Chapter 4 – Sample Problems

1. TCBW last year had an average collection period (days sales outstanding) of 35 days based on accounts
receivable of $460,000. All of the firm's sales are made on credit. The firm expects sales this year to be the
same as last year. However, the company has begun a new credit policy that should lower the average collection
period to 28 days. If the new average collection period is attained, what will the firm's accounts receivable
balance equal?
a. $427,800
b. $460,000
c. $338,928
d. $368,000
e. $505,632

2. The RRR Company has a target current ratio of 3.2. Presently, the current ratio is 4.4 based on current assets
of $6,556,000. If RRR expands its inventory using short-term liabilities (maturities less than one year), how
much additional funding can it obtain before its target current ratio is reached?
a. $855,802
b. $558,750
c. $666,182
d. $812,727
e. $913,749

3. AAA's inventory turnover ratio is 22.30 based on sales of $25,200,000. The firm's current ratio equals 10.21
with current liabilities equal to $290,000. If the firm's cash and marketable securities equal $732,342, what is
the firm's days sales outstanding?
a. 26.52
b. 32.28
c. 42.89
d. 15.91
e. 14.53

4. U KNO, Inc. uses only debt and common equity funds to finance its assets. This past year the firm's return on
total assets was 19%. The firm financed 39% percent of its assets using equity. What was the firm's return on
common equity?
a. 38.95%
b. 31.15%
c. 48.72%
d. 53.46%
e. 27.95%

5. Last year YYY Company had a 5.00% net profit margin based on $21,000,000 in sales and $14,000,000 of
total assets. During the coming year, the president has set a goal of attaining a 8% return on total assets. If YYY
finances 56% of its assets by borrowing, what will its return on common equity be next year if the return on
assets goal is achieved?
a. 19.95%
b. 14.29%
c. 16.02%
d. 18.18%
e. 12.82%

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6. The RRR Company has a target current ratio of 3.6. Presently, the current ratio is 4.5 based on current assets
of $8,505,000. If RRR expands its fixed assets using short-term liabilities (maturities less than one year), how
much additional funding can it obtain before its target current ratio is reached?
a. $654,231
b. $472,500
c. $549,372
d. $688,905
e. $735,552

7. AAA's inventory turnover ratio is 22.30 based on sales of $25,200,000. The firm's current ratio equals 10.21
with current liabilities equal to $290,000. What is the firm's quick ratio?
a. 10.21
b. 6.31
c. 8.57
d. 3.58
e. 12.60

8. Use the information below to calculate the firm's return on common equity. (State your answer as a
percentage with two decimal places.) Net profit margin = 11.88%; Debt ratio = 44.29%; Fixed asset turnover =
7.54; Total asset turnover = 3.50 ; Inventory turnover = 22.3.
a. 38.88%
b. 41.58%
c. 56.46%
d. 32.14%
e. 74.64%

9. U KNO, Inc. uses only debt and common equity funds to finance its assets. This past year the firm's return on
total assets was 19%. The firm financed 30% percent of its assets using debt. What was the firm's return on
common equity?
a. 24.36%
b. 63.33%
c. 47.26%
d. 69.50%
e. 27.14%

10. Last year YYY Company had a 7.00% net profit margin based on $24,000,000 in sales and $13,000,000 of
total assets. During the coming year, the president has set a goal of attaining a 14% return on total assets. How
much must firm sales equal, other things being the same, for the goal to be achieved?
a. $28,529,800
b. $24,000,000
c. $29,777,020
d. $26,000,000
e. $21,535,200
11. Russell Securities has $267 million in total assets and its corporate tax rate is 40%. The company recently
reported that its basic earning power (BEP) ratio was 50% and its return on assets (ROA) was 13%. What was
the company's interest expense? (Answers are in millions.)
a. $98.79
b. $75.65
c. $133.50
d. $160.20
e. $23.14
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12. You are given the following information: Stockholders' equity = $205 million; price/earnings ratio = 43;
shares outstanding = 11,080,000; and market/book ratio =6.75. Calculate the market price of a share of the
company's stock..
a. $133.93
b. $18.50
c. $106.39
d. $124.89
e. $17.05

