Chapter 3: Analysis of Financial Statements
1. Financial statement analysis is useful to:
a. help anticipate future conditions
Incorrect. Financial statement analysis is useful to help anticipate future conditions, and as a starting point
for planning actions that will improve the firm’s future performance.
b. as a starting point for planning actions that will improve the firm’s future performance
Incorrect. Financial statement analysis is useful to help anticipate future conditions, and as a starting point
for planning actions that will improve the firm’s future performance.
c. both a and b are true
Correct. Financial statement analysis is useful to help anticipate future conditions, and as a starting point
for planning actions that will improve the firm’s future performance.
d. neither a nor b are true
Incorrect. Financial statement analysis is useful to help anticipate future conditions, and as a starting point
for planning actions that will improve the firm’s future performance.
2. Liquidity ratios:
a. measure the amount of debt the firm uses.
Incorrect. Liquidity ratios show the relationship of a firm’s cash and other current assets to its current
liabilities. Debt management ratios measure the amount of debt the firm uses.
b. measure how effectively a firm is managing its assets.
Incorrect. Liquidity ratios show the relationship of a firm’s cash and other current assets to its current
liabilities. Asset management ratios measure how effectively a firm is managing its assets.
c. show the relationship of a firm’s cash and other current assets to its current liabilities.
Correct. Liquidity ratios show relationship of a firm’s cash and other current assets to its current liabilities.
d. show the combined effects of all areas of the firm on operating results.
Incorrect. Liquidity ratios show the relationship of a firm’s cash and other current assets to its current
liabilities. Profitability ratios show the combined effects of liquidity, asset management, and debt on
operating results
3. Asset management ratios:
a. measure the amount of debt the firm uses.
Incorrect. Asset management ratios measure how effectively a firm is managing its assets. Debt
management ratios measure the amount of debt the firm uses.
b. measure how effectively a firm is managing its assets.
Correct. Asset management ratios measure how effectively a firm is managing its assets.
c. show the relationship of a firm’s cash and other current assets to its current liabilities.
Incorrect. Asset management ratios measure how effectively a firm is managing its assets. Liquidity ratios
show the relationship of a firm’s cash and other current assets to its current liabilities.
d. show the combined effects of all areas of the firm on operating results.
Incorrect. Asset management ratios measure how effectively a firm is managing its assets. Profitability
ratios show the combined effects of liquidity, asset management, and debt on operating results
4. Debt management ratios:
a. measure the amount of debt the firm uses.
Correct. Debt management ratios measure the amount of debt the firm uses.
b. measure how effectively a firm is managing its assets.
Incorrect. Debt management ratios measure the amount of debt the firm uses.
c. show the relationship of a firm’s cash and other current assets to its current liabilities.
Incorrect. Debt management ratios measure the amount of debt the firm uses.
d. show the combined effects of all areas of the firm on operating results.
Incorrect. Debt management ratios measure the amount of debt the firm uses.
5. Profitability ratios:
a. measure the amount of debt the firm uses.
Incorrect. Profitability ratios show the combined effects of liquidity, asset management, and debt on
operating results. Debt management ratios measure the amount of debt the firm uses.
b. measure how effectively a firm is managing its assets.
Incorrect. Profitability ratios show the combined effects of liquidity, asset management, and debt on
operating results. Asset management ratios measure how effectively a firm is managing its assets.
c. show the relationship of a firm’s cash and other current assets to its current liabilities.
Incorrect. Profitability ratios show the combined effects of liquidity, asset management, and debt on
operating results. Liquidity ratios show the relationship of a firm’s cash and other current assets to its
current liabilities.
d. show the combined effects of all areas of the firm on operating results.
Correct. Profitability ratios show the combined effects of liquidity, asset management, and debt on
operating results.
