Question

Which of the following would improve Liquidity:

( a )   Factoring a business’s Accounts Receivable

( b )   Using surplus cash to buy Land and Buildings

( c )   Paying all Accounts Payable sooner                       

( d )   Increasing employees wages

( e )   All of the above

2        If the Net Profit Ratio decreases, which of the following will NOT improve the ratio:

( a )   Increasing the sales price

( b )   Finding a cheaper supplier of your product

( c )   Increasing the size of a business’s overdraft

( d )   Finding a cheaper insurance company

( e )   Reducing the number of sales staff

3        The market value of a firm can be affected by:

( a )   Investors' perceptions of the firm

( b )   General economic conditions

( c )   The investments a firm's managers make

( d )   The dividend payments made by the firm

( e )   All of the above.

4        Short-term loans are generally used to:

( a ) Finance permanent additions to working capital

( b ) Finance additions to fixed assets

( c )    Finance seasonal requirements in working capital

( d ) Retire redeemable preference shares, thus changing the capital structure of the firm

( e ) None of the above.

5        Rank the following claims in order from least risk to most risk from an investor's viewpoint:

1 mortgage 2 ordinary shares    3 debentures 4 unsecured notes 5 preference shares

( a )   1 - 3 - 2 - 4 - 5

( b ) 1 - 3 - 4 - 5 - 2

( c )   1 - 3 - 5 - 4 - 2

( d )   1 - 3 - 4 - 2 - 5

( e )   1 - 3 - 2 - 5 – 4

6        Everything else held constant, a high use of debt will lead to:

( a )   High return on equity

( b )   Lower times interest-earned

( c )   Higher debt/total equity ratio

( d ) Lower profit margin

( e ) All of the above.

7        Which of the following actions would NOT affect the Liquid Ratio of a firm?

( a )   Purchase inventory on credit

( b )   Sell fixed assets for cash

( c )    Sell inventory on credit

( d )   Declaring final dividend

( e )   All of the above would affect the Liquid Ratio.

8        Firms that exhibit current ratios substantially above the industry average may be holding ....................... amounts of cash, accounts receivable or inventory.

( a )   Insufficient

( b )   Excessive

( c )   Adequate

( d )   Uncertain

( e )   None of the above

9        A particularly low gross profit margin may indicate either a, ………..cost of goods sold or a …………. selling price.

( a )   Low; high

( b )   High; high

( c )   Low; low

( d )   High; low

( e )   None of the above

10      A firm that shows a particularly high inventory turnover ratio may experience:

( a )   A reduced return on assets

( b )   Stockouts and lost sales

( c )    A sudden increase in sales

( d )   A reduction in average outstanding receivables

( e )   All of the above

Answer 1

1. Answer is a) Factoring a business’s Accounts receivable

Factoring is an arrangement to sell accounts receivable to external parties and convert them into cash. It improves the liquidity since cash is collected for sale of accounts receivables.

2. Answer is c) Increasing the size of a business overdraft

Increasing the size of a business overdraft does not improve the net profit ratio. Increasing sales price will increase gross profit and net profit, cheaper supplies will reduce cost of goods sold and cheaper insurance company will reduce insurance expenses, reducing sales staff will reduce selling expenses.

3. Answer is e) All of the above

All the given answer options can affect the market share price of the firm. For example, general economic conditions like GDP growth, employment rates will have positive effect on firm sales, similarly investor perception like growth or conservative company can affect the share price

4. Answer is c) Financial seasonal requirements in working capital

Short-term loans are obtained on short-term basis to finance the seasonal requirements in working capital. Short-term loans are not obtained for additional to fixed assets or retire redeem preference shares

5. Answer is b) 1-3-4- 5-2

Mortgage is least risk since it has security. Similarly debenture and unsecured notes are next in risk since they are unsecured but paid as liabilities. Preference shares are paid before ordinary shares. Hence ordinary shares rank last

6. Answer is e) All of the above

High debt equity gives high return on equity due to financial leverage, it reduces the times interest earned due to higher interest cost, the ratio of debt to equity will be higher and profit margin will be lower due to high interest cost.

7. Answer is e) All of the above would affect the Liquid ratio

Purchase of inventory on credit affects accounts payable, sell fixed assets for cash increases cash balance, sell inventory on credit increases Accounts receivable, declaring final dividend increase current liability through proposed dividend

8. Answer is b) Excessive

Having excess cash, accounts receivable or inventory will give higher current ratio than industry average

9. Answer is d) high, low

High cost of goods or low selling price will reduce the gross margin.

10. Answer is b) Stock outs and lost sales

A higher inventory turnover ratio is achieved with lower average inventory balance. When average inventory balance is lower there is possibility of stock outs and lost sales