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Chapter 6 Concept Question and Exercises Student

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11 views

Chapter 6 Concept Question and Exercises Student

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Bùi Thị Hồng Thắm
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© © All Rights Reserved
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Concept questions:

1. Financial Ratio Analysis A financial ratio by itself tells us little about a company
because financial ratios vary a great deal across industries. There are two basic methods for
analyzing financial ratios for a company: Time trend analysis and peer group analysis. In
time trend analysis, you find the ratios for the company over some period, say five years, and
examine how each ratio has changed over this period. In peer group analysis, you compare a
company’s financial ratios to those of its peers. Why might each of these analysis methods
be useful? What does each tell you about the company’s financial health?
2. Industry-Specific Ratios So-called “same-store sales” are a very important measure for
companies as diverse as McDonald’s and Sears. As the name suggests, examining same-store
sales means comparing revenues from the same stores or restaurants at two different points in
time. Why might companies focus on same-store sales rather than total sales?
3. Common-Size Financials One tool of financial analysis is common-size financial
statements. Why do you think common-size income statements and balance sheets are used?
Note that the accounting statement of cash flows is not converted into a common-size statement.
Why do you think this is?
4. Comparing ROE and ROA: Both ROA and ROE measure profitability. Which one is more
useful for comparing two companies? Why?
5. Ratio Analysis: Consider the ratio EBITD/Assets. What does this ratio tell us? Why might it
be more useful than ROA in comparing two companies?
6. Return on Investment: A ratio that is becoming more widely used is return on
investment. Return on investment is calculated as net income divided by long-term
liabilities plus equity. What do you think return on investment is intended to measure?
What is the relationship between return on investment and return on assets?

Exercises
1. DuPont Identity If Wilkinson, Inc., has an equity multiplier of 1.35, total asset
turnover of 2.10, and a profit margin of 5.2 percent, what is its ROE?
2. Equity Multiplier and Return on Equity Synovec Company has a debt–equity ratio of .70.
Return on assets is 8.4 percent, and total equity is $840,000. What is the equity multiplier?
Return on equity? Net income?
3. Using the DuPont Identity Y3K, Inc., has sales of $3,100, total assets of $1,340, and a debt–
equity ratio of 1.20. If its return on equity is 15 percent, what is its net income?
4. Return on Equity Firm A and Firm B have debt–total asset ratios of 25 percent and 40
percent and returns on total assets of 8 percent and 7 percent, respectively. Which firm has a
greater return on equity?
5. Ratios and Foreign Companies Prince Albert Canning PLC had a net loss of £26,832 on
sales of £294,813. What was the company’s profit margin? Does the fact that these figures are
quoted in a foreign currency make any difference? Why? In dollars, sales were $372,484. What
was the net loss in dollars?
6. Days’ Sales in Receivables A company has net income of $314,000 a profit margin of 8.9
percent, and an accounts receivable balance of $152,800. Assuming 80 percent of sales are on
credit, what is the company’s days’ sales in receivables?
7. Ratios and Fixed Assets The Whisenhunt Company has a ratio of long-term debt to
long-term debt and equity of .29 and a current ratio of 1.20. Current liabilities are $1,280, sales
are $6,140, profit margin is 8.9 percent, and ROE is 17.6 percent. What is the amount of the
firm’s net fixed assets?
8. Calculating the Cash Coverage Ratio Panda Inc.’s net income for the most recent year was
$9,620. The tax rate was 34 percent. The firm paid $2,380 in total interest expense and
deducted $3,170 in depreciation expense. What was the company’s cash coverage ratio for the
year?
9. Common-Size and Common–Base Year Financial Statements In addition to common- size
financial statements, common–base year financial statements are often used. Common–base
year financial statements are constructed by dividing the current year account value by the
base year account value. Thus, the result shows the growth rate in the account. Using the
following financial statements, construct the common-size balance sheet and common–base
year balance sheet for the company. Use 2014 as the base year.

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