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Unformatted text preview: Solutions Manual, Chapter 17 449 CHAPTER 17 ANALYSIS AND INTERPRETATION OF FINANCIAL STATEMENTS ANSWERS TO QUESTIONS 1. The major sources of financial information for publicly owned corporations are: (1) published annual reports, which include financial statements, explanatory notes, letters to stockholders, reports of independent accountants, and management's discussion and analysis (MDA); (2) government reports and (3) financial service information, newspapers, and periodicals. 2. The company is not necessarily better off. It depends on what is done to make the turnover rate higher. The turnover rate is computed by dividing average net accounts receivable into net credit sales. Through the use of very stringent screening policies or collection policies or both, the average balances of net accounts receivable may have been reduced. In this instance, it is likely that net sales would be reduced also. If net sales were reduced less than proportionally to the decrease in net accounts receivable, the turnover ratio would increase. The effect on income could be negative, however. 3. The current ratio is misleading as a short-term debt-paying ability indicator when: a. A large proportion of the current assets is composed of slow-moving inventory and prepaid expenses. (The acid-test ratio offers a remedy to this situation.) b. The current liabilities are due immediately and the noncash current assets are slow in being converted into cash. c. Some of the current assets are carried at amounts greater than their net realizable values. The acid-test ratio is similarly misleading when: a. Accounts receivable are slow-moving and current liabilities are due almost immediately. b. Accounts receivable and marketable securities are carried at amounts greater than their net realizable values. 4. Since current liabilities are decreased, both the current ratio and the acid-test ratio will increase. The equity ratio will remain unchanged since both stockholders' equity and the total of liabilities and stockholders' equity remain unchanged. 5. In general, the objective sought is to increase the absolute amount of net income by securing increased volume even if this means lowering prices. Then, if investment can be held constant, all rates of return on investment (assets or stockholders' equity) will increase. Thus, a firm might have a rate of return on assets of 8% consisting of a 2% rate of net income to sales and a total assets turnover of 4. If, by reducing prices, the rate of net income to sales is cut to 1.8% but the turnover is increased to 5, the rate of return on assets is increased to 9%. 6. a. Acid-test ratio: s liabilitie Current assets Quick (or possibly the current ratio or cash-flow liquidity ratio). 450 Financial Accounting: A Business Perspective 9e b. The rate of return on operating assets computation: Rate of return on operating assets = assets Operating income operating Net c. The return on average common stockholders' equity: equity rs' stockholde...
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This note was uploaded on 02/08/2011 for the course ACCT 2101 taught by Professor Turner during the Spring '08 term at Georgia Tech.
- Spring '08