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Unformatted text preview: FNCE 3010 (Durham). HW3 (Financial ratios) 1. What effect would the following actions have on a firms net working capital and current ratio (assume NWC is positive and current ratio is initially greater than 1)? (a) Inventory is purchased. (b) A supplier is paid. (c) A short-term bank loan is repaid. (d) A long-term debt is paid off early. (e) A customer pays off a credit account. (f) Inventory is sold at cost. (g) Inventory is sold for a profit. Solution: (a) NWC is unchanged. If inventory is purchased with cash, then there is no change in the current ratio. If inventory is purchased on credit, then there is a decrease in the current ratio if it was initially greater than 1.0. (b) NWC is unchanged. Reducing accounts payable with cash increases the current ratio if it was initially greater than 1.0. (c) NWC is unchanged. Reducing short-term debt with cash increases the current ratio if it was initially greater than 1.0. (d) NWC and current ratio decrease. (e) NWC and current ratio are unchanged. (f) NWC and current ratio are unchanged. (g) NWC and current ratio increase. 2. Explain what peer group analysis means. As a financial manager, how could you use the results of peer group analysis to evaluate the performance of your firm? How is a peer group different from an aspirant group? Solution: 1 Peer group analysis involves comparing the financial ratios and operating per- formance of a particular firm to a set of peer group firms in the same industry or line of business. Comparing a firm to its peers allows the financial manager to evaluate whether some aspects of the firms operations, finances, or investment activities are out of line with the norm, thereby providing some guidance on appropriate actions to take to adjust these ratios if appropriate. An aspirant group would be a set of firms whose performance the company in question would like to emulate. The financial manager often uses the financial ratios of aspirant groups as the target ratios for his or her firm; some managers are evaluated by how well they match the performance of an identified aspirant group.how well they match the performance of an identified aspirant group....
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This note was uploaded on 03/31/2008 for the course FNCE 3010 taught by Professor Donchez,ro during the Fall '07 term at Colorado.
- Fall '07
- Corporate Finance