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Herring Corporation has operating income of $225,000 and a 40% tax rate. The firm has short-term debt of $120,000, long-term debt of $330,000, and common equity of $450,000. What is its return on invested capital?


A) 13.75%
B) 14.33%
C) 15.00%
D) 16.25%
E) 17.10%

F) B) and E)
G) D) and E)

Correct Answer

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The price/earnings (P/E) ratio tells us how much investors are willing to pay for a dollar of current earnings. In general, investors regard companies with higher P/E ratios as being less risky and/or more likely to enjoy higher growth in the future.

A) True
B) False

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If a bank loan officer were considering a company's loan request, which of the following statements would you consider to be CORRECT?


A) The lower the company's inventory turnover ratio, other things held constant, the lower the interest rate the bank would charge the firm.
B) Other things held constant, the higher the days sales outstanding ratio, the lower the interest rate the bank would charge.
C) Other things held constant, the lower the total debt to total capital ratio, the lower the interest rate the bank would charge.
D) The lower the company's TIE ratio, other things held constant, the lower the interest rate the bank would charge.
E) Other things held constant, the lower the current ratio, the lower the interest rate the bank would charge the firm.

F) A) and B)
G) D) and E)

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Companies E and P each reported the same earnings per share (EPS) , but Company E's stock trades at a higher price. Which of the following statements is CORRECT?


A) Company E probably has fewer growth opportunities.
B) Company E is probably judged by investors to be riskier.
C) Company E must have a higher market-to-book ratio.
D) Company E must pay a lower dividend.
E) Company E trades at a higher P/E ratio.

F) C) and D)
G) A) and B)

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Han Corp's sales last year were $425,000, and its year-end receivables were $52,500. The firm sells on terms that call for customers to pay 30 days after the purchase, but some 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) 12.94
B) 13.62
C) 14.33
D) 15.09
E) 15.84

F) B) and C)
G) B) and E)

Correct Answer

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Taggart Technologies is considering issuing new common stock and using the proceeds to reduce its outstanding debt. The stock issue would have no effect on total assets, the interest rate Taggart pays, EBIT, or the tax rate. Which of the following is likely to occur if the company goes ahead with the stock issue?


A) The ROA will decline.
B) Taxable income will decline.
C) The tax bill will increase.
D) Net income will decrease.
E) The times-interest-earned ratio will decrease.

F) D) and E)
G) B) and C)

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The times-interest-earned ratio measures the extent to which operating income can decline before the firm is unable to meet its annual interest costs.

A) True
B) False

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Ryngard Corp's sales last year were $38,000, and its total assets were $16,000. What was its total assets turnover ratio (TATO) ?


A) 2.04
B) 2.14
C) 2.26
D) 2.38
E) 2.49

F) A) and E)
G) A) and C)

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Refer to Exhibit 4.1. What is the firm's total debt to total capital ratio?


A) 48.55%
B) 53.95%
C) 59.94%
D) 62.80%
E) 68.11%

F) A) and E)
G) A) and D)

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A firm wants to strengthen its financial position. Which of the following actions would increase its quick ratio?


A) Offer price reductions along with generous credit terms that would (1) enable the firm to sell some of its excess inventory and (2) lead to an increase in accounts receivable.
B) Issue new common stock and use the proceeds to increase inventories.
C) Speed up the collection of receivables and use the cash generated to increase inventories.
D) Use some of its cash to purchase additional inventories.
E) Issue new common stock and use the proceeds to acquire additional fixed assets.

F) A) and D)
G) None of the above

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X-1 Corp's total assets at the end of last year were $405,000 and its EBIT was 52,500. What was its basic earning power (BEP) ratio?


A) 11.70%
B) 12.31%
C) 12.96%
D) 13.61%
E) 14.29%

F) All of the above
G) C) and E)

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Last year Kruse Corp had $305,000 of assets (which is equal to its total invested capital) , $403,000 of sales, $28,250 of net income, and a debt-to-total-capital ratio of 39%. The new CFO believes the firm has excessive fixed assets and inventory that could be sold, enabling it to reduce its total assets and total invested capital to $252,500. The firm finances using only debt and common equity. Sales, costs, and net income would not be affected, and the firm would maintain the same capital structure (but with less total debt) . By how much would the reduction in assets improve the ROE?


A) 2.85%
B) 3.00%
C) 3.16%
D) 3.31%
E) 3.48%

F) A) and B)
G) A) and E)

Correct Answer

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Which of the following statements is CORRECT?


