FIN 534 QUIZ 2 MULTIPLE CHOICE QUESTIONS

QUESTION

Question

1. Which
of the following statements is CORRECT?
Answer
The
primary difference between EVA and accounting net income is that when net
income is calculated, a deduction is made to account for the cost of common
equity, whereas EVA represents net income before deducting the cost of the
equity capital the firm uses.
MVA
gives us an idea about how much value a firm’s management has added during the
last year.
MVA
stands for market value added, and it is defined as follows:
MVA
= (Shares outstanding)(Stock price) + Book value of common equity.
EVA
stands for economic value added, and it is defined as follows:
EVA
= EBIT(1 – T) – (Investor-supplied op. capital) x (A – T cost of capital).
EVA
gives us an idea about how much value a firm’s management has added over the
firm’s life.
2. Which
of the following statements is CORRECT?
Answer
All
corporations other than non-profit corporations are subject to corporate income
taxes, which are 15% for the lowest amounts of income and 35% for the highest
amounts of income.
The
income of certain small corporations that qualify under the Tax Code is
completely exempt from corporate income taxes. Thus, the federal government
receives no tax revenue from these businesses.
All
businesses, regardless of their legal form of organization, are taxed under the
Business Tax Provisions of the Internal Revenue Code.
Small
businesses that qualify under the Tax Code can elect not to pay corporate
taxes, but then their owners must report their pro rata shares of the firm’s
income as personal income and pay taxes on that income.
Congress
recently changed the tax laws to make dividend income received by individuals
exempt from income taxes. Prior to the enactment of that law, corporate income
was subject to double taxation, where the firm was first taxed on the income
and stockholders were taxed again on the income when it was paid to them as
dividends.
3. Which
of the following statements is CORRECT?
Answer
The
statement of cash flows shows how much the firm’s cash?the total of currency,
bank deposits, and short-term liquid securities (or cash equivalents)?increased
or decreased during a given year.
The
statement of cash flows reflects cash flows from operations, but it does not
reflect the effects of buying or selling fixed assets.
The
statement of cash flows shows where the firm’s cash is located; indeed, it
provides a listing of all banks and brokerage houses where cash is on deposit.
The
statement of cash flows reflects cash flows from continuing operations, but it
does not reflect the effects of changes in working capital.
The
statement of cash flows reflects cash flows from operations and from
borrowings, but it does not reflect cash obtained by selling new common stock.
4. Which
of the following statements is CORRECT?
Answer
If
a company pays more in dividends than it generates in net income, its retained
earnings as reported on the balance sheet will decline from the previous year’s
balance.
Dividends
paid reduce the net income that is reported on a company’s income statement.
If
a company uses some of its bank deposits to buy short-term, highly liquid
marketable securities, this will cause a decline in its current assets as shown
on the balance sheet.
If
a company issues new long-term bonds during the current year, this will
increase its reported current liabilities at the end of the year.
Accounts
receivable are reported as a current liability on the balance sheet.
5. Assume
that Congress recently passed a provision that will enable Barton’s Rare Books
(BRB) to double its depreciation expense for the upcoming year but will have no
effect on its sales revenue or tax rate. Prior to the new provision, BRB’s net
income after taxes was forecasted to be $4 million. Which of the following best
describes the impact of the new provision on BRB’s financial statements versus
the statements without the provision? Assume that the company uses the same
depreciation method for tax and stockholder reporting purposes.
Answer
Net
fixed assets on the balance sheet will decrease.
The
provision will reduce the company’s net cash flow.
The
provision will increase the company’s tax payments.
Net
fixed assets on the balance sheet will increase.
The
provision will increase the company’s net income.
6. DeYoung
Devices Inc., a new high-tech instrumentation firm, is building and equipping a
new manufacturing facility. Assume that currently its equipment must be
depreciated on a straight-line basis over 10 years, but Congress is considering
legislation that would require the firm to depreciate the equipment over 7
years. If the legislation becomes law, which of the following would occur in
the year following the change?
Answer
The
firm’s reported net income would increase.
The
firm’s operating income (EBIT) would increase.
The
firm’s taxable income would increase.
The
firm’s net cash flow would increase.
The
firm’s tax payments would increase.
7. Which
of the following items cannot be found on a firm’s balance sheet under current
liabilities?
Answer
Accrued
payroll taxes.
Accounts
payable.
Short-term
notes payable to the bank.
Accrued
wages.
Cost
of goods sold.
8. Other
things held constant, which of the following actions would increase the amount
of cash on a company’s balance sheet?
Answer
The
company purchases a new piece of equipment.
The
company repurchases common stock.
The
company pays a dividend.
The
company issues new common stock.
The
company gives customers more time to pay their bills.
9. Which
of the following statements is CORRECT?
Answer
The
statement of cash needs tells us how much cash the firm will require during
some future period, generally a month or a year.
The
four most important financial statements provided in the annual report are the
balance sheet, income statement, cash budget, and the statement of
stockholders’ equity.
The
balance sheet gives us a picture of the firm’s financial position at a point in
time.
