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practicetest2

# practicetest2 - Review for Test 2 Farm Management True...

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Review for Test 2 Farm Management

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True False Questions 1.A Net Capital Ratio of less than 0.4 is preferred by lenders. False: NCR = TA/TL You want TA higher than TL, and a NCR of about 2.5 or higher. Debt-to-Asset should be less than 0.4
True False Questions 2.The income statement provides a good measure of solvency . . . False: Solvency is measured using the Balance Sheet. Profit is measured on the income statement.

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True False Questions 3.If the average borrowing rate for funds is 8% and the rate of return on equity is 10%, then the rate of return on capital will be higher than 10%. False: If the borrowing rate is less than ROE, then borrowed money is earning an average profit. When borrowed money earns a profit, ROE greater than ROC.
A detailed look Say you have \$100,000 in assets. Debt is \$50,000 and equity is \$50,000. If you have 8% interest rate on your debt, you will pay \$4,000 in interest. If your equity capital earns 10%, it will earn \$5,000. The rate of return on capital will equal: ROC = (4,000 + 5,000)/\$100,000 or 9%

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If a firm has any debt If a firm has any debt, ROC will always fall between the interest rate paid on debt and the ROE. So you can line them up. Interest Rate ROC ROE 8% between 10% Borrowed money making money (10% > 8%) and ROE > ROC
The other situation Interest rate = 12% ROE = 8% ROE ROC Interest Rate 8% between 12% Borrowed money losing money (8% < 12%) and ROC> ROE

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4.The balance sheet can be used to find measures of solvency and liquidity. True
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practicetest2 - Review for Test 2 Farm Management True...

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