6. All else being equal, which of the following will increase a company’s current ratio?
a. an increase in accounts receivable
Correct. Increasing current assets increases the current ratio.
b. an increase in accounts payable
Incorrect. Increasing current liabilities decreases the current ratio.
c. an increase in net fixed assets
Incorrect. Net fixed assets are not considered in the current ratio.
d. a and b are correct
Incorrect. Increasing current assets increases current ratio, but increasing current liabilities decreases
current ratio.
e. all of the above statements are correct
Incorrect. Increasing current assets increases the current ratio. Increasing current liabilities decreases the
current ratio. Net fixed assets are not considered in the current ratio.
7. Other things held constant, which of the following will not affect the quick ratio? (Assume that current
assets equal current liabilities and inventory has a positive balance.)
a. fixed assets are sold for cash
Incorrect. An increase in cash results in an increased quick ratio.
b. cash is used to purchase inventories
Incorrect. Inventories are not considered in the quick ratio. This means that when the cash account falls,
so does the quick ratio.
c. accounts receivable are collected
Correct. The accounts receivable when collected become cash. You have not changed the numerator of
the quick ratio since it is the total of the current assets minus inventories.
d. long-term debt is issued to pay off a short-term loan
Incorrect. The current liabilities go down which results in the quick ratio going up.
8. Turnover ratios (such as inventory turnover, fixed assets turnover, and total assets turnover) focus
primarily on how effectively the firm uses its assets to generate revenue.
a. True
Correct. Turnover ratios focus on how effectively a firm manages its assets with primary focus on
revenue generation (sales).
b. False
Incorrect. Turnover ratios focus on how effectively a firm manages its assets with primary focus on
revenue generation (sales).
9. Days sales outstanding:
a. measures how much in sales a firm generates relative to its inventory
Incorrect. Days sales outstanding measures how quickly a firm converts credit sales into cash.
b. measures how much in net income a firm generates relative to its total assets
Incorrect. Days sales outstanding measures how quickly a firm converts credit sales into cash.
c. measures how quickly a firm converts credit sales into cash
Correct. Days sales outstanding measures how quickly a firm converts credit sales into cash.
10. Which of the following are limitations of the times interest earned ratio?
a. it does not consider interest payments
Incorrect. Times interest earned considers interest payments.
b. it does not consider fixed financial payments other than interest
Incorrect. This is one limitation, but it also uses earnings before interest and taxes which does not
represent all of the cash flow available to service debt.
c. it uses earnings before interest and taxes which does not represent all of the cash flow available to
service debt
Incorrect. This is one limitation, but it also does not consider fixed financial payments other than interest.
d. all of the above are correct
Incorrect. Times interest earned considers interest payments. It does not consider fixed financial
payments other than interest and it also uses earnings before interest and taxes which does not represent
all of the cash flow available to service debt.
e. b and c are correct
You are correct. Times interest earned considers interest payments. It does not consider fixed financial
payments other than interest and it also uses earnings before interest and taxes which does not represent
all of the cash flow available to service debt.
11. Basic earning power:
a. measures the rate of return on the stockholders’ investment.
Incorrect. Basic earning power shows the raw earnings power of the firm’s assets before the influence of
taxes and leverage.
b. measures the return on the firm’s assets after interest and taxes.
Incorrect. Basic earning power shows the raw earnings power of the firm’s assets before the influence of
taxes and leverage.
c. shows the raw earnings power of the firm’s assets before the influence of taxes and leverage.
Correct. Basic earning power shows the raw earnings power of the firm’s assets before the influence of
taxes and leverage.
d. none of the above are correct
Incorrect. Basic earning power shows the raw earnings power of the firm’s assets before the influence of
taxes and leverage.
12. If sales, assets, and common equity remain constant, but the profit margin on sales goes up, which of
the following should also be true?
a. the return on common equity will go down
Incorrect. If sales do not change but the profit margin on sales goes up, it means that net income has risen.
Higher net income with the same level of common equity will result in a higher return on common equity.
b. the return on total assets will go up
Correct. If sales do not change but the profit margin on sales goes up, it means that net income has risen.