13. Strack Houseware Supplies Inc. has $866 million in total assets. The other side of its balance sheet consists
of $95.26 million in current liabilities, $251.14 million in long-term debt, and $519.60 million in common
equity. The company has 16,100,000 shares of common stock outstanding, and its stock price is $59 per share.
What is Strack's market-to-book ratio?
a. 9.63
b. 8.81
c. 1.67
d. 1.83
e. 1.37

14. Moss Motors has $108 million in assets, and its tax rate is 40%. The company's basic earning power (BEP)
ratio is 42%, and its return on assets (ROA) is 11%. What is Moss' times-interest-earned (TIE) ratio?
a. 0.77
b. 0.46
c. 1.77
d. 2.00
e. 0.36

15. The Wilson Corporation has the following relationships: Sales/Total assets = 3;Return on assets (ROA) =
15%; Return on equity (ROE) = 17%. What is Wilson's profit margin?
a. 7.16%
b. 5.67%
c. 5.00%
d. 8.89%
e. 4.66%

16. Cleveland Corporation has 13,240,000 shares of common stock outstanding, its net income is $241 million,
and its P/E is 15.1. What is the company's stock price?
a. $13.37
b. $3,639.10
c. $15.96
d. $4,379.29
e. $274.86
17. A fire has destroyed a large percentage of the financial records of the Carter Company. You have the task
of piecing together information in order to release a financial report. You have found the return on equity to be
25%. If sales were $61,000,000, the debt ratio was 40%, and total liabilities were $12,000,000, what would be
the return on assets (ROA)?
a. 8.33%
b. 10.00%
c. 16.56%
d. 19.94%
e. 15.00%
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18. Peterson Packaging Corp. has $2,072 million in total assets. The company's basic earning power (BEP)
ratio is 13%, and its times-interest-earned ratio is 4.32. Peterson's depreciation and amortization expense totals
$73 million. It has $55 million in lease payments and $39 million must go towards principal payments on
outstanding loans and long-term debt. What is Peterson's EBITDA coverage ratio?
a. 1.94
b. 7.03
c. 4.11
d. 2.54
e. 3.45

19. The Wilson Corporation has the following relationships: Sales/Total assets = 5; Return on total assets
(ROA) = 13%; Return on common equity (ROE) = 16%. What is Wilson's debt ratio?
a. 93.25%
b. 81.25%
c. 6.75%
d. 18.75%
e. 103.51%

Use the following information to answer questions 20, 21, 22, and 23.

Balance Sheet
Current assets
Cash 960,000
Acc receivable
Inventories 1,440,000
Fixed assets 4,800,000
TOTAL ASSETS 8,000,000

Current liabilities
Acc payable
Long-term debt 3,200,000
Common stock 640,000
Retained earnings 3,160,000
TOTAL LIAB and EQUITY 8,000,000

Income Statement
Sales 24,000,000
Operating expense 18,240,000
EBIT 5,760,000
Interest expense 416,000
EBT 5,344,000
Taxes 2,138,000
Net income 3,206,000

20. What is the firm's days sales outstanding?

a. 9.53
b. 36.50
c. 48.67
d. 12.17
e. 43.29

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21. What is the firm's debt ratio?
a. 87.50%
b. 40.00%
c. 47.50%
d. 52.50%
e. 92.00%

22. What is the firm's quick ratio?

a. 0.42
b. 3.20
c. 2.40
d. 1.76
e. 0.76

23. What is the firm's return on common equity?

a. 40.08%
b. 500.94%
c. 101.46%
d. 84.37%
e. 45.80%

Answers:
1. d
2. d
3. d
4. c
5. d
6. b
7. b
8. e
9. e
10. d
11. b
12. d
13. d
14. c
15. c
16. e
17. e
18. d
19. d
20. d
21. d
22. d
23. d

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1. DSO = REC/(Sales/365)

Last year
35 = (460,000)/(sales/365)
35(sales/365) = 460,000
(35/365)(Sales) = 460,000
Sales = 460,000/(35/365)
Sales = 4,797,143