The
income statement gives us a picture of the firm’s financial position at a point
in time.
The
statement of cash flows tells us how much cash the firm has in the form of
currency and demand deposits.
10.
Which of the following statements is CORRECT?
Answer
The
income statement for a given year, say 2012, is designed to give us an idea of
how much the firm earned during that year.
The
focal point of the income statement is the cash account, because that account
cannot be manipulated by “accounting tricks.”
The
reported income of two otherwise identical firms cannot be manipulated by
different accounting procedures provided the firms follow Generally Accepted
Accounting Principles (GAAP).
The
reported income of two otherwise identical firms must be identical if the firms
are publicly owned, provided they follow procedures that are permitted by the
Securities and Exchange Commission (SEC).
If
a firm follows Generally Accepted Accounting Principles (GAAP), then its
reported net income will be identical to its reported net cash flow.
11.
Danielle’s Sushi Shop last year had (1) a negative net cash flow from
operations, (2) a negative free cash flow, and (3) an increase in cash as
reported on its balance sheet. Which of the following factors could explain
this situation?
Answer
The
company had a sharp increase in its depreciation and amortization expenses.
The
company had a sharp increase in its inventories.
The
company had a sharp increase in its accrued liabilities.
The
company sold a new issue of common stock.
The
company made a large capital investment early in the year
12.
Which of the following factors could explain why Regal Industrial Fixtures had
a negative net cash flow last year, even though the cash on its balance sheet
increased?
Answer
The
company repurchased 20% of its common stock.
The
company sold a new issue of bonds.
The
company made a large investment in new plant and equipment.
The
company paid a large dividend.
The
company had high amortization expenses.
13.
Which of the following statements is CORRECT?
Answer
If
a firm reports a loss on its income statement, then the retained earnings
account as shown on the balance sheet will be negative.
Since
depreciation is a source of funds, the more depreciation a company has, the
larger its retained earnings will be, other things held constant.
A
firm can show a large amount of retained earnings on its balance sheet yet need
to borrow cash to make required payments.
Common
equity includes common stock and retained earnings, less accumulated
depreciation.
The
retained earnings account as shown on the balance sheet shows the amount of
cash that is available for paying dividends.
14.
Which of the following statements is CORRECT?
Answer
A
typical industrial company’s balance sheet lists the firm’s assets that will be
converted to cash first, and then goes on down to list the firm’s longest lived
assets last.
The
balance sheet for a given year, say 2012, is designed to give us an idea of
what happened to the firm during that year.
The
balance sheet for a given year, say 2012, tells us how much money the company
earned during that year.
The
difference between the total assets reported on the balance sheet and the debts
reported on this statement tells us the current market value of the
stockholders’ equity, assuming the statements are prepared in accordance with
generally accepted accounting principles (GAAP).
For
most companies, the market value of the stock equals the book value of the
stock as reported on the balance sheet.
15.
Analysts following Armstrong Products recently noted that the company’s
operating net cash flow increased over the prior year, yet cash as reported on
the balance sheet decreased. Which of the following factors could explain this
situation?
Answer
The
company issued new long-term debt.
The
company cut its dividend.
The
company made a large investment in a profitable new plant.
The
company sold a division and received cash in return.
The
company issued new common stock.
16.
Cordelion Communications is considering issuing new common stock and using the
proceeds to reduce its outstanding debt. The stock issue would have no effect
on total assets, the interest rate Cordelion pays, EBIT, or the tax rate. Which
of the following is likely to occur if the company goes ahead with the stock
issue?
Answer
The
times interest earned ratio will decrease.
The
ROA will decline.
Taxable
income will decrease.
The
tax bill will increase.
Net
income will decrease.
17.
Arshadi Corp.’s sales last year were $52,000, and its total assets were
$22,000. What was its total assets turnover ratio (TATO)?
Answer
2.03
2.13
2.25
2.36
2.48
18.
Which of the following statements is CORRECT?
Answer
All
else equal, increasing the debt ratio will increase the ROA.
The
use of debt financing will tend to lower the basic earning power ratio, other
things held constant.
A
firm that employs financial leverage will have a higher equity multiplier than
an otherwise identical firm that has no debt in its capital structure.
If
two firms have identical sales, interest rates paid, operating costs, and
assets, but differ in the way they are financed, the firm with less debt will
generally have the higher expected ROE.
Holding
bonds is better than holding stock for investors because income from bonds is
taxed on a more favorable basis than income from stock.
19.
A firm wants to strengthen its financial position. Which of the following
actions would increase its current ratio?
Answer
Use
cash to increase inventory holdings.
Reduce
the company’s days’ sales outstanding to the industry average and use the
resulting cash savings to purchase plant and equipment.
Use
cash to repurchase some of the company’s own stock.
Borrow
using short-term debt and use the proceeds to repay debt that has a maturity of
more than one year.
Issue
new stock and then use some of the proceeds to purchase additional inventory
and hold the remainder as cash.
20.
If the CEO of a large, diversified, firm were filling out a fitness report on a
division manager (i.e., “grading” the manager), which of the
following situations would be likely to cause the manager to receive a better
grade? In all cases, assume that other things are held constant.