Higher net income with the same level of total assets will result in a higher return on total assets.
c. the firms’ current ratio will fall
Incorrect. No clear effect on the current ratio can be determined with the given information. We only
know that if sales do not change, but the profit margin on sales goes up, net income has risen.
d. a and b are correct
Incorrect. If sales do not change but the profit margin on sales goes up, it means that net income has risen.
Higher net income with the same level of total assets and common equity will result in a higher return on
total assets and a higher return on common equity.
13. P/E ratios are reflections of:
a. the firm’s growth prospects
Incorrect. P/E ratios are reflections of both the firm’s growth prospects and its risk. Stronger growth
prospects lead to higher P/E ratios, while greater risk leads to lower P/E ratios.
b. the firm’s risk
Incorrect. P/E ratios are reflections of both the firm’s growth prospects and its risk. Stronger growth
prospects lead to higher P/E ratios, while greater risk leads to lower P/E ratios.
c. both a and b
Correct. P/E ratios are reflections of both the firm’s growth prospects and its risk. Stronger growth
prospects lead to higher P/E ratios, while greater risk leads to lower P/E ratios.
d. neither a nor b
Incorrect. P/E ratios are reflections of both the firm’s growth prospects and its risk. Stronger growth
prospects lead to higher P/E ratios, while greater risk leads to lower P/E ratios.
14. Market value ratios:
a. measure the amount of debt the firm uses.
Incorrect. Market value ratios include the stock price that reflects the value investors place on the
company. Debt management ratios measure the amount of debt the firm uses.
b. measure how effectively a firm is managing its assets.
Incorrect. Market value ratios include the stock price that reflects the value investors place on the
company. Asset management ratios measure how effectively a firm is managing its assets.
c. show the relationship of a firm’s cash and other current assets to its current liabilities.
Incorrect. Market value ratios include the stock price that reflects the value investors place on the
company. Liquidity ratios show the relationship of a firm’s cash and other current assets to its current
liabilities.
d. show the combined effects of all areas of the firm on operating results.
Incorrect. Market value ratios include the stock price that reflects the value investors place on the
company. Profitability ratios show the combined effects of liquidity, asset management, and debt on
operating results.
e. give an indication of what investors think of the firm’s performance and future prospects.
Correct. Market value ratios include the stock price that reflects the value investors place on the company.
15. The examination of ratios over time is called:
a. cash flow estimation
Incorrect. The examination of ratios over time is called trend analysis.
b. trend analysis
Correct. The examination of ratios over time is called trend analysis.
c. capital expenditure
Incorrect. The examination of ratios over time is called trend analysis.
d. flotation cost
Incorrect.
16. A modified Du Pont chart shows how return on equity is affected by:
a. profit margin on sales
Incorrect. A modified Du Pont chart shows how return on equity is affected by profit margin on sales,
total assets turnover, and leverage.
b. total assets turnover
Incorrect. A modified Du Pont chart shows how return on equity is affected by profit margin on sales,
total assets turnover, and leverage.
c. leverage
Incorrect. A modified Du Pont chart shows how return on equity is affected by profit margin on sales,
total assets turnover, and leverage.
d. all of the above
Correct. A modified Du Pont chart shows how return on equity is affected by profit margin on sales, total
assets turnover, and leverage.
e. none of the above
Incorrect. A modified Du Pont chart shows how return on equity is affected by profit margin on sales,
total assets turnover, and leverage.
17. Wetsdale Financial Company and Commerce Financial Company have the same total assets, the same
total assets turnover, and the same return on equity. However, Wetsdale has a higher return on assets than
Commerce. Which of the following can explain these ratios?
a. Wetsdale has a higher profit margin and a higher debt ratio than Commerce.