New
28 = (REC)/[(4,797,143)/(365)]
(28)[(4,797,143)/(365)] = REC
368,000 = REC

2. CR = CA/CL

Presently
4.4 = (6,556,000)/CL
4.4CL = 6,556,000
CL = (6,556,000)/(4.4)
CL = 1,490,000

Expand inventory (so current assets go up by X)

Using short-term liabilities (current liabilities) so CL go up by same amount (X)

Target
3.2 = (6,556,000+X)/(1,490,000+X)
3.2(1,490,000+X) = 6,556,000 + X
4,768,000 + 3.2X = 6,556,000 + X
2.2X = 1,788,000
X = (1,788,000)/(2.2) = 812,727

3. ITR = Sales/INV
22.3 = (25,200,000)/(INV)
22.3INV = 25,200,000
INV = (25, 200,000)/(22.3) = 1,130,045

CR=CA/CL
10.21 = CA/(290,000)
(10.21)(290,000) = 2, 960,900

We are given that cash and marketable securities = 732,342

Current assets = cash and marketable securities + receivables + inventory
2,960,900 = 732,342 + REC + 1,130,045
REC = 1,098,513

DSO = REC/(Sales/365)
DSO = (1,098,513)/(25,200,000/365)
DSO = 15.91
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4. ROE = ROA(1/(1-DR))
39% of assets financed with equity, so 61% of assets financed with debt.
The debt ratio tells us what % of assets are financed with debt – so debt ratio = 61%.

ROE = (19%)(1/(1-0.61)) = 48.72%

5. ROE = ROA(1/(1-DR))
56% of assets are financed with debt (this is the debt ratio)

ROE = (8%)(1/(1-0.56)) = 18.18%

6. CR = CA/CL

Presently
4.5 = (8,505,000)/CL
4.5CL = 8,505,000
CL = (8,505,000)/(4.5)
CL = 1,890,000

Expand fixed assets (so current assets do not change)

Using short-term liabilities (current liabilities) so CL go up by X

Target
3.6 = (8,505,000)/(1,890,000+X)
3.6(1,890,000+X) = 8,505,000
6,804,000 + 3.6X = 8,505,000
3.6X = 1,701,000
X = (1,701,000)/(3.6) = 472,500

7. ITR = Sales/INV
22.30 = (25,200,000)/(INV)
22.30INV = 25,200,000
INV = 1,130,045

CR = CR/CL

10.21 = CA/(290,000)
CA = 2,960,900

QR = (CA – INV)/(CL)
QR = (2,960,900 – 1,130,045)/(290,000)
QR = 6.31

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8. ROE = (NPM)(TATR)(1/(1-DR))

ROE = (11.88%)(3.50)(1/(1-0.4429)) = ROE = 74.64%

9. ROE = ROA(1/(1-DR))
Debt ratio = 30% since that % of assets are financed with debt

ROE = (19%)(1/(1-0.30)) = 27.14%

10. ROA = NI/TA

0.14 = (NI)/(13,000,000)
(0.14)(13,000,000) = NI
NI = 1,820,000

NPM = NI/Sales
0.07 = (1,820,000)/Sales
0.07Sales = 1,820,000
Sales = (1,820,000)/(0.07) = 26,000,000

11. ROA = NI/TA

0.13 = (NI)/(267,000,000)
NI = (0.13)(267,000,000) = 34,710,000

BEP = EBIT/TA
0.50 = (EBIT)/(267,000,000)
EBIT = (0.50)(267,000,000) = 133,500,000

NI = (EBIT – INT)(1 – T)
34,710,000 = (133,500,000 – INT)(1 – 0.40)
(34,710,000)/(1-0.40) = 133,500,000 – INT
57,850,000 = 133,500,000 – INT
75,650,000 = INT

12. mkt-to-book = (market value of equity)/(book value of equity)

Market value of equity = (shares outstanding)(price per share)
Book value of equity = total value of equity on balance sheet = stockholder’s equity

Mkt-to-book = [(shares)(price)]/(book value of equity)