Answer
The
division’s DSO (days’ sales outstanding) is 40, whereas the average for its
competitors is 30.
The
division’s basic earning power ratio is above the average of other firms in its
industry.
The
division’s total assets turnover ratio is below the average for other firms in
its industry.
The
division’s debt ratio is above the average for other firms in the industry.
The
division’s inventory turnover is 6, whereas the average for its competitors is
8.
21.
Which of the following statements is CORRECT?
Answer
“Window
dressing” is any action that improves a firm’s fundamental, long-run
position and thus increases its intrinsic value.
Borrowing
by using short-term notes payable and then using the proceeds to retire
long-term debt is an example of “window dressing.” Offering discounts
to customers who pay with cash rather than buy on credit and then using the
funds that come in quicker to purchase additional inventories is another
example of “window dressing.”
Borrowing
on a long-term basis and using the proceeds to retire short-term debt would
improve the current ratio and thus could be considered to be an example of
“window dressing.”
Offering
discounts to customers who pay with cash rather than buy on credit and then
using the funds that come in quicker to purchase additional inventories is an
example of “window dressing.”
Using
some of the firm’s cash to reduce long-term debt is an example of “window
dressing.”
22.
You observe that a firm’s ROE is above the industry average, but its profit
margin and debt ratio are both below the industry average. Which of the
following statements is CORRECT?
Answer
Its
total assets turnover must equal the industry average.
Its
total assets turnover must be above the industry average.
Its
return on assets must equal the industry average.
Its
TIE ratio must be below the industry average.
Its
total assets turnover must be below the industry average.
23.
Which of the following would indicate an improvement in a company’s financial
position, holding other things constant?
Answer
The
current and quick ratios both increase.
The
inventory and total assets turnover ratios both decline.
The
debt ratio increases.
The
profit margin declines.
The
EBITDA coverage ratio declines.
24.
A firm’s new president wants to strengthen the company’s financial position.
Which of the following actions would make it financially stronger?
Answer
Increase
inventories while holding sales and cost of goods sold constant.
Increase
accounts receivable while holding sales constant.
Increase
EBIT while holding sales constant.
Increase
accounts payable while holding sales constant.
Increase
notes payable while holding sales constant.
25.
Companies Heidee and Leaudy are virtually identical in that they are both
profitable, and they have the same total assets (TA), Sales (S), return on
assets (ROA), and profit margin (PM). However, Company Heidee has the higher
debt ratio. Which of the following statements is CORRECT?
Answer
Company
Heidee has a lower operating income (EBIT) than Company LD.
Company
Heidee has a lower total assets turnover than Company Leaudy.
Company
Heidee has a lower equity multiplier than Company Leaudy.
Company
Heidee has a higher fixed assets turnover than Company Leaudy.
Company
Heidee has a higher ROE than Company Leaudy.
26.
Which of the following statements is CORRECT?
Answer
If
a firm has the highest price/earnings ratio of any firm in its industry, then,
other things held constant, this suggests that the board of directors should
fire the president.
If
a firm has the highest market/book ratio of any firm in its industry, then,
other things held constant, this suggests that the board of directors should
fire the president.
Other
things held constant, the higher a firm’s expected future growth rate, the
lower its P/E ratio is likely to be.
The
higher the market/book ratio, then, other things held constant, the higher one
would expect to find the Market Value Added (MVA).
If
a firm has a history of high Economic Value Added (EVA) numbers each year, and
if investors expect this situation to continue, then its market/book ratio and
MVA are both likely to be below average.
27.
Which of the following would, generally, indicate an improvement in a company’s
financial position, holding other things constant?
Answer
The
total assets turnover decreases.
The
TIE declines.
The
DSO increases.
The
EBITDA coverage ratio increases.
The
current and quick ratios both decline.
28.
Considered alone, which of the following would increase a company’s current
ratio?
Answer
An
increase in accounts payable.
An
increase in net fixed assets.
An
increase in accrued liabilities.
An
increase in notes payable.
An
increase in accounts receivable.
29.
If a bank loan officer were considering a company’s request for a loan, which
of the following statements would you consider to be CORRECT?
Answer
Other
things held constant, the lower the current ratio, the lower the interest rate
the bank would charge the firm.
The
lower the company’s EBITDA coverage ratio, other things held constant, the
lower the interest rate the bank would charge the firm.
Other
things held constant, the higher the debt ratio, the lower the interest rate
the bank would charge the firm.
Other
things held constant, the lower the debt ratio, the lower the interest rate the
bank would charge the firm.
The
lower the company’s TIE ratio, other things held constant, the lower the
interest rate the bank would charge the firm.
30.
The Cavendish Company recently issued new common stock and used the proceeds to
pay off some of its short-term notes payable. This action had no effect on the
company’s total assets or operating income. Which of the following effects
would occur as a result of this action?
Answer
The
company’s debt ratio increased.
The
company’s current ratio increased.
The
company’s times interest earned ratio decreased.
The
company’s basic earning power ratio increased.
The
company’s equity multiplier increased.

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