Incorrect. Higher profit margin could explain the higher return on assets, but a higher debt ratio would
result in a higher equity multiplier and thus a higher return on equity.
b. Wetsdale has a lower profit margin and a lower debt ratio than Commerce.
Incorrect. A lower debt ratio would result in a lower equity multiplier and thus lower the return on equity
(which could explain why Wetsdale’s return on assets is higher, but its return on common equity is the
same). However, a lower profit margin would result in a lower return on assets.
c. Wetsdale has a higher profit margin and a lower debt ratio than Commerce.
Correct. A higher profit margin could explain the higher return on assets, while a lower debt ratio would
result in a lower equity multiplier and thus lower the return on equity (which could explain the firm’s
return on assets is higher but its return on common equity is the same).
d. Wetsdale has lower net income but more common equity than Commerce.
Incorrect. We are told that Wetsdale has the same total assets turnover ratio and the same total assets, so it
must have the same sales as Commerce. If Wetsdale had lower net income than Commerce then its net
profit margin would be lower and its return on assets would be lower (using Du Pont equation).
18. Which of the following is most correct:
a. A firm with financial leverage has a larger equity multiplier than an otherwise identical firm with no
debt in its capital structure.
Correct. Increasing leverage (increasing the debt ratio) results in a large equity multiplier since it makes
the denominator in the equity multiplier smaller.
b. The use of debt in a company’s capital structure results in tax benefits to the investors who purchase the
company’s bonds.
Incorrect. The tax deductibility of interest is a benefit for the company, not the bondholders.
c. All else equal, a firm with a higher debt ratio will have a lower basic earning power ratio.
Incorrect. The basic earning power ratio includes earnings before interest and taxes, so it is not affected
by changing leverage and interest charges.
d. All of the statements above are correct.
Incorrect. Increasing leverage (increasing the debt ratio) results in a large equity multiplier since it makes
the denominator in the equity multiplier smaller. However, the tax deductibility of interest is a benefit for
the company, not the bondholders, and the basic earning power ratio includes earnings before interest and
taxes (so it is not affected by changing leverage and interest charges).
e. Statements a and c are correct.
Incorrect. Increasing leverage (increasing the debt ratio) results in a large equity multiplier since it makes
the denominator in the equity multiplier smaller. However, the basic earning power ratio includes
earnings before interest and taxes (so it is not affected by changing leverage and interest charges).
19. When using ratio analysis you are most likely to compare your company’s ratios with:
a. those of companies in other countries.
Incorrect. You are most likely to compare your ratios with those of companies in the same industry.
b. those of companies in different industries.
Incorrect. You are most likely to compare your ratios with those of companies in the same industry.
c. those of companies in similar industries.
Correct. You are most likely to compare your ratios with those of companies in the same industry.
20. Which of the following statements is most correct?
a. Many large firms operate different divisions in different industries, and this makes it hard to develop a
meaningful set of industry benchmarks for these types of firms.
Incorrect. This is one limitation, but so are all of the others that are listed.
b. Financial ratios should be interpreted with caution because seasonal and accounting differences can
reduce the comparability of ratios.
Incorrect. This is one limitation, but so are all of the others that are listed.
c. Financial ratios should be interpreted with caution because it may be difficult to say with certainty what
is a “good” value. For example, in the case of the current ratio, a “good” value is neither high nor low.
Incorrect. This is one limitation, but so are all of the others that are listed.
d. Ratio analysis facilitates comparisons by standardizing numbers.
Incorrect. This is one limitation, but so are all of the others that are listed.
e. All of the statements above are correct.
Correct. All of the listed statements are limitations of financial statement analysis.
21. Which of the following is most correct?
a. A large current ratio (relative to competitors) is “good” from the standpoint of liquidity, and would
likely increase profitability.
Incorrect. A large current ratio suggests that the firm is more liquid, however it may also indicate that
you are holding too many short-term (non-earning) assets which could damage profitability.
b. A large current ratio (relative to competitors) is “good” from the standpoint of liquidity, but could
damage profitability.
