Answer-Chapter 3-Financial Management

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Problems (Page 112) 3-1 to 3.7,

3-1 Greene Sisters has a DSO of 20 days. The company’s average daily sales are $20,000. What is the level of its accounts receivable? Assume there are 365 days in a year.

Answer:
Day Sales Outstanding= Receivables / Average Sales per day

AR = 20 X $20000 = $400,000

3-2 Vigo vacations has an equity multiplier of 2.5.The company’s assets are financed assets with some combination of long-term debt and common equity. What is the company’s debt ratio? Answer:

The equity multiplier is 2.5. This means that for every dollar of equity the company has $2.5 of assets

Equity Multiplier = 2.5
Therefore Equity Ratio = 1/EM
Equity Ratio = 1/2.5 = 0.40
the formula is:
Debt Ratio + Equity Ratio = 1
Therefore Debt Ratio = 1 - Equity Ratio = 1 - 0.40 = 0.60 or 60%

3-3 Winston Washer’s stock price is $75 per share .Winston has $10 billion in total assets. Its balance sheet shows $1 billion in current liabilities, $3 billion in long-term debt and $6 billion in common equity. It has 800 million shares of common stock outstanding .What is Winston’s market/ book ratio?

Answer:
Market value per share = $75
common equity = 6,000,000
number of shares outstanding = 800 millions shares

Market-to-book ratio = market value per share/(common equity/number of shares outstanding)

Market-to-book ratio = $75/(6,000,000/800,000,000)

Market-to-book ratio = $75/(6,000,000/800,000,000)
market-to-book ratio = $75/7.5
market-to-book ratio = 10
Winston Washer’s market-to-book ratio is 10.

3-4 A company has an EPS of $1.50, a cash flow per share of $3.00, and a price /cash flow ratio of 8.0.What is its P/E ratio?

Answer:
First Formula:
Price /cash flow ratio = Price per share /cash flow per share Price per share = $8 x $3 = $24

Second Formula:
P.E = Price per share / EPS

P.E = $24 / 1.5 = 16

3-5 Needham Pharmaceuticals has a profit margin of 3% and an equity multiple of 2.0. Its sales are $100 million and it has total assets of $50 million. What is its ROE?

Answer:

ROE = ( Profit margin)( Total assets turnover)( Equity multiplier)

Net margin =3%
Asset turn over = Sales/ total assets = 2
Equity multiplier = 2

ROE= 2 x 2 x 3 % = 12 %

3-6 Donaldson & son has an ROA of 10 % , a 2% profit margin, and a return on equity equal to 15%.What is the company’s assets turnover? What is the firm’s equity multiplier?

Answer:
A/Asset turn over = ROE/ profit margin
Asset turn over = 10%/ 2% = 5

B/ ROE = (Profit margin) (Total assets turnover) (Equity multiplier)

Equity multiplier = ROE/ profit margin X asset turn over

Equity multiplier = 15 % / 5x 2 % = 1.5

3-7 Ace Industries has current assets equal to $3 million. The company’s current ratio is 1.5, and its quick ratio is 1.0.

What is the firm’s level of current liabilities? What is the firm’s level of inventories?

Answer:

Current Ratio: The current ratio gauges how capable a business is in paying current liabilities by using current assets only. Current ratio is also called the working capital ratio. A general rule of thumb for the current ratio is 2 to 1 (or 2:1 or 2/1). However, an industry average may be a better standard than this rule of thumb. The actual quality and management of assets must also be considered. The formula is:

Total Current Assets
_____________________

Total Current Liabilities

1.5=3000000/ current liabilities
Current liabilities= $2,000,000

Quick Ratio: Quick ratio focuses on immediate liquidity (i.e., cash, accounts receivable, etc.) but specifically ignores inventory. Also called the acid test ratio, it indicates the extent to which you could pay current liabilities without relying on the sale of inventory. Quick assets are highly liquid and are immediately convertible to cash. A general rule of thumb states that the ratio should be 1 to 1 (or 1:1 or 1/1). The formula is: Cash + Accounts Receivable...
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