КФ / Лекции / Brealey Myers - Principles Of Corporate Finance 7th Ed (eBook)

c.Sales-to-assets ratio: an integrated pulp and paper manufacturer or a paper mill.

d.Average collection period: a supermarket chain or a mail-order company.

e.Price–earnings multiple: Basic Sludge Company or Fledgling Electronics.

5.A firm has $30,000 of inventory. If this represents 30 days’ sales, what is the annual cost of goods sold? What is the inventory turnover ratio?

6.Keller Cosmetics maintains a profit margin of 4 percent and a sales-to-assets ratio of 3.

a.What is its return on assets?

b.If its debt–equity ratio is 1.0, its interest payments and taxes are each $10,000, and EBIT is $40,000, what is the return on equity?

7.A firm has a long-term debt–equity ratio of .4. Shareholders’ equity is $1 million. Current assets are $200,000, and the current ratio is 2.0. Long-term assets total $1.5 million. What is the ratio of debt to total long-term capital?

8.Magic Flutes has total receivables of $3,000, which represent 20 days’ sales. Average total assets are $75,000. The firm’s profit margin is 5 percent. Find the firm’s return on assets and sales-to-assets ratio.

9.Consider this simplified balance sheet for Geomorph Trading:

600600

a.Calculate the ratio of debt to equity.

b.What are Geomorph’s net working capital and total long-term capital? Calculate the ratio of debt to total long-term capital.

10.Airlux Antarctica has current liabilities of $200 million and a crash—sorry—cash ratio of .05. How much cash and marketable securities does it hold?

11.On average, it takes Microlimp’s customers 60 days to pay their bills. If Microlimp has annual sales of $500 million, what is the average value of unpaid bills?

12.Executive Paper’s return on equity is higher than its return on assets. Is this always the case? Explain.

13.True or false?

a.Financial planning should attempt to minimize risk.

b.The primary aim of financial planning is to obtain better forecasts of future cash flows and earnings.

c.Financial planning is necessary because financing and investment decisions interact and should not be made independently.

d.Firms’ planning horizons rarely exceed three years.

e.Financial planning requires accurate forecasting.

f.Financial planning models should include as much detail as possible.

14.Table 29.10 summarizes the 2002 income statement and end-year balance sheet of Drake’s Bowling Alleys. Drake’s financial manager forecasts a 10 percent increase in sales and costs in 2003. The ratio of sales to average assets is expected to remain at .40. Interest is forecasted at 5 percent of debt at start of year.

a.What is the implied level of assets at the end of 2003?

b.If the company pays out 50 percent of net income as dividends, how much cash will Drake need to raise in the capital markets in 2003?

c.If Drake is unwilling to make an equity issue, what will be the debt ratio at the end of 2003?

g.Return on equity.

h.Payout ratio.

3.Select a sample of companies with financial statements on the Market Insight database (www.mhhe.com/edumarketinsight) and compare the days in inventory and the average collection period for receivables. Can you explain these differences?

4.This question reviews some of the difficulties encountered in interpreting accounting numbers.

a.Give four examples of important assets, liabilities, or transactions which may not be shown on the company’s books.

b.How does investment in intangible assets, such as research and development, distort accounting ratios? Give at least two examples.

c.Explain the three ways in which accelerating inflation affects earnings and profitability ratios based on historical-cost accounting.

5.Use financial ratio analysis to compare two companies chosen from the same industry.

6.Discuss alternative measures of financial leverage. Should the market value of equity be used or the book value? Is it better to use the market value of debt, the book value, or the book value discounted at the risk-free interest rate? How should you treat off- balance-sheet obligations such as pension liabilities? How would you treat preferred stock, deferred tax reserves, and minority interest?

7.Suppose that at year-end 1999 Executive Paper had unused lines of credit that would have allowed it to borrow a further $300 million. Suppose also that it used this line of credit to raise short-term loans of $300 million and invested the proceeds in marketable securities. Would the company have appeared to be (a) more or less liquid? (b) more or less highly levered? Calculate the appropriate ratios.

8.How would the following actions affect a firm’s current ratio?

a.Inventory is sold.

b.The firm takes out a bank loan to pay its suppliers.

c.A customer pays its overdue bills.

d.The firm uses cash to purchase additional inventories.

9.Sara Togas sells all its output to Federal Stores. The following table shows selected financial data, in millions, for the two firms:

Calculate the sales-to-assets ratio, the profit margin, and the return on the two firms. Now assume that the two companies merge. If Federal continues to sell goods worth $100 million, how will the three financial ratios change?