Correct. A large current ratio suggests that the firm is more liquid, however it may also indicate that you
are holding too many short-term (non-earning) assets which could damage profitability.
c. A small current ratio (relative to competitors) is “good” from the standpoint of liquidity, but could
damage profitability.
Incorrect. A small current ratio suggests that the firm is less liquid. However, it may indicate that you are
holding relatively few short-term (non-earning) assets which could help profitability.
22. Increasing a firm’s return on common equity will definitely increase the stockholders’ wealth.
a. True
Incorrect. ROE fails to consider risk and the amount (size) of invested capital. A project’s return, risk,
and size combine to determine its affect on stockholder value.
b. False
Correct. ROE fails to consider risk and the amount (size) of invested capital. A project’s return, risk, and
size combine to determine its affect on stockholder value.
23. Which of following are key qualitative factors that should be considered when evaluating a company?
a. to what extent is company performance tied to a key customer, a key product, or a single supplier
Incorrect. Key qualitative factors that should be considered when evaluating a company include: (1) to
what extent is company performance tied to a key customer, a key product, or a single supplier, (2) what
percentage of the company’s business is generated overseas, (3) what is the company competition and
legal and regulatory environments, and (4) what are the company’s future prospects.
b. what percentage of the company’s business is generated overseas
Incorrect. Key qualitative factors that should be considered when evaluating a company include: (1) to
what extent is company performance tied to a key customer, a key product, or a single supplier, (2) what
percentage of the company’s business is generated overseas, (3) what is the company competition and
legal and regulatory environments, and (4) what are the company’s future prospects.
c. what is the company competition and legal and regulatory environments
Incorrect. Key qualitative factors that should be considered when evaluating a company include: (1) to
what extent is company performance tied to a key customer, a key product, or a single supplier, (2) what
percentage of the company’s business is generated overseas, (3) what is the company competition and
legal and regulatory environments, and (4) what are the company’s future prospects.
d. what are the company’s future prospects
Incorrect. Key qualitative factors that should be considered when evaluating a company include: (1) to
what extent is company performance tied to a key customer, a key product, or a single supplier, (2) what
percentage of the company’s business is generated overseas, (3) what is the company competition and
legal and regulatory environments, and (4) what are the company’s future prospects.
e. all of the above are important qualitative factors
Correct. Key qualitative factors that should be considered when evaluating a company include: (1) to what
extent is company performance tied to a key customer, a key product, or a single supplier, (2) what
percentage of the company’s business is generated overseas, (3) what is the company competition and
legal and regulatory environments, and (4) what are the company’s future prospects.
24. TCBW last year had an average collection period (days sales outstanding) of 34 days based on
accounts receivable of $490,000. All of the firm's sales are made on credit. The firm expects sales this
year to be the same as last year. However, the company has begun a new credit policy that should lower
the average collection period to 28 days. If the new average collection period is attained, what will the
firm's accounts receivable balance equal?
a. $538,608
Incorrect. Are you guessing? Hint: Calculate last year’s sales amount using the ACP formula. Next, again
use the ACP formula and enter the new expected average collection period (28 days), last year’s sales
(since they remain the same), and calculate the new receivables balance.
b. $490,000
Incorrect. If sales stay the same but the average collection period changes, there must be a change in
receivables. Hint: Calculate last year’s sales amount using the ACP formula. Next, again use the ACP
formula and enter the new expected average collection period (28 days), last year’s sales (since they
remain the same), and calculate the new receivables balance.
c. $371,651
Incorrect. Are you guessing? Hint: Calculate last year’s sales amount using the ACP formula. Next, again
use the ACP formula and enter the new expected average collection period (28 days), last year’s sales
(since they remain the same), and calculate the new receivables balance.
d. $459,735
Incorrect. Are you guessing? Hint: Calculate last year’s sales amount using the ACP formula. Next, again
use the ACP formula and enter the new expected average collection period (28 days), last year’s sales
(since they remain the same), and calculate the new receivables balance.
e. $403,529
Correct. You calculate last year’s sales amount using the ACP formula. Next, you again use the ACP
formula and enter the new expected average collection period (28 days), last year’s sales (since they
remain the same), and calculate the new receivables balance.
