Financial Ratios and Review Questions Essay

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Chapter 3
REVIEW QUESTIONS
3-1
Balance Sheet: Provides a snapshot of the firm’s financial position at a specific point in time, presenting its asset holdings, liabilities, and owner-supplied capital
Income Statement: Indicates the amount of profit generated by a firm over a given period of time, often 1 year.
Statement of Cash Flows: A financial statement that shows how changes in balance sheet accounts and income affect cash and cash equivalents, and breaks the analysis down to operating, investing, and financing activities. Essentially, the cash flow statement is concerned with the flow of cash in and out of the business.

3-2
Gross Profits: Sales or revenue minus the cost of goods sold. Part of the operating activity
Operating Profits: Subtract your operating expenses from your gross profits to get your operating profits. This is your earnings before interest and taxes.
Net Income: Does not represent cash flows. Part of the financing activities. Represents income that may be reinvested in the firm or distributed to its owners-provided, the cash is available.

3-3
Dividends: Paid to the firms stockholders. Are not deductible expenses, but rather distributions of income.
Interest Expense: When paid on the firm’s outstanding debt is a tax deductible expense

3-5
The difference between a firm’s current assets and its current liabilities.
3-6
3-7

Chapter 4
REVIEW QUESTIONS
4-1
1. How liquid is the firm-Can it pay its bills?
2. Are the firm’s managers generating adequate operating profits on the company’s assets?
3. How is the firm financing its assets
4. Are the firm’s managers providing a good return on the capital provided by the shareholders’
5. Are the firm’s managers creating shareholder value
4-2
1. Look at the company’s balance sheet and compare the firm’s “liquid” assets (current assets) to its current (short-term) liabilities
2. Examine the quality of a firm’s accounts receivable and inventories in terms of the firm’s ability to convert these assets into cash on a timely basis
4-4
At best, an industry average provides an indication as to the financial position of the average firm within the industry. It does not mean it is the ideal or best value for the ratio. For various reasons, a well-managed company might be above the average, whereas another equally good firm might choose to be below average.
4-5
A function of a business ability to have cash available when need to meet its financial obligations. The rationale for its measurement is to see if we can expect the company to be able to pay creditors on a timely basis
4-7
To explain, if applicable, who a company’s operating returns on assets is lower than other companies.
4-9
The price/earnings ratio indicates how much investors are willing to pay for $1 of reported earnings. The price/book ratio compares the market value of a share of stock to the book value per share of the firm’s reported equity in its balance sheet.
4-11
It is a financial performance measure that attempts to measure a firm’s economic profit, rather than accounting profit, in a given year.
ST-2
A. Liquidity (measure 1)

Current Ratio = 62,000 = 0.90 69,000
Acid-Test Ratio = 500+16,000 = 0.24 69,000
Inventory Turnover 96,000 = 2.11% 45,500
Overall not very liquid
B. Operating Return on Assets
Operating Return on Assets

17,000 = 11.3% 150,000

Operating Profit Margin 17,000 = 10.6% 160,000

Total Asset Turnover 160,000 = 1.07% 150,000

Fixed Asset Turnover

160,000 = 1.82 88,000

C. Financing
Debt Ratio 69,000 = 46% 150,000

Time Interest Earned 17,000 = 2.84 6,100

D. Return on Equity 5,450 = 17.3% 31,500

Chapter 5
REVIEW QUESTIONS

5-1. A dollar received today is more valuable than a dollar received one year from
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