CHAPTER 3/EVALUATION OF FINANCIAL PERFORMANCE 11

CHAPTER 3
EVALUATION OF FINANCIAL
PERFORMANCE
ANSWERS TO QUESTIONS:
1. The primary limitations of ratio analysis as a technique of financial statement analysis are:
a. Ratios are retrospective and do not directly incorporate forecasts of future performance of a
firm.
b. Ratios only indicate potential problem areas; they do not identify causes of problems.
c. A good financial analyst must select the set of ratios that is most appropriate for the type of
firm being analyzed.
d. Ratios do not provide absolute measures for evaluation; rather they must be analyzed against
some standard. The choice of an appropriate standard for comparison can sometimes be a
difficult one.
2. The major limitation of the current ratio as a measure of liquidity is the inclusion in the current
assets figure of some assets that may not be highly liquid, such as inventory and, in some cases,
accounts receivable. The quick ratio, which does not consider inventories, helps to offset this
problem.
Another limitation is the fact that it is a static (based on the balance sheet) measure of liquidity,
whereas liquidity is a dynamic (flow) concept. Also, the current ratio may be easily manipulated by
the firm. For example, a firm with a current ratio greater than 1x can increase that ratio by using
cash to pay off some current liabilities. End-of-year balance sheet manipulation such as this is
common among firms having current ratio constraints imposed as part of their financing
agreements.
3. Above: The firm is having collection problems, possibly because of too liberal a credit granting
policy, inadequate collection efforts, or failure to write off uncollectible accounts.
Below: The company may be unduly restrictive in granting credit and therefore it may be losing
some otherwise profitable accounts to competitors.
4. Above: The company may be carrying too little inventory and thus may be subject to frequent and
significant stockout costs. A strategy of carrying a small inventory may cause the company to
lose customers.
Below: The company may have a lot of slow-moving or obsolete inventory. It may also not be
making use of efficient inventory management techniques.
5. The fixed asset turnover ratio is subject to four major limitations in comparative analyses. The

12 CHAPTER 3/EVALUATION OF FINANCIAL PERFORMANCE

ratio is sensitive to:

a.
b.
c.
d.

The cost of the assets at the date of acquisition.

The length of time since acquisition.
The depreciation policies adopted.
The extent to which fixed assets are leased rather than owned.

Each of these factors will differ from firm to firm, making meaningful comparative analyses
difficult.
6. The three most important determinants of a firms return on stockholders equity are net profit
margin (earnings after tax/sales), the total asset turnover (sales/total assets), and the equity
multiplier (total assets/stockholders equity).
7. Alternative accounting procedures can have a significant impact on the validity of comparative
financial analyses. Three of the most significant areas for disagreement between firms are
inventory valuation (LIFO vs. FIFO, for example), depreciation methods (straight line,
accelerated or MACRS depreciation), and the treatment of financial leases (capitalized or not).
Any one of these items can limit comparability between firms.
8. Inflation can impact the comparability of financial ratios between firms in a number of ways. One
important example is the existence of inventory profits in a period of rising prices. If a firm uses
FIFO, it will show higher profits (and a larger balance sheet inventory figure) in times of rising
prices than a firm using LIFO. Inflation also affects the cost of fixed assets and the depreciation
charged against these assets. Firms that own older assets will tend to report higher profits than
firms with newly acquired assets. The use of replacement cost accounting can offset these
problems.
9. The P/E multiple indicates how much investors are willing to pay for each dollar of current
earnings. With a greater level of risk, investors will offer less for a dollar of earnings because of
that risk. Also, the greater the growth prospects of the firms earnings, the more investors will be
willing to pay for a dollar of current earnings.
10. Generally earnings quality is enhanced the greater the cash portion of earnings and the more the
earnings are composed of recurring, as opposed to non-recurring items. Balance sheet quality is
enhanced the greater the inclusion of tangible, as opposed to intangible assets. Also, the more
nearly the asset values reported on a balance sheet are reflective of their actual market values, the
higher the balance sheet quality.
11. A lower P/E ratio can be expected for a typical natural gas utility than for a computer technology
firm because the growth prospects are much lower for the utility. Offsetting this to some extent is
a lower perceived risk of the utility.
12. Write-offs of non-performing assets should increase the future profitability ratios (e.g., return on
assets and common equity) since the firms total assets and retained earnings (part of common
equity) will be lower. It also should increase the financial leverage ratios because retained earnings
(part of common equity) will be lower. Over the long run, the write-offs of non-performing assets
should increase the market value of the firms equity securities, because any proceeds from the

CHAPTER 3/EVALUATION OF FINANCIAL PERFORMANCE 13

sales of these assets can be reinvested in more profitable assets (i.e., assets with higher expected
rates of return).
13. a. The bank must have a lower equity multiplier than other banks in the industry, on average.
That is the bank is employing more equity (for a given level of total assets) compared with
other banks.
b. A low equity multiplier implies that the bank is following a fairly conservative financial
leverage policy, which would lead to lower required rates of return on its debt (k d) and equity
(ke) securities, all other things being equal. Hence, all other things being equal, this should lead
to higher bond and stock prices. However, the bank may be earning above-average returns on
its assets by investing in higher risk assets compared with other banks. This would lead to
higher required rates of return on its debt and equity securities and thus, all other things being
equal, lower bond and stock prices. The answer cannot be determined without more
information on the relative riskiness of the banks assets.
14. Deferred taxes arise because of the timing difference of some expenses as recorded for financial
reporting purposes and these same expenses as recorded for the purpose of making tax filings. For
example, most firms use accelerated depreciation for tax purposes and straight-line depreciation
for financial reporting. Consequently, taxable income is higher on the companys public financial
statements and taxes paid also is higher. Actual taxes paid are determined from a companys tax
filings. The difference between taxes actually paid, and taxes shown as being paid on a firms
public financial statements is recorded as deferred taxes on the right-hand side of the balance
sheet.
15. MVA (market value added) is equal to the present value of expected future EVA (economic value
added). EVA is the incremental contribution of a firms operations to the creation of MVA.

14 CHAPTER 3/EVALUATION OF FINANCIAL PERFORMANCE

SOLUTIONS TO PROBLEMS:
1. a. 50 days = Accounts Receivable/($1,600,000/365 days)
50 days = Accounts Receivable/$4,383.56
Accounts Receivable = $219,178
b. Cost of sales = (1 0.35)($1,600,000) = $1,040,000
Inventory Turnover = 6 = Cost of Sales/Average Inventory
6 = $1,040,000/Average Inventory
Average Inventory = $173,333

2. a. Return on stockholders equity = 0.03 x ($20,000,000)/$10,000,000) x

($10,000,000/$4,000,000)
= 0.15 or 15%
b. Return on stockholders equity = 0.05 x 2.0 x 2.5 = 0.25 or 25%

3. Credit sales = 0.8($40 million) = $32 million

Average daily credit sales = $32 million/365 days/yr.
= $87,671.23
Average accounts receivable = 45 x $87,671.23 = $3,945,205

4. Return on stockholders equity = 18% = (EAT/Sales) x 1.0 x 2.0

EAT/ Sales = 9.0%

CHAPTER 3/EVALUATION OF FINANCIAL PERFORMANCE 15

5. a.
Firm
A

Total Asset Turnover

1.33x

1.33x

1.00x

1.04x

Net Profit Margin

0.15

0.05

0.15

0.12

Equity Multiplier

1.50x

1.50x

1.07x

2.40x

Return on Equity

0.30

0.10

0.16

0.30

b. Firm A appears to have few problems in comparison with the other firms.
Firm B has a very weak profit margin, indicating the need for corrective action to control
costs or to change the firms pricing strategy.
Firm C has a low asset turnover, suggesting the existence of excessive investments in fixed
assets and/or short-term assets. The low equity multiplier suggests that the firm has not made
as much use of debt as the competing firms. This low turnover and low equity multiplier have
combined to give Firm C a lower than average return on equity.
Firm D has a lower than average asset turnover and an average profit margin. The high
return on equity has doubtlessly been earned by assuming a very risky (debt-heavy) capital
structure. This heavy use of debt exposes the firm to substantial financial risk.
More detail about the determinants of the net profit margin and the total asset turnover
ratio would be valuable. This information could be in the form of a Dupont chart. Also, it
would be useful to know if all firms use similar financial reporting methods.

6. Forecasted Balance Sheet

Cash

$104,000

Accounts receivable

1,096,000

Total current liabilities

Inventory

1,200,000

Long term debt

Total current assets

Net fixed assets

$2,400,000
7,600,000

Total debt
Stockholders equity

$1,200,000
2,800,000
$4,000,000
6,000,000

16 CHAPTER 3/EVALUATION OF FINANCIAL PERFORMANCE

Total assets

$10,000,000

Total liabilities and

$10,000,000

stockholders equity
a. Profit margin on sales = 0.05 = $1,000,000/Sales
Sales = $20,000,000
b. Total asset turnover = 2 = $20,000,000/Total assets
Total assets = $10,000,000
c. Total debt to total assets = 0.4 = Total debt/$10,000,000
Total debt = $4,000,000
d. Current liabilities to stockholders equity = 0.2 = Current liabilities/$6,000,000
Current liabilities = $1,200,000
e. Current ratio = 2 = Current assets/$1,200,000
Current assets = $2,400,000
f. Fixed assets = Total assets minus current assets
= $10,000,000 $2,400,000 = $7,600,000
g. Quick ratio = 1 = ($2,400,000 - Inventories)/$1,200,000
Inventories = $1,200,000
h. Average collection period = 20 days
= Accounts receivable/($20,000,000/365)
Accounts receivable = $1,096,000 (rounded to the nearest $1,000)
i. Cash = Current assets minus accounts receivable minus inventories
Cash = $2,400,000 $1,096,000 $1,200,000 = $104,000

7. Reduction in accounts receivable = $5 million (20 days x $0.25 million per day)
New total assets after stock repurchase = $95 million
New common equity after stock repurchase = $35 million
Debt ratio: Old = 60%
New = 63% ($60/$95)

CHAPTER 3/EVALUATION OF FINANCIAL PERFORMANCE 17

Return on assets: Old = 5% ($5/$100)

New = 5.26% ($5/$95)
Return on common equity: Old = 12.5% ($5/$40)
New = 14.29% ($5/$35)

8. a. Current ratio = $3.0/$1.5 = 2x

Quick ratio = ($3.0 $1.0)/$1.5 = 1.33x
b. Current ratio = ($3.0 $0.25)/($1.5 $0.25) = 2.2x
Quick ratio = ($3.0 $1.0 $0.25)/($1.5 $0.25) = 1.4x
Both the current and quick ratios rise, even though real liquidity has declined (cash balances
are cut in half).
c. Current ratio = ($3.0 $0.5)/($1.5 $0.5) = 2.5x
Quick ratio = ($3.0 $1.0 $0.5)/($1.5 $0.5) = 1.5x
Both the current and the quick ratios rise.
d. Current ratio = ($3.0 + $1.0)/$1.5 = 2.67x
Quick ratio = ($3.0 $1.0 + $1.0)/$1.5 = 2.0x
Both the current and the quick ratios rise.
e. These examples illustrate how easy it is for a firm to manipulate its current and quick ratios, if
necessary. Consequently, conclusions based on an analysis of these ratios should be viewed
with caution.

9. a. Return on equity = $600,000/$2,400,000 = 0.25 or 25%

b. Sales = $600,000/.10 = $6,000,000
Total asset turnover = $6,000,000/$4,000,000 = 1.5x
Equity multiplier = $4,000,000/$2,400,000 = 1.67x
Gulf combines a significantly higher than average profit margin (10% vs. 6%) and a somewhat
higher equity multiplier (1.67x vs. 1.4x) with a significantly lower than average total asset

18 CHAPTER 3/EVALUATION OF FINANCIAL PERFORMANCE

turnover to achieve results that are greater than the industry average return on equity (25% vs.
21%). However, the higher equity multiplier of Gulf indicates a higher level of financial risk.
This offsets, at least in part, the value of the higher achieved returns.

10. a. Jacksons current ratio is 1.88x compared to the industry average of 2.5 times. Jacksons quick
ratio is 0.66x compared to an industry average of 1.1x. Jackson has net working capital of
$750,000. Jacksons liquidity is considerably below that of the industry average. Based on
a comparison of the firms current ratio to that of the industry and the firms quick ratio to that
of the industry, there is some evidence that Jackson may carry excessive or slow moving
inventory.
b. The company has an average collection period of 38.9 days compared to an industry average
of 35 days. The companys

inventory turnover ratio is only 1.73x compared to an industry

average of 2.4x. This provides additional evidence of Jacksons potential inventory problems.
Finally, Jacksons total asset turnover ratio of 1.25x is below the industry average of 1.4x,
probably because of the inventory problems and the slightly higher than average receivables
balance.
c. The companys times interest earned ratio is 2.89x compared to the industry average of 3.5x.
The companys total assets to stockholders equity ratio is 3.2x compared to the industry
average of 3.0x. This slightly higher amount of financial leverage and significantly lower
interest coverage ratio suggest that Jackson either pays very high interest charges relative to
other firms, is less profitable than the average firm or a combination of both. In any case the
firm appears to have more financial risk than the average firm.
d. Jacksons net profit margin of 4.44% exceeds the industry average of 4.0%. The companys
return on investment of 5.56% is only slightly below the industry average of 5.6%. Jacksons
return on stockholders equity of 17.78% exceeds the industry average of 16.8% because of
the higher level of financial leverage used by Jackson.
e. Jackson seems to be carrying excessive inventory, resulting in a lower asset turnover. The

CHAPTER 3/EVALUATION OF FINANCIAL PERFORMANCE 19

companys liquidity position is also weak (quick ratio). In spite of these areas for potential
improvement, the firm has outperformed the average firm in the industry and has assumed
more financial risk in doing this.
f. ROE = Net profit margin times Total asset turnover times Equity multiplier
ROE = ($133,320/$3,000,000) x ($3,000,000/$2,400,000) x

($2,400,000/$750,000)

ROE = 0.1778 or 17.8%

The primary area for improvement is total asset turnover (especially inventories).
g. The biggest factor that can explain Jacksons lower P/E ratio relative to the industry average is
the higher amount of financial risk the firm possesses.
Also, Jackson could be perceived as having a lower growth potential than the average firm,
although there is no direct evidence presented in the data to indicate this.

11. Profiteers, Inc.

20x1

20x2

20x3

20x4

20x5

ROI

17.64%

14.64%

13.20%

10.71%

12.10%

ROE

23.64

20.50

21.25

17.67

19.72

Industry Average
ROI

15.00%

13.97%

14.30%

13.10%

13.40%

ROE

21.30

20.26

21.02

19.78

20.50

In the face of declining profit margins and less than average efficiency of asset utilization,
Profiteers has maintained its ROE by using more financial leverage.

12. a. The current ratio will increase because of the current asset increase.
b. The return on stockholders equity will decline because of the increase in stockholders equity,
assuming no immediate impact on profits from increasing inventory.
c. The quick ratio will increase because of the cash balance increase.

20 CHAPTER 3/EVALUATION OF FINANCIAL PERFORMANCE

d. The debt to total assets ratio will decline because of the increase in total

assets.

e. The total asset turnover ratio will decline because of the increase in total assets.

13. a. Return on equity = $2,000,000/$7,000,000 = 28.57%

b. Keystones net profit margin (8%) is significantly below the industry average of 10%. Sales
for Keystone are $25,000,000 ($2 million/0.08). Keystones total asset turnover ratio is
1.5625x, compared to the industry average of 2.0 times. Keystone has made up for these
deficiencies by assuming considerably more financial risk (equity multiplier of 2.29x vs. an
industry average of 1.5 times). Thus, overall Keystones return on equity is below the industry
average of 30%

and its level of financial risk is higher.

c. Quick ratio = (Current assets - Inventories) / Current liabilities

= ($6 million $3.2 million) / $3.5 million
= 0.80

14. Cost of sales = 0.5($290,000,000) = $145,000,000

Inventory turnover (beginning of year inventory) = $145,000,000/$25,000,000 = 5.8x
Inventory turnover (end of year inventory)
= $145,000,000/$30,000,000 = 4.83x
Monthly average inventory = $43,333,333
Inventory turnover (monthly average inventory)
= $145,000,000/$43,333,333 = 3.35x
Because of the seasonal nature of Palmers business, the monthly average inventory turnover is
more indicative of the success of Palmers inventory management.

15. The stock of both firms likely is valued on the basis of the projected earning capacity of the firm.
Obviously, the earning capacity of the assets of Jenkins is not impressive relative to depreciated
cost of the assets the firm has in place. If Jenkins were to liquidate, it is doubtful if the company

CHAPTER 3/EVALUATION OF FINANCIAL PERFORMANCE 21

would be able to sell its assets for their book value because of their depressed earning capacity. In
contrast, Dataquests earnings are not closely related to its tangible assets. For a software firm,
these assets are likely to be relatively small. The largest asset of a software development firm is its
human capital. Having the copyright on a leading piece of software can generate large projected
earnings streams, and consequently a high market to book ratio.

