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FIN 438 Chapter 14 Questions
FIN 438 Chapter 14 Questions
2. Collateral is a back-up source of repayment, and should not be used to approve a loan by itself. Loans
granted on the basis of collateral are subject to risk that the collateral is overvalued and the bank might
not be able to control the collateral or obtain clear title.
3. In most cases, a request for loans to buy cheese is unacceptable because this should be financed by
normal cash flows. Also, a loan for the owner to buy a car should be a personal loan and not made to the
business, unless the car will be used for business. Loans to pay employees in a cash crunch are not
generally acceptable because these payments should also come from normal cash flows. A request
would indicate serious problems. The other uses are appropriate in normal circumstances, such as the
purchase of equipment to produce the pizza, a take-out of an existing mortgage, and a loan to buy a
company.
4. Why would anyone lend to an individual with bad character? Similarly, why lend to a firm or non-profit
organization with a bad reputation and senior management officials who have histories of problems?
The only answer is that the lender might be able to control all risk and thereby still earn a return. Still,
borrowers default. Frequently, a borrower who does not want to pay back a loan can find a
reason/justification for not making promised payments. If a borrower (borrowing entity) doesn’t have
the character consistent with repaying debts, the costs of collecting will generally far exceed the nominal
income from the loan.
7. A high current ratio is associated with high cash, receivables and inventory relative to current liabilities.
Consider a case where the high current assets are inventory and receivables. All receivables are more
than 120 days past due (uncollected) because the firm’s customers cannot pay. The inventory is in the
form of finished goods for which there is no known market. The current ratio will overstate liquidity
because the firm cannot effectively sell inventory or collect on receivables.
13. Ratios:
a. Current ratio: $1,280/$980 = 1.31X
b. Days accounts receivable = $700/($9,125/365) = 28 days
c. Inventory turnover = $6,100/($500) = 12.2X
d. Days accounts payable outstanding = $400/($6,100/365) = 23.9 days; need to know purchases;
assume that inventory is unchanged for the period. If so, purchases equal cost of goods sold or
$6,100.
e. Long-term debt / equity = $550/$970 = 0.57
f. Times interest earned = ($9,125-$6,100-$2,550)/$101 = 4.7X
g. ROE = $216/$970 = 22.27%
h. $9,125/$2,500 = 3.65X
14.
a. Debt service requirements with prime at 8% (effective rate at 10%) are:
Principal + interest + dividends = Year 1: $500,000 + $150,000 + $140,000 = $790,000
= Year 2: $500,000 + $100,000 + $140,000 = $740,000
= Year 3: $500,000 + $50,000 + $140,000 = $690,000
1. According to information from the Federal Reserve Board, delinquencies at commercial banks
on “all loans and leases” peaked in ________:
a. 2007
b. 2008
c. 2009
d. 2010
e. 2011
2. According to information from the Federal Reserve Board, delinquencies at commercial banks
on “all loans and leases” have fallen to levels last seen in ________:
a. 2007
b. 2008
c. 2009
d. 2010
e. 2011
3. As of mid October of 2011, the largest bank by assets in the United States was:
a. JP Morgan Chase
b. Bank of America
c. Wells Fargo
d. Citibank
e. Goldman Sachs
4. As of the end of 2010, the largest bank by assets in the United States was:
a. JP Morgan Chase
b. Bank of America
c. Citibank
d. Goldman Sachs
e. Wells Fargo
5. As of mid October of 2011, the second largest bank by assets in the United States was:
a. JP Morgan Chase
b. Bank of America
c. Wells Fargo
d. Citibank
e. Goldman Sachs
6. Which of the following is not one of the essential issues in evaluating commercial loan
requests?
a. The structure of the borrower’s board of directors.
a. The character of the borrower.
b. The use of the loan proceeds.
c. The source of repayment for the loan.
d. The amount the customer needs to borrow.
9. Which of the following is not part of the four-stage process for evaluating the financial aspects
of commercial loans?
a. An analysis of the firm’s management, operations, and industry.
b. Performing financial ratio analysis.
c. Analyze the firm’s cash flow.
d. Examining the backgrounds of the sales force.
e. Project the borrower’s financial condition.
