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1. Which of the following
statements is CORRECT?
a. The ratio of long-term debt to
total capital is more likely to experience seasonal fluctuations than is either
the DSO or the inventory turnover ratio.
b. If two firms have the same
ROA, the firm with the most debt can be expected to have the lower ROE.
c. An increase in the DSO, other
things held constant, could be expected to increase the total assets turnover
ratio.
d. An increase in the DSO, other
things held constant, could be expected to increase the ROE.
e. An increase in a firm’s debt
ratio, with no changes in its sales or operating costs, could be expected to
lower the profit margin.
2. Companies HD and LD have the
same tax rate, sales, total assets, and basic earning power. Both companies
have positive net incomes. Company HD has a higher debt ratio and, therefore, a
higher interest expense. Which of the following statements is CORRECT?
a. Company HD has a lower equity
multiplier.
b. Company HD has more net
income.
c. Company HD pays more in taxes.
d. Company HD has a lower ROE.
e. Company HD has a lower times
interest earned (TIE) ratio.
3. Companies HD and LD have the
same total assets, sales, operating costs, and tax rates, and they pay the same
interest rate on their debt. However, company HD has a higher debt ratio. Which
of the following statements is CORRECT?
a. Given this information, LD
must have the higher ROE.
b. Company LD has a higher basic
earning power ratio (BEP).
c. Company HD has a higher basic
earning power ratio (BEP).
d. If the interest rate the
companies pay on their debt is more than their basic earning power (BEP), then
Company HD will have the higher ROE.
e. If the interest rate the
companies pay on their debt is less than their basic earning power (BEP), then
Company HD will have the higher ROE.
4. Muscarella Inc. has the
following balance sheet and income statement data:
Cash $ 14,000 Accounts payable $
42,000
Receivables 70,000 Other current
liabilities 28,000
Inventories 210,000 Total CL $
70,000
Total CA $294,000 Long-term debt
70,000
Net fixed assets 126,000 Common
equity 280,000
Total assets $420,000 Total liab.
and equity $420,000
Sales $280,000
Net income $ 21,000
The new CFO thinks that
inventories are excessive and could be lowered sufficiently to cause the
current ratio to equal the industry average, 2.70, without affecting either
sales or net income. Assuming that inventories are sold off and not replaced to
get the current ratio to the target level, and that the funds generated are
used to buy back common stock at book value, by how much would the ROE change?
a. 4.28%
b. 4.50%
c. 4.73%
d. 4.96%
e. 5.21%
5. Quigley Inc. is considering
two financial plans for the coming year. Management expects sales to be
$301,770, operating costs to be $266,545, assets to be $200,000, and its tax
rate to be 35%. Under Plan A it would use 25% debt and 75% common equity. The
interest rate on the debt would be 8.8%, but the TIE ratio would have to be
kept at 4.00 or more. Under Plan B the maximum debt that met the TIE constraint
would be employed. Assuming that sales, operating costs, assets, the interest
rate, and the tax rate would all remain constant, by how much would the ROE
change in response to the change in the capital structure?
a. 3.83%
b. 4.02%
c. 4.22%
d. 4.43%
e. 4.65%
What do you think about FIN 534?
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