Investment Analysis (FIN 670) Fall 2009

Homework 9

Instructions: please read carefully • •

You should show your work how to get the answer for each calculation question to get full credit The due date is Tue Dec 15, 2009. Late homework will not be graded.

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1. At what stage of industry life cycle a company would face an influx of competition? a. Start-up b. Consolidation c. Maturity d. Relative decline 2. ______________ is an example of a defensive industry. a. Food producers b. Auto manufacturers c. Both A and B are examples. d. Neither A nor B is an example. 3. Companies in the maturity state of the industry life cycle are sometimes referred to as ______________. a. falling stars b. bargains c. turnarounds d. cash cows 4. Which of the following will affect the sensitivity of a firm's earnings to the business cycle? a. Operating leverage. b. Dividend policy. c. Tax liabilities. d. None of the above will. 5. According to the section rotation analysis, investors should invest more heavily in ______________ when the economy enters a contraction stage. a. cyclical industry b. defensive industry c. Either industry. d. Both industries. 6. Which of the following is a characteristic of the start-up stage of the industry life cycle? a. New technology. b. Many competitors. c. Slow growth. d. Dominant industry leader. 7. Which of the following is true about industry analysis? a. When the economy is booming, rates of return across industry do not vary greatly. b. When the economy is weak, rates of return across industry do not vary greatly. c. Rates of return across industry vary during a specific period of time. d. Rates of return across industry do not vary over time 8. When the Federal Reserve ______________ the discount rate, the money supply of the economy will increase. a. Raises b. Lowers c. does not change d. None of the above.

9. What is the first step of a proper top-down analysis of a company's prospects? a. The analysis of the global economy. b. The analysis of the domestic economy. c. The analysis of the industry the company is in. d. The analysis of the company's fundamentals.

10. Fiscal policy refers to the government's ______________ to stabilize the economy. a. influence of money supply and demand b. trading policy c. technology development d. spending and taxing 11. ______________ are indicators whose values reach troughs and peaks before the aggregate economy does. a. Front-running indicators b. Lagging indicators c. Leading indicators d. First indicators 12. Monetary policy refers to the government's ______________ to change investment and consumption demand. a. manipulation of money supply b. taxing policy c. exchange rate policy d. interstate business policy Use the following to answer questions 13-16: An industry analysis for manufacturers of a small personal care gadget observed the following characteristics: • Industry sales have grown at 15-20% per year in recent years are expected to grow at 10-15% per year over the next three years. • Some U.S. manufacturers are attempting to enter fast growing non-U.S. markets, which remain largely unexploited. • Some manufacturers have created a new niche in the industry by selling directly to customers through mail order. Sales for this industry segment are growing at 40% per year. • The current penetration rate in the U.S. is 60% of households and will be difficult to increase. • Manufacturers compete fiercely on the basis of price, and price wars within the industry are common. • Some manufacturers are able to develop new, unexploited niche markets in the U.S. based on company reputation, quality, and service. • Several manufacturers have recently merged, and it is expected that consolidation in the industry will increase. • New manufacturers continue to enter the market.

13.

Characteristics 4 and 5 would indicate that the industry is in the ___ stage. A) Start-up B) Consolidation C) Maturity D) Relative decline

14. Characteristics ____ would be typical of an industry that is in the start-up stage. A) 4 and 7 B) 1 and 4 C) 2 and 5 D) none of the above 15. Characteristics ____ would be typical of an industry that is in the consolidation stage. A) 6 and 7 B) 1 and 4 C) 5 and 6 D) none of the above 16.Characteristics ____ would be typical of an industry that is in the maturity stage. A) 1, 2 and 3 B) 4 and 5 C) 6, 7 and 8 D) none of the above

17. Consider two firms producing DVDs. One uses a highly automated robotic process, while the other use human workers on an assembly line and pays over time where there is heavy production demand. a. Which firm will have higher profits in a recession? In a boom? Explain briefly

b. Which firm’s stock will have higher beta. Explain briefly

18. For each pair of firms, choose the one that you think would be more sensitive to the business cycle a. General Autos or General Pharmaceuticals. Explain briefly.

b. Friendly Airlines or Happy Cinemas. Explain briefