ikoreaii

Discretionary cash flow is defined as (net earnings + depreciation + deferred income taxes − noncash revenue items included in net earnings − increase in adjusted noncash working capital − capital expenditures − cash dividends). This definition is equivalent to which of the following?

A) Cash from financing − dividends payable.

B) Cash from investing − cash from operations (CFO).

C) Free operating cash flow − cash dividends.

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CFO = net earnings + depreciation + deferred income taxes − noncash revenue items included in net earnings − increase in adjusted noncash working capital. Hence, discretionary cash flow = CFO − capital expenditures

ikoreaii

Which of the following would indicate a lessened capacity by a corporate bond issuer to pay principal and interest? Relative to the industry average, the issuer’s:

A) interest expense is lower relative to earnings.

B) acid-test ratio is lower.

C) equity is higher relative to its long-term debt.

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The acid-test ratio is the current assets minus inventory divided by the firm’s current liabilities. A lower acid-test ratio would indicate lessened capacity to pay principal and interest. In essence, there is less assets to cover the firm’s current obligations. Higher equity relative to debt indicates greater capacity to pay. Lower interest expense indicates greater capacity to pay.

ikoreaii

Each of the following statements is an integral part of the debt rating process EXCEPT:

A) compare the effects of earnings per share dilution of the firm under analysis to other firm's within the industry with respect to recent equity issuances.

B) calculate the company's solvency, capitalization, and coverage ratios.

C) compare the company's solvency, capitalization, and coverage ratios to the average ratios of other firms in various rating categories.

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In a credit analysis setting, the impact of EPS dilution is not likely to be a major concern.

ikoreaii

Which of the following is NOT a means of determining whether a firm is able to pay its obligations as they come due?

A) Acid-test ratio.

B) Profit margin.

C) Working capital.

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Adequate working capital is important in meeting current liabilities. Two ratios that help assess working capital are the acid-test ratio and the current ratio.

ikoreaii

Which ratio group measures the firm’s ability to manage the additional risk associated with increased borrowing?

A) Coverage ratios.

B) Short-term solvency ratios.

C) Capitalization ratios.

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Capitalization ratios measure the firm’s ability to service its debt. Two of these measurements include the long-term debt to capitalization ratio and the total debt to capitalization ratio. The higher the ratios, the less able the firm is to manage additional debt.

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Which of the following ratios is NOT used to assess the adequacy of cash flows generated through earnings that can be used to meet debt and lease obligations?

A) Earnings before interest and taxes (EBIT) interest coverage ratio.

B) Funds from operations/total debt ratio.

C) Total debt to capitalization ratio.

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The total debt to capitalization ratio measures the firm’s ability to manage the additional risk associated with additional leverage.

ikoreaii

Which ratio group measures the firm's ability to generate enough cash flow through its earnings to meet its debt and lease obligations?

A) Profitability ratios.

B) Coverage ratios.

C) Short-term solvency ratios.

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Coverage ratios test the adequacy of cash flows generated through earnings to meet debt and lease obligations.

ikoreaii

The use of coverage ratios when assessing a firm's ability to repay its debt is most likely to be focused on which of the following?

A) The availability of liquid assets to meet short-term obligations.

B) An examination of the adequacy of cash flows generated through earnings to meet debt obligations.

C) An examination of additional risk associated with increased borrowing.

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Coverage tests examine the adequacy of cash flows generated through earnings to meet debt obligations.

ikoreaii

The office furniture industry is highly cyclical. Which of the following is least likely a limitation of ratio analysis for the office furniture industry?

A) A recession could significantly change the financial condition of the company.

B) Cyclical companies do not have accurate industry comparisons due to the more volatile changes in ratios.

C) Ratio analysis relies on historical information.

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Different standards apply to cyclical companies versus stable companies, but accurate industry comparisons are still possible. The major limitation of ratio analysis is that it is not forward looking because it does not consider factors that can impact future cash flows.

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Traditional financial ratios are useful in providing information regarding the firm’s:

A) competitive position.

B) financial position at a given point in time.

C) future earning prospects.

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Traditional financial ratios provide a snapshot of the firm’s financial condition at a particular point in time. They are not forward looking.