25. The RRR Company has a target current ratio of 2.5. Presently, the current ratio is 3.4 based on current
assets of $6,902,000. If RRR expands its inventory using short-term liabilities (maturities less than one
year), how much additional funding can it obtain before its target current ratio is reached?
a. $1,218,000
Correct. First, calculate the current liabilities based on present information. Now, determine the amount
that must be added to both current assets and current liabilities to make the current ratio equal the target
value (let the additional amount be your variable).
b. $730,800
Incorrect. Do not forget that both current assets and current liabilities are going up. Hint: First, calculate
the current liabilities based on present information. Now, determine the amount that must be added to
both current assets and current liabilities to make the current ratio equal the target value (let the additional
amount be your variable).
c. $936,886 Incorrect.
d. $1,282,554 Incorrect.
e. $1,369,397 Incorrect.
26. AAA's inventory turnover ratio is 11.09 based on sales of $15,200,000. The firm's current ratio equals
3.22 with current liabilities equal to $970,000. What is the firm's quick ratio?
a. 1.81
Correct. Use the inventory turnover ratio to solve for inventory. Use the current ratio to solve for current
assets. Now solve for the quick ratio.
b. 3.22
Incorrect.
c. 2.63
Incorrect.
d. 1.02
Incorrect.
e. 3.97
Incorrect.
27. U KNO, Inc. uses only debt and common equity funds to finance its assets. This past year the firm's
return on total assets was 13%. The firm financed 42% percent of its assets using debt. What was the
firm's return on common equity?
a. 30.95%
Incorrect. To get the equity multiplier, we need to divide total assets by common equity (not total debt).
Hint: The equity multiplier equals total assets divided by common equity. We know total assets equal debt
plus common equity. Therefore, the equity multiplier equals 100% divided by (100% - 42%). 100%
represents total assets. We know 58% of total assets are financed with equity since 42% are financed with
debt. Return on equity equals the return on assets times the equity multiplier.
b. 22.41%
Correct. The equity multiplier equals total assets divided by common equity. We know total assets equal
debt plus common equity. Therefore, the equity multiplier equals 100% divided by (100% - 42%). 100%
represents total assets. We know 58% of total assets are financed with equity since 42% are financed with
debt. Return on equity equals the return on assets times the equity multiplier.
c. 27.16%
Incorrect. Are you guessing? Hint: The equity multiplier equals total assets divided by common equity.
We know total assets equal debt plus common equity. Therefore, the equity multiplier equals 100%
divided by (100% - 42%). 100% represents total assets. We know 58% of total assets are financed with
equity since 42% are financed with debt. Return on equity equals return on assets times equity multiplier.
d. 33.96%
Incorrect. Are you guessing? Hint: The equity multiplier equals total assets divided by common equity.
We know total assets equal debt plus common equity. Therefore, the equity multiplier equals 100%
divided by (100% - 42%). 100% represents total assets. We know 58% of total assets are financed with
equity since 42% are financed with debt. Return on equity equals return on assets times equity multiplier.
e. 20.11%
Incorrect. Are you guessing? Hint: The equity multiplier equals total assets divided by common equity.
We know total assets equal debt plus common equity. Therefore, the equity multiplier equals 100%
divided by (100% - 42%). 100% represents total assets. We know 58% of total assets are financed with
equity since 42% are financed with debt. Return on equity equals return on assets times equity multiplier.
