Blooms: Remember 9
Blooms: Understand 41
Difficulty: 1 Easy 25
Difficulty: 1 Medium 1
Difficulty: 2 Medium 61
Difficulty: 3 Hard 10
Gradable: automatic 97
Learning Objective: 04-01 Calculate and interpret the market value and market value added of a public c
orporation.
4
Learning Objective: 04-02 Calculate and interpret key measures of financial performance, including econ
omic
value added (EVA) and rates of return on capital, assets, and equity.
31
Learning Objective: 04-03 Calculate and interpret key measures of operating efficiency, leverage, and liq
uidity.
53
Learning Objective: 04-04 Show how profitability depends on the efficient use of assets and on profits
as a fraction of sales.
8
Learning Objective: 04-05 Compare a company's financial standing with its competitors and its own
position in previous years.
1
Topic: Asset management ratios 14
Topic: Collection Policy 1
Topic: Depreciation methods 1
Topic: DuPont identity 7
Topic: Income statement 2
Topic: Liquidity 4
Topic: Long-term solvency ratios 16
Topic: Market value ratios 7
Topic: Net working capital 3
Topic: Profitability ratios 26
Topic: Short-term solvency ratios 16