A) Suppose a firm's total assets turnover ratio falls from 1.0 to 0.9, but at the same time its profit margin rises from 9% to 10%, and its debt increases from 40% of total assets to 60%. The firm finances using only debt and common equity and total assets equal total invested capital. Under these conditions, the ROE will increase.
B) Suppose a firm's total assets turnover ratio falls from 1.0 to 0.9, but at the same time its profit margin rises from 9% to 10% and its debt increases from 40% of total assets to 60%. The firm finances using only debt and common equity and total assets equal total invested capital. Without additional information, we cannot tell what will happen to the ROE.
C) The DuPont equation provides information about how operations affect the ROE, but the equation does not include the effects of debt on the ROE.
D) Other things held constant, an increase in the total debt to total capital ratio will result in an increase in the profit margin.
E) Suppose a firm's total assets turnover ratio falls from 1.0 to 0.9, but at the same time its profit margin rises from 9% to 10%, and its debt increases from 40% of total assets to 60%. The firm finances using only debt and common equity and total assets equal total invested capital. Under these conditions, the ROE will decrease.

F) B) and E)
G) A) and B)

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Which of the following statements is CORRECT?


A) In general, if investors regard a company as being relatively risky and/or having relatively poor growth prospects, then it will have relatively high P/E and M/B ratios.
B) The basic earning power ratio (BEP) reflects the earning power of a firm's assets after giving consideration to financial leverage and tax effects.
C) The "apparent," but not necessarily the "true," financial position of a company whose sales are seasonal can change dramatically during a given year, depending on the time of year when the financial statements are constructed.
D) The market/book (M/B) ratio tells us how much investors are willing to pay for a dollar of accounting book value. In general, investors regard companies with higher M/B ratios as being more risky and/or less likely to enjoy higher future growth.
E) It is appropriate to use the fixed assets turnover ratio to appraise firms' effectiveness in managing their fixed assets if and only if all the firms being compared have the same proportion of fixed assets to total assets.

F) A) and D)
G) B) and E)

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


A) The inventory and total assets turnover ratios both decline.
B) The total debt to total capital ratio increases.
C) The profit margin declines.
D) The times-interest-earned ratio declines.
E) The current and quick ratios both increase.

F) A) and D)
G) A) and B)

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Brookman Inc's latest EPS was $2.75, its book value per share was $22.75, it had 315,000 shares outstanding, and its debt/total invested capital ratio was 44%. The firm finances using only debt and common equity and its total assets equal total invested capital. How much debt was outstanding?


A) $4,586,179
B) $4,827,557
C) $5,081,639
D) $5,349,094
E) $5,630,625

F) B) and E)
G) A) and B)

Correct Answer

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Which of the following statements is CORRECT?


A) Other things held constant, the more debt a firm uses, the higher its operating margin will be.
B) 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.
C) Other things held constant, the more debt a firm uses, the higher its profit margin will be.
D) Other things held constant, the higher a firm's total debt to total capital ratio, the higher its TIE ratio will be.
E) Debt management ratios show the extent to which a firm's managers are attempting to reduce risk through the use of financial leverage. The higher the total debt to total capital ratio, the lower the risk.

F) A) and E)
G) B) and E)

Correct Answer

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A firm's ROE is equal to 9% and its ROA is equal to 6%. The firm finances only with short-term debt, long-term debt, and common equity, so assets equal total invested capital. The firm's total debt to total capital ratio must be 50%.

A) True
B) False

Correct Answer

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Which of the following statements is CORRECT?


A) A decline in a firm's inventory turnover ratio suggests that it is improving both its inventory management and its liquidity position, i.e., that it is becoming more liquid.
B) In general, it's better to have a low inventory turnover ratio than a high one, as a low one indicates that the firm has an adequate stock of inventory relative to sales and thus will not lose sales as a result of running out of stock.
C) If a firm's fixed assets turnover ratio is significantly lower than its industry average, this could indicate that it uses its fixed assets very efficiently or is operating at over capacity and should probably add fixed assets.
D) The more conservative a firm's management is, the higher its total debt to total capital ratio is likely to be.
E) The days sales outstanding ratio tells us how long it takes, on average, to collect after a sale is made. The DSO can be compared with the firm's credit terms to get an idea of whether customers are paying on time.

F) B) and E)
G) B) and C)

Correct Answer

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Refer to Exhibit 4.1. What is the firm's book value per share?


A) $22.29
B) $23.47
C) $24.70
D) $26.00
E) $27.30

F) C) and D)
G) All of the above

Correct Answer

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