Ratios & Financial Management

Question 1

Operating Leverage

Answer 1

How sensitive a company’s operating income is to changes in sales

Question 2

Degree of Operating Leverage

Answer 2

% change in Operating Income (EBIT)/ % change in Sales

Question 3

Having high operating leverage is (increase/decrease) risk, (increase/decrease) reward and indicates more (variable/fixed costs)

Answer 3

increased risk, increased reward, fixed costs

Question 4

Having a lower operating leverage indicates more (variable/fixed costsO

Answer 4

variable costs

Question 5

The higher the DOL is, the (greater/less) operating income is sensitive to changes in sales

Answer 5

greater

Question 6

Financial leverage

Answer 6

How sensitive a company’s EPS is to fluctuations in operating income as a result of capital structure

Question 7

What are fixed financial leverage costs?

Answer 7

Interest on bond debt

Question 8

What are variable financial leverage costs?

Answer 8

dividends

Question 9

What are fixed operating leverage costs?

Answer 9

Rent/utilities

Question 10

What are variable operating leverage costs?

Answer 10

Sales commissions

Question 11

Return on Investment

Answer 11

Net income (net of tax)/ Invested Capital* or Total Investment

*(debt + equity)

Question 12

How can we utilize profit margin to calculate return on investment?

Answer 12

Profit Margin x Investment Turnover

Question 13

T/F higher % is better and indicates more profit?

Answer 13

F - higher % is better, but doesn’t indicate profit

Question 14

Profit Margin

Answer 14

Net Income/ Sales

Question 15

Investment Turnover

Answer 15

Sales/ Average total investment

Question 16

Return on Equity

Answer 16

Net Income/ Total Stockholder’s Equity

Question 17

Dupont Formula

Answer 17

Net Profit Margin x Asset Turnover X Financial Leverage

Question 18

What does Net Profit Margin tell us?

Answer 18

For every dollar of sales, how much profit is being produced

Question 19

What does Asset Turnover tell us?

Answer 19

Degree of efficiency company is in using its assets

Question 20

What does Financial Leverage tell us?

Answer 20

Extent to which a company uses debt in its capital structure

Question 21

Return on Assets

Answer 21

Net Income/ Total Assets

Question 22

Residual Income

Answer 22

Measures excess of income earned above and beyond required return expressed in dollars

Question 23

RI Formula

Answer 23

(Invested Capital x % rate of return) - Operating income from investment

Question 24

Economic Value Added

Answer 24

Measures net operating profit (NOPAT) after taxes to weighted average cost of capital

Question 25

EVA Formula

Answer 25

NOPAT: EBIT x (1-tax rate)
NOPAT - Required Return in dollars*

*Total assets x WACC %

Question 26

APR of Quick Payment Discount

Answer 26

Discount %/(1-discount %) X Total Days in Year/Days paid early

Question 27

What are the steps of factoring receivables?

Answer 27

1. Calculate Interest costs
   A. Monthly receivables advanced % X Average Receivables
   B. Interest on monthly advance
   C. Multiply by 12 for annual interest
2. Calculate Factoring Fee
   A. Monthly factoring fee
   B. Multiply by 12 for annual factoring fee
3. Calculate total Annual Cost
   Annual interest + Annual Factoring - Annual Savings
4. Calculate % of Factoring
   Annual Cost/Average Monthly Advances

Question 28

Float

Answer 28

Difference between the balance of checks outstanding (which haven’t cleared the bank) and deposits made that haven’t cleared the bank

Question 29

Objective of utilizing float

Answer 29

Minimize collection float and maximize disbursement float

Question 30

Inventory Turnover

Answer 30

COGS/Average Inventory

Question 31

Inventory Conversion

Answer 31

365 X EI/COGS

Question 32

AR Turnover

Answer 32

Net Credit Sales/ Average AR