ch02 - CHAPTER 2 A Further Look at Financial Statements...

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CHAPTER 2 A Further Look at Financial Statements ANSWERS TO QUESTIONS 1. A company s operating cycle is the average time that is required to go from cash to cash in prod-ucing revenues. 2. Current assets are cash and other resources that are reasonably expected to be realized in cash or sold or consumed in the business within one year of the balance sheet date or the company s operating cycle, whichever is longer. Current assets are listed in the order in which they are exp-ected to be converted into cash. 3. Long-term investments are investments in stocks and bonds of other companies where the conversion into cash is not expected within one year or the operating cycle, whichever is longer. Property, plant, and equipment are tangible resources of a relatively permanent nature that are being used in the business and not intended for sale. 4. The major differences between current liabilities and long-term liabilities are: Difference Current Liabilities Long-term Liabilities Source of payment. Existing current assets or other current liabilities. Other than existing current assets or creating current liabilities. Time of expected payment. Within one year or the operating cycle, whichever is longer. Beyond one year or the operating cycle. Nature of items. Debts pertaining to the operating cycle and other short-term debts. Mortgages, bonds, and other long-term liabilities. 5. The two parts of stockholders equity and the purpose of each are: (1) Common stock is used to record investments of assets in the business by the owners (stockholders). (2) Retained earnings is used to record net income retained in the business. 6. (a) Glenda is not correct. There are three characteristics: liquidity, profitability, and solvency. (b) The three parties are not primarily interested in the same characteristics of a company. Short-term creditors are primarily interested in the liquidity of the enterprise. In contrast, long-term creditors and stockholders are primarily interested in the profitability and solvency of the company.
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7. (a) Liquidity ratios: Working capital and current ratio. (b) Solvency ratios: Debt to total assets and free cash flow. (c) Profitability ratio: Earnings per share. 8. Debt financing is riskier than equity financing because debt must be repaid at specific points in time, whether the company is performing well or not. Thus, the higher the percentage of assets financed by debt, the riskier the company. 9. (a) Liquidity ratios measure the short-term ability of the company to pay its maturing obligations and to meet unexpected needs for cash. (b) Profitability ratios measure the income or operating success of a company for a given period of time. (c)
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ch02 - CHAPTER 2 A Further Look at Financial Statements...

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