28. Last year YYY Company had a 9.00% net profit margin based on $22,000,000 in sales and
$15,000,000 of total assets. During the coming year, the president has set a goal of attaining a 14% return
on total assets. How much must firm sales equal, other things being the same, for the goal to be achieved?
a. $23,333,333
Correct. Use the return on assets formula (ROA = (NI)/(TA)) to calculate the net income needed to
generate a 14% return on assets. Use the needed net income value in the profit margin formula to
calculate the needed sales.
b. $22,000,000
Incorrect. The return on total assets goal is now 14%. The $22,000,000 in sales last year generated only a
13.2% return on total assets. Hint: Use the return on assets formula (ROA = (NI)/(TA)) to calculate the
net income needed to generate a 14% return on assets. Use the needed net income value in the profit
margin formula to calculate the needed sales.
c. $26,722,967
Incorrect. Are you guessing? Hint: Use the return on assets formula (ROA = (NI)/(TA)) to calculate the
net income needed to generate a 14% return on assets. Use the needed net income value in the profit
margin formula to calculate the needed sales.
d. $25,603,667
Incorrect. Are you guessing? Hint: Use the return on assets formula (ROA = (NI)/(TA)) to calculate the
net income needed to generate a 14% return on assets. Use the needed net income value in the profit
margin formula to calculate the needed sales.
e. $19,740,600
Incorrect. Are you guessing? Hint: Use the return on assets formula (ROA = (NI)/(TA)) to calculate the
net income needed to generate a 14% return on assets. Use the needed net income value in the profit
margin formula to calculate the needed sales.
29. Russell Securities has $237 million in total assets and its corporate tax rate is 40%. The company
recently reported that its basic earning power (BEP) ratio was 35% and its return on assets (ROA) was
11%. What was the company’s interest expense?
a. $82.95
Incorrect. You calculated the EBIT. Hint: Use the BEP formula to calculate EBIT. Use the ROA formula
to calculate net income. Use net income = (EBIT – INT)(1 – tax rate) to calculate the interest expense.
b. $56.88
Incorrect. You calculated EBIT minus interest expense. Hint: Use the BEP formula to calculate EBIT.
Use the ROA formula to calculate net income. Use net income = (EBIT – INT)(1 – tax rate) to calculate
the interest expense.
c. $39.50
Correct. Use the BEP formula to calculate EBIT. Use the ROA formula to calculate net income. Use net
income = (EBIT – INT)(1 – tax rate) to calculate the interest expense.
d. $26.07
Incorrect. You calculated the net income. Hint: Use the BEP formula to calculate EBIT. Use the ROA
formula to calculate net income. Use net income = (EBIT – INT)(1 – tax rate) to calculate the interest
expense.
e. $17.38
Incorrect. You calculated the taxes. Hint: Use the BEP formula to calculate EBIT. Use the ROA formula
to calculate net income. Use net income = (EBIT – INT)(1 – tax rate) to calculate the interest expense.
30. Strack Houseware Supplies Inc. has $439 million in total assets. The other side of its balance sheet
consists of $57.07 million in current liabilities, $140.48 million in long-term debt, and $241.45 million in
common equity. The company has 26,900,000 shares of common stock outstanding, and its stock price is
$49 per share. What is Strack’s market-to-book ratio?
a. 4.93
Incorrect. You calculated common equity divided by stock price. Hint: Calculate the book value per share
by dividing common equity by the share outstanding. Market-to-book equals the stock price per share
(which is given) divided by the book value per share.
b. 5.46
Correct. Calculate the book value per share by dividing common equity by the share outstanding. Marketto-book equals the stock price per share (which is given) divided by the book value per share.
c. 1.82
Incorrect. You calculated total assets divided by common equity. Hint: Calculate the book value per share
by dividing common equity by the share outstanding. Market-to-book equals the stock price per share
(which is given) divided by the book value per share.
d. 5.97
Incorrect. You calculated the book value per share. Hint: Calculate the book value per share by dividing
common equity by the share outstanding. Market-to-book equals the stock price per share (which is given)
divided by the book value per share.
e. 1.50
Incorrect. Are you guessing? Hint: Calculate the book value per share by dividing common equity by the
share outstanding. Market-to-book equals the stock price per share (which is given) divided by the book
value per share.