10.United Ratio’s common stock has a dividend yield of 4 percent. Its dividend per share is $2, and it has 10 million shares outstanding. If the market-to-book ratio is 1.5, what is the total book value of the equity?

11.As you can see, someone has spilled ink over some of the entries in the balance sheet and income statement of Transylvania Railroad (Table 29.12). Can you use the following information to work out the missing entries?

•Financial leverage: .4.

•Times-interest-earned: 8.

•Current ratio: 1.4.

•Quick ratio: 1.0.

•Cash ratio: .2.

•Return on total assets: .18.

•Return on equity: .41.

•Inventory turnover: 5.0.

•Receivables’ collection period: 71.2 days.

12.Here are some data for five companies in the same industry:

You have been asked to calculate a measure of the industry price–earnings ratio. Discuss the possible ways that you might calculate such a measure. Does changing the method of calculation make a significant difference to the end result?

13.Describe some of the ways that the choice of accounting technique can temporarily depress or inflate earnings.

14.How would rapid inflation affect the accuracy and relevance of a manufacturing company’s balance sheet and income statement? Does your answer depend on how much debt the company has issued?

15.In 1970 United Airlines bought four new jumbos for $21.8 million each. These planes

were written down straight-line over 16 years to a residual value of $0.2 million each. However, they could have been sold in 1986 for about $20 million each.22 How would the company’s financial ratios have changed if it had used a depreciation schedule that more nearly reflected the actual decline in aircraft values?

16.The British food company Ranks Hovis McDougall (RHM) believed that some of its most valuable assets were its brand names. Yet these assets are not usually shown on the balance sheet. In 1988 RHM changed its accounting policy to include the value of brand names and thereby added £678 million (nearly $1.2 billion) to the balance sheet. Do you think that this change would facilitate comparisons between firms?

17.Suppose you wish to use financial ratios to estimate the risk of a company’s stock. Which of those that we have described in this chapter are likely to be helpful? Can you think of other accounting measures of risk?

18.Look up some firms that have been in trouble. Plot the changes over the preceding years in the principal financial ratios. Are there any patterns?

19.List the major elements of a completed financial plan.

20.“There is no finance in financial planning models.” Explain.

21.What are the dangers and disadvantages of using a financial model? Discuss.

22.Should a financial plan be considered an unbiased forecast of future cash flows, earnings, and other financial variables? Why or why not?

23.Our model of Executive Paper is an example of a top-down planning model. Some firms use a bottom-up financial planning model, which incorporates forecasts of revenues and costs for particular products, advertising plans, major investment projects, and so on. What sort of firms would you expect to use each type, and what would they use them for?

24.Corporate financial plans are often used as a basis for judging subsequent performance. What do you think can be learned from such comparisons? What problems are likely to arise, and how might you cope with these problems?

25.What problems are likely to be encountered in keeping the financial plan up-to-date?

26.The balancing item in the Executive Paper model is borrowing. What is meant by balancing item? How would the model change if dividends were made the balancing item instead? In that case how would you suggest that planned borrowing be determined?

27.Construct a new model for Executive Paper based on your answer to question 26. Does your model generate a feasible financial plan for 2000? (Hint: If it doesn’t, you may have to allow the firm to issue stock.)

28.Executive Paper’s financial manager believed that revenues in 2000 would rise by as much as 50 percent or by as little as 10 percent. Recalculate the pro forma financial statements under these two assumptions. How does the rate of growth in revenues affect the firm’s borrowing requirement?

22See M. D. Staunton, Pricing of Airline Assets and Their Valuation by Securities Markets, unpublished PhD dissertation, London Business School, 1992.

29.a. Use the Executive Paper model (Tables 29.6–29.8) to produce pro forma income statements, balance sheets, and sources and uses of funds statements for 2000 and 2001. Assume business as usual except that sales and costs were planned to expand by 30 percent per year, as were fixed assets and net working capital. The interest rate was forecasted to remain at 10 percent and stock issues were ruled out. Executive Paper also stuck to its 60 percent dividend payout ratio.

b.What are the firm’s debt ratio and interest coverage under this plan?

c.Can the company continue to finance expansion by borrowing?

30.Table 29.13 shows the 2001 financial statements for the Executive Cheese Company. Annual depreciation is 10 percent of fixed assets at the beginning of the year, plus 10 percent of new investment. The company plans to invest a further $200 per year in fixed assets for the next five years and forecasts that the ratio of revenues to total assets at the start of each year will remain at 1.75. Fixed costs are expected to remain at $53, and variable costs, at 80 percent of revenue. The company’s policy is to pay out two-thirds of net income as dividends and to maintain a book debt ratio of 20 percent.