6.75 = [(11,080,000)(price)]/(205,000,000)
(6.75)(205,000,000) = (11,080,000)(price)
1,383,750,000 = (11,080,000)(price)
Price = (1,383,750,000)/(11,080,000) = 124.89

13. mkt-to-book = [(shares)(price)]/(book value of equity)

Mkt-to-book = [(16,100,000)(59)]/(519,600,000) = 1.83

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14. BEP = EBIT/TA
0.42 = (EBIT)/(108,000,000)
EBIT = (0.42)(108,000,000) = 45,360,000

ROA = NI/TA
0.11 = (NI)/(108,000,000)
NI = (0.11)(108,000,000) = 11,880,000

NI = (EBIT – INT)(1 – T)
11,880,000 = (45,360,000 – INT)(1 - 0.40)
(11,880,000)/(1 - 0.40) = 45,360,000 – INT
19,800,000 = 45,360,000 – INT
INT = 25,560,000

TIE = EBIT/INT
TIE = (45,360,000)/(25,560,000) = 1.77

15. ROA = (NPM)(TATR)

0.15 = (NPM)(3)
NPM = (0.15)/(3) = 0.05 = 5%

16. PE ratio = (price per share)/(earnings per share)

Earnings per share = EPS = (net income)/(shares outstanding)
EPS = (241,000,000)/(13,240,000) = 18.2024

PE ratio = (price)/(EPS)
15.1 = (price)/(18.2024)
Price = (15.1)(18.2024) = 274.86

17. ROE = ROA(1/(1-DR))

0.25 = ROA(1/(1 – 0.40))
ROA = (0.25)(1 – 0.40) = 0.15 = 15%

18. BEP = EBIT/TA

0.13 = (EBIT)/(2,072,000,000)
EBIT = (0.13)(2,072,000,000) = 269,360,000

TIE = EBIT/INT
4.32 = (269,360,000)/INT
4.32INT = 269,360,000
INT = (269,360,000)/(4.32) = 62,350,000

EBITDA = EBIT + DA = 269,360,000 + 73,000,000 = 342,360,000

EBITDA coverage ratio = (EBITDA + lease pmts)/(INT + prin pmts + lease pmts)
EBITDA cov = (342,360,000 + 55,000,000)/(62,350,000 + 39,000,000 + 55,000,000) = 2.54
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19. ROE = ROA(1/(1-DR))
0.16 = (0.13)(1/(1-DR))
(0.16)/(0.13) = (1/(1-DR))
1.2308 = (1/(1-DR))
(1.2308)(1-DR) = 1
1.2308 – 1.2308DR = 1
-1.2308DR = -0.2308
DR = (-0.2308)/(-1.2308) = 0.1875 = 18.75%

20. DSO = REC/(Sales/365)

In this problem:
TA = Cash + REC + INV + FA
8,000,000 = 960,000 + REC + 1,440,000 + 4,800,000
REC = 800,000

DSO = (800,000)/[(24,000,000)/(365)] = 12.17

21. DR = (total debt)/(total assets) = (total liabilities)/(total assets)

In this problem:
TL&Eq = AccPay + LTD + Common stock + RE
Total liabilities = AccPay + LTD
TL&Eq = total liabilities + Common stock + RE
8,000,000 = total liabilities + 640,000 + 3,160,000
Total liabilities = 4,200,000

DR = (4,200,000)/(8,000,000) = 0.5250 = 52.50%

22. QR = (CA – INV)/CL

Total assets = current assets + fixed assets

8,000,000 = current assets + 4,800,000
Current assets = 3,200,000

TL&Eq = CL +LTD + total equity

8,000,000 = CL + 3,200,000 + 640,000 + 3,160,000
CL = 1,000,000

QR = (3,200,000 – 1,440,000)/(1,000,000) = 1.76

23. ROE = NI/CE

CE = total common equity = sum of all equity accounts
In this problem:
CE = common stock + RE = 640,000 + 3,160,000 = 3,800,000

ROE = (3,206,000)/(3,800,000) = 0.8437 = 84.37%

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