31. Moss Motors has $272 million in assets, and its tax rate is 40%. The company’s basic earning power
(BEP) ratio is 41%, and its return on assets (ROA) is 11%. What is Moss’ times-interest-earned (TIE)
ratio?
a. 2.03
Incorrect. Are you guessing? Hint: Use the BEP formula to calculate EBIT. Use the ROA formula to
calculate net income. Use net income = (EBIT – INT)(1 – tax rate) to calculate the interest expense. Plug
information into the TIE formula to get the answer.
b. 0.49
Incorrect. This is net income divided by interest expense. Hint: Use the BEP formula to calculate EBIT.
Use the ROA formula to calculate net income. Use net income = (EBIT – INT)(1 – tax rate) to calculate
the interest expense. Plug information into the TIE formula to get the answer.
c. 0.81
Incorrect. This is earnings before taxes divided by interest expense. Hint: Use the BEP formula to
calculate EBIT. Use the ROA formula to calculate net income. Use net income = (EBIT – INT)(1 – tax
rate) to calculate the interest expense. Plug information into the TIE formula to get the answer.
d. 1.81
Correct. Use the BEP formula to calculate EBIT. Use the ROA formula to calculate net income. Use net
income = (EBIT – INT)(1 – tax rate) to calculate the interest expense. Plug information into the TIE
formula to get the answer.
e. 0.38
Incorrect. Are you guessing? Hint: Use the BEP formula to calculate EBIT. Use the ROA formula to
calculate net income. Use net income = (EBIT – INT)(1 – tax rate) to calculate the interest expense. Plug
information into the TIE formula to get the answer.
32. The Wilson Corporation has the following relationships: Sales/Total assets = 6; Return on assets
(ROA) = 10%; Return on equity (ROE) = 21%. What is Wilson’s profit margin?
a. 2.39%
Incorrect. Are you guessing? Hint: Return on assets equals the profit margin times total asset turnover.
Total asset turnover equals sales divided by total assets (given in problem).
b. 3.50%
Incorrect. Do not use return on equity. Hint: Return on assets equals the profit margin times total asset
turnover. Total asset turnover equals sales divided by total assets (given in problem).
c. 1.67%
Correct. Return on assets equals the profit margin times total asset turnover. Total asset turnover equals
sales divided by total assets (given in problem).
d. 2.96%
Incorrect. Are you guessing? Hint: Return on assets equals the profit margin times total asset turnover.
Total asset turnover equals sales divided by total assets (given in problem).
e. 1.55%
Incorrect. Are you guessing? Hint: Return on assets equals the profit margin times total asset turnover.
Total asset turnover equals sales divided by total assets (given in problem).
33. Cleveland Corporation has 17,490,000 shares of common stock outstanding, its net income is $194
million, and its P/E ratio is 15.1. What is the company’s stock price?
a. $2,929.40
Incorrect. You need EPS, not net income. Hint: Calculate earnings per share by dividing net income by
the number of shares outstanding. Use the P/E formula to solve for the stock price.
b. $167.49
Correct. Calculate earnings per share by dividing net income by the number of shares outstanding. Use the
P/E formula to solve for the stock price.
c. $12.85
Incorrect. This net income divided by the P/E ratio. Hint: Calculate earnings per share by dividing net
income by the number of shares outstanding. Use the P/E formula to solve for the stock price.
d. $3,525.24
Incorrect. Are you guessing? Hint: Calculate earnings per share by dividing net income by the number of
shares outstanding. Use the P/E formula to solve for the stock price.
e. $10.76
Incorrect. Are you guessing? Hint: Calculate earnings per share by dividing net income by the number of
shares outstanding. Use the P/E formula to solve for the stock price.