10. Which of the following is a correct interpretation of a total asset turnover of .33 (one-third)?
a. For each $1 of sales generated by the firm it requires $3 in assets.
b. For each $1 of assets owned by the firm it generates $3 in sales.
c. For each $3 of sales, the firm makes $1 in net profit after taxes.
d. The firm completely replenishes its available assets 3 times per year.
e. The firm completely replenishes its available assets every 3.0 days.
11. Your company had net sales of $70,000 over the past year. During that time, average
receivables were $10,000. What was the average collection period?
a. 7 days
b. 12 days
c. 30 days
d. 43 days
e. 52 days
12. Which of the following items is included as part of a company's current assets?
a. Accounts payable.
b. Inventory.
c. Accounts receivable.
d. Statements b and c are correct.
e. All of the statements above are correct.
13. All else being equal, which of the following will increase a company's current ratio?
a. An increase in accounts receivable.
b. An increase in accounts payable.
c. An increase in net fixed assets.
d. Statements a and b are correct.
e. All of the statements above are correct.
14.
14. Which of the following alternatives could potentially result in a net increase in a company's
cash flow for the current year?
15. a. Reduce the days sales outstanding ratio.
b. Increase the number of years over which fixed assets are depreciated
c. Decrease the accounts payable balance.
d. Statements a and b are correct.
e. All of the statements above are correct.
17. A firm’s ability to meet its short-term debt obligations is measured by:
a. liquidity ratios.
b. market value ratios.
c. profitability ratios.
d. activity ratios.
e. leverage ratios.
18. Which financial ratio measures a firm’s ability to pay current interest and lease payments with current
earnings?
a. Fixed charge coverage ratio
b. Return on equity
c. Current ratio
d. Inventory turnover
e. Debt to total assets ratio
19. A firm has the following financial statement data: Sales = $1,000, COGS = $400, Operating Expenses = $200,
and Taxes = $200. What is the firm’s profit margin?
a. 10%
b. 20%
c. 30%
d. 40%
e. 60%
20. A firm has the following financial statement data: Sales = $2,000, COGS = $800, Operating Expenses = $600,
and Taxes = $400. What is the firm’s profit margin?
a. 10%
b. 20%
c. 30%
d. 40%
e. 60%
21. Cash flows from a firm’s normal business activities are reflected in:
a. cash flows from investing.
b. cash flows from financing.
c. cash flows from operations.
d. cash flows from income.
e. cash flows from budgeting.
Income Statement
Revenues $320,000,000
Less: Cost of Goods Sold $162,000,000
Gross Profit $158,000,000
Less: Operating Expenses $120,000,000
Less: Depreciation $11,000,000
Operating Profit $27,000,000
Less: Interest Expense $8,500,000
Net Profit Before Taxes $18,500,000
Less: Taxes $6,290,000
Net Income $12,210,000
Balance Sheet
Assets Current Year Prior Year Change
Cash $1,500,000 $3,000,000 ($1,500,000)
Marketable Securities $1,500,000 $3,200,000 ($1,700,000)
Accounts Receivable $57,000,000 $44,000,000 $13,000,000
Inventory $106,000,000 $99,000,000 $7,000,000
Pre-Paid Expenses $8,400,000 $11,000,000 ($2,600,000)
Total Current Assets $174,400,000 $160,200,000 $14,200,000
Long-Term Assets $148,000,000 $154,000,000 ($6,000,000)
Total Assets $322,400,000 $314,200,000 $8,200,000
31.Under which category are dividends classified on the statement of cash flows?
a. Cash From Investing Activities
b. Cash From Operating Activities
c. Cash From Financing Activities
d. Cash From Profit Activities
e. None of the above
32. Which of the following would cause a firm's ROE to be high, but its ROA to be low?
a. A low gross profit margin but a high net profit margin.
b. Financing a relatively large proportion of assets with equity.
c. Paying very low interest rates on the firm's debts.
d. Leasing a large amount of equipment.
e. Financing a relatively large proportion of assets with debt.
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