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47.  Bao Company has a cash conversion cycle of 80 days. If the company’s average receivables turnover increases from 11 to 12, the company’s cash conversion cycle: A. decreases by approximately 3 days. B. increases by approximately 3 days C. decreases by approximately 1 days

ans: A. Cash conversion cycle = Days of inventory on hand (DOH) + Days Sales Outstanding (DSO) – payables payment period DSO= ==33.18 =30.42 33.18-30.42=2.76 This means the CCC decreases by 2.76 days.

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46. A firm pays accrued wages with cash. Assuming a current ratio greater than one and a quick ratio that is less than one, what will be the impact on the current ratio and the quick ratio? A. Both ratios will remain the same. B. The current ratio will increase and the quick ratio will decrease. C. The current ratio will decrease and the quick ratio will increase.

Ans: B. Reducing the numerator and denominator by the same amount will increase a ratio that is greater than one and decrease a ratio that is less than one.

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45. Two firms in the same industry show the following ratios for the most recent year after all proper adjustments have been made for dilutive securities and differences in financial reporting standards: EPS CFO per share Company Y $3.50 $2.00 Company Z $2.00 $3.00 Based on this information, the better financial performance of these two firms: A. is Company Y because it has the highest EPS. B. is Company Z because it generated the most CFO per share. C. Cannot be determined because per-share ratios are not comparable.

Ans: C. When stated on a per-share basis, difference companies’ financial data cannot be compared meaningfully because these depend on the number of shares outstanding, which is unrelated to the companies’ operating performance or profitability. A company with a $200 share price should have much higher valuation measures than a company with a $2 share price.

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44. Which of the following is most likely presented on a common-size balance sheet or common-size income statement? A. Total asset turnover. B. Operating profit margin. C. Return on common equity.

Ans: B. Operating profit margin can be read directly from a common-size income statement. Asset turnover and return on equity mix balance sheet and income statement items.

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43. From the extended (5-part) DuPont equation, which of the following components describes the equation EBT/EBIT? A. Tax burden. B. EBIT margin. C. Interest burden.

Ans: C. EBT/WBIT is the interest burden, the second component in the extended DuPont equation. It shows that more leverage does not always lead to higher ROE. As leverage rises, so does the interest burden. The positive effects of leverage can be offset by the higher interest payments that accompany higher levels of debt. A is incorrect. Net income / EBT is called the tax burden and is equal to (1-rax rate). The higher the tax rate, the lower the ROE level. B is incorrect. EBIT/ revenue is called the EBIT margin or operating margin.

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42. Bao, Inc., uses short-term bank debt to buy inventory. Assuming an initial current ratio that is greater than 1, and an initial quick (or acid test) ratio that is less than 1, what is the effect of these transactions on the current ratio and the quick ratio? A. Both ratios will decrease. B. neither ratio will decrease. C. Only one ratio will decrease.

Ans: A. As an example, start with CA=2, CL=1, and Inv =1.2. we begin with a current ratio of 2 and a quick ratio of 0.8. if the firm increases short-term bank debt (a current liability) by 1 to buy inventory (a current asset) of 1, both the numerator and denominator increase by 1, resulting in 3/2=1.5 (new current ratio) and (3-2.2)/2=0.4 (new quick ratio).

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41. Of the following methods of examining the uncertainty of financial outcomes around point estimates, which answers hypothetical questions about the effect of changes in a single variable and which uses assumed probability distributions for key variables? Hypothetical question Probability distributions A. Sensitivity analysis Simulation B. Scenario analysis Simulation C. Scenario analysis Sensitivity analysis

Ans: A. Sensitivity analysis is based on hypothetical (“what if”) questions about a single variable, such as “what if sales decline by 10%?” simulation is a technique in which probability distributions for key variables are assumed and a computer is used to generate a distribution of outcomes based on repeated random selection of values for the key variables. Scenario analysis is based on one or more specific scenarios (a specific set of outcomes for key variables), which include changes in multiple variables.

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40. A junior analyst wants to understand the underlying components of the DuPont method to better see what changes are driving the changes in ROE. Which of the following items is a direct component of the original (three-part) DuPont equation? A. Asset turnover. B. Gross profit margin. C. Debt-to-equity ratio. A. ating theese  leverage to 1.5, but the increased borrowing costs would reduce the ef

Ans: A. The three-part DuPont approach is as follows: net profit margin x asset turnover x leverage ratio where the leverage ratio is assets-to-equity.

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39. Two manufacturing companies operating in the sale industry have different net fixed asset turnover ratios. The difference most likely occurs because the company with the higher ratio: A. had significantly lower amortization expense for the year. B. was operating with older equipment that had a low cost basis. C. recently invested a substantial amount in new plant and equipment.

Ans: B. A company operating with old, low-cost equipment that is likely to be fully depreciated would tend to have a high fixed asset turnover ratio because average total assets are low. Fixed asset turnover=

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38. To gain insight into what portion of the company’s assets is liquid, an analyst will most likely use: A. the cash ratio. B. the current ratio. C. common-size balance sheets.

Ans: C. A common-size balance sheet expresses all balance sheet accounts as a percentage of total assets. Common-size statements normalize balance sheets and allow the analyst to more easily compare performance across firms and for a single firm over time. Also, common-size analysis is appropriate for quickly viewing certain financial ratios. A and B are incorrect. Both cash ratio and current ratio are liquidity ratios that can be employed by analysts to determine the firm’s ability to pay its short-term liabilities. But they cannot help the analysts to gain insight into what portion of the company’s assets is liquid.