16. Hoffmans present debt ratio is 44.25% ($500,000 / $1,130,000). Hoffman could borrow an
additional $130,000 and still maintain its debt ratio at 50%:
0.5 = ($500,000 + X) / ($1,130,000 + X)
X = $130,000

If Hoffman borrows $130,000 on a short-term basis and invests this amount in inventory and
receivables, its current ratio remains above 1.5 times.
Current ratio = ($450,000 + $130,000) / ($200,000 + $130,000) = 1.76
Therefore, Hoffman can borrow up to $130,000 without violating the terms of its borrowing
agreement.

17. a

EAT = $12 million

EBT = EAT/(1 - T)
= $12 million / (1 -0.40) = $20 million
EBIT = EBT + I
= $20 million + $5 million = $25 million
Times Interest Earned = EBIT/I
= $25 million/$5 million = 5.0 times

b. Interest = EBIT/Times Interest Earned

= $25 million/3.50 = $7.14 million
Additional interest = $7.14 million $5 million = $2.14 million

22 CHAPTER 3/EVALUATION OF FINANCIAL PERFORMANCE

Additional debt = Additional interest/Interest rate

= $2.14 million/0.10 = $21.4 million
c. Additional debt = $2.14 million/0.12 = $17.83 million
As interest rates increase, the firms debt capacity (as measured by the times interest earned
ratio) decreases.

18. a

EPS = EAT / (Average number of shares outstanding)

= $21,000,000/5,000,000 = $4.20

b. Price/earnings ratio = Market price/EPS

= $32/$4.20 = 7.6
c. Book value per share = (Common stock + Contributed capital in excess of par value +
Retained earnings)/(Average number of shares outstanding)
= ($5,000,000 + $20,000,000 + $55,000,000)/5,000,000
= $16
d. P/BV = $32 / $16 = 2.0
e. Addition to retained earnings = net income - dividends
= $21 million $10 million = $11 million
f. Balance Sheet
Current assets
Fixed assets, net
Common stock ($1 par)

$ 60
110
6

excess of par value

49

Retained earnings

55

Current liabilities
Long-term debt

40

Contributed capital in

$170

19. Return on total assets = 9% = EAT / $100 million

$9 million = EBT(1 - T)

$ 20

$170

CHAPTER 3/EVALUATION OF FINANCIAL PERFORMANCE 23

EBT = $15 million

Return on stockholders equity = EAT / Stockholders equity
Because the company has no debt, EBT = EBIT
Return on stockholders equity
= [(EBIT - I)(1 - T)]/Stockholders equity
0.15 = [($15 million - I)(1 0.4)]/($100 million - Debt)
The interest payments are 10% of the debt amount. Thus,
I = 0.1 (Debt). Substituting for I, the following equation with one unknown (Debt)

is obtained:

0.15 = [($15 million 0.1(Debt))(1 0.4)]/($100 million - Debt)

Debt = $66.7 million

20.
Forecasted Balance Sheet
Cash

$128,500

Accounts payable

$164,250

Accounts receivable

200,000

Total current liabilities

$164,250

Inventory

164,250

Long-term debt

$200,750

Stockholders equity

$547,500

Total current assets

$492,750

Fixed assets

419,750

Total assets

$912,500

Total liabilities
and equity

a. Total assets = $3,650,000/4 = $912,500

b. Total debt = .40($912,500) = $365,000
Stockholders equity = $912,500 $365,000 = $547,500
c. Current liabilities = .30($547,500) = $164,250
d. Accounts payable = $164,250
e. Current assets = 3($164,250) = $492,750
f. Fixed assets = $912,500 $492,750 = $419,750

$912,500

24 CHAPTER 3/EVALUATION OF FINANCIAL PERFORMANCE

g. Accounts receivable = ($3,650,000/365)(20) = $200,000

h. ($492,750-Inventory)/$164,250 = 2
Inventory = $164,250
i. Cash = $492,750 $200,000 $164,250 = $128,500
j. Long-term debt = $365,000 $164,250 = $200,750
k. Total liabilities and equity = $912,500

21. a. Current ratio = $5,750/$3,000 = 1.92 (no change)

Quick ratio = ($5,750 $2,000)/$3,000 = 1.25 (increase)
Debt-to-equity ratio = $4,750/$6,000 = 0.79 (no change)
b. Current ratio = $5,250/$3,000 = 1.75 (decrease)
Quick ratio = ($5,250 $2,500)/$3,000 = 0.92 (decrease)
Debt-to-equity ratio = $4,750/$6,000 = 0.79 (no change)
c.

