Question

4. Debt (or financial leverage) management ratios Companies have the opportunity to use varying amounts of different sources of financing to acquire their assets, including internal and external sources, and debt (borrowed) and equity funds. Aunt Dottie's Linen Inc. reported no long-term debt in its most recent balance sheet. A company with no debt on its books is referred to as: O a company with no financial leverage, or an unleveraged company O a company with financial leverage, or a leveraged company Which of the following is true about the leveraging effect? O Under economic growth conditions, firms with relatively low financial leverage will have higher expected returns. Under economic growth conditions, firms with relatively more financial leverage will have higher expected returns. Purple Panda Products Inc. has a total asset turnover ratio of 3.00, net annual sales of $25,000,000, and operating expenses of $18,750,000 (including depreciation and amortization). On its current balance sheet and income statement, respectively, it reported total debt of $3,854,167, on which it pays 11% interest on its outstanding debt. To analyze a company's financial leverage situation, you need to measure the firm's debt management ratios. Based on the preceding information, what are the values for Purple Panda's debt management ratios? (Note: Round your answers to two decimal places.) Ratio Value Debt ratio Times-interest-earned ratio Purple Panda Products Inc. raises around from creditors for each dollar of equity. Influenced by a firm's ability to make interest payments and pay back its debt, if all else is equal, creditors would prefer to give loans to companies with times-interest-earned ratios (TIE).

Answer 1

M N O P Q R S 1 2 A B C D E F G H I J K L Aunt Dottie's Linen Inc. reported no long term debt in its most recent balance sheet A company with no debt on its book is referred as a company with no leverage, or an unleveraged company The effect of leverage under economic growth conditions, firms with relatively more financial levearge vill have higher expected return 7 Debt ratio : Total liabilities / Total assets 8 Asset turnover -revenue/total assets 9 Rearranging, we get 10 Total assets - Revenue Asset turnover = 25,000,000/3 11 Total assets 8333333.33 12 Debt ratio : 3854167 / 8333333.33 13 Debt ratio : 46.25% 65.06 15 Times interest earned - EBIT/Interest expense 16 EBIT = sales - Operating expenses - 25,000,000 - 18,750,000 = 17 Interest expense = debt" interest rate : 3,854,167'11% = 18 Times interest earned = 6250000423958.4 = 14.74 19 Times interest earned = 14.74 423958 20 21 Debt to equity ratio - Total debt / total sharholders' equity 22 Total shareholders' equtiy - Total assets - Total liabilities - 8333333.33-3854167 23 Total shareholders' equtiy = 4479166.33 24 25 Debt to equity ratio : 3854167/4479166.33 26 Debt to equity ratio 86.05% 27 Purple Panda raises around 86 cents from creditors for each dollar of equity 28 29 A high ratio means that a company is able to meet its interest obligations because earnings are significantly greater than annual interest obligations 30 Creditors vould prefer to give loans to companies with higher TIE 32 Choice D is correct becasue Green Caterpillar's debt to equity to Equity ratio is lower than industry average and higher than that of PG&G 33 if price falls by 10%, then market to debt ratio vill decrease, reflecting a increase in the financial risk of the company 35 Fixed charge coverage ratio = (EBITDA+lease payments) / (interestlease payments principal) 36 Fixed charge coverage ratio = (300+14)(30+14+24) 37 Fixed charge coverage ratio: 4.6176471 38 Gree caterpillar has the ability to cover its fized financial charges 4.62 times