Current ratio = $6,250/$3,500 = 1.79 (decrease)

Quick ratio = ($6,250 $3,000)/$3,500 = 0.93 (decrease)
Debt-to-equity ratio = $5,250/$6,000= 0.88 (increase)

d. Current ratio = $5,750/$3,000 = 1.92 (no change)

Quick ratio = ($5,750 $2,500)/$3,000 = 1.08 (no change)
Debt-to-equity ratio = $6,750/$6,000 = 1.13 (increase)
e. Current ratio = $5,750/$3,000 = 1.92 (no change)
Quick ratio = ($5,750 $2,500)/$3,000 = 1.08 (no change)
Debt-to-equity ratio = $4,750/$8,000 = 0.59 (decrease)

22. ATCF = EAT + Depreciation + Deferred taxes

= $650,000 + $400,000 + $100,000
= $1,150,000

CHAPTER 3/EVALUATION OF FINANCIAL PERFORMANCE 25

23. Summit Furniture Company Statement of Cash Flows

For the Year Ended December 31, 20X1
Increase (Decrease) in Cash and Cash Equivalents
Cash Flows from Operating Activities:
Cash received from customers
Cash paid to suppliers and employees
Interest received
Interest paid (net of amount capitalized)
Income taxes paid
Net cash provided (used) by operating activities

$142,000
(120,000)
600
(2,000)
(6,000)
$14,600

Cash Flows from Investing Activities:

Proceeds from sale of asset
Capital expenditures
Net cash provided (used) by investing activities

$1,000
(22,000)
($21,000)

Cash Flows from Financing Activities

Net borrowings under bank line-of-credit agreement
Repayments of long-term debt
Proceeds from issuance of long-term debt
Dividends paid
Net cash provided (used) by financing activities
Net increase (decrease) in cash and cash equivalents
Cash and cash equivalents at beginning of year
Cash and cash equivalents at end of year

$1,000
(2,600)
4,000
(800)
$1,600
($4,800)
5,000
$200

24. Midland Manufacturing Corporation

Statement of Cash Flows For the Year Ended December 31, 20X2
($ millions)
Cash Flows from Operating Activities:
Net income
Adjustments to reconcile net income to net cash provided
from operating activities
Depreciation
(Increase) decrease in current assets or liabilities
Accounts receivable
Inventories
Accounts payable
Other current liabilities
Increase (decrease) in deferred taxes
Total adjustments
Net cash provided from (used by) operating activities

$8.3
9.5
(0.3)
(0.7)
1.5
2.2
0.2
12.4
20.7

26 CHAPTER 3/EVALUATION OF FINANCIAL PERFORMANCE

Cash Flows from Investing Activities

Proceeds from sale of facilities or equipment
Capital expenditures
Net cash used by investing activities

1.0
(35.3)
(34.3)

Cash Flows from Financing Activities

Proceeds from issuance of long-term debt
Repayments of long-term debt
Dividends paid
Net cash provided from (used by) financing activities

15.0
(2.0)
(3.5)
9.5

Net Increase (Decrease) in Cash

Cash - Beginning of Year
Cash - End of Year

(4.1)
4.9
$0.8

Noimprovementinliquidity,becausethecashthatisraisedistiedupinaverynonliquid
asset.
b. Noimprovementinliquidity,becausethefirmsmostliquidassets(cashandmarketable
securities)areconsumed.Eventhoughthecurrentratiowillincrease,liquiditywillactually
decline.
c. Yes,becausethedebtserviceonlongtermdebtisnormallylessthanonshorttermdebt.
Thereisnoimmediaterefinancingriskonlongtermdebt.Morecashflowwillbeavailablefor
otheruses.
d. Yes,because non-liquid assets become liquid assets.

25. a

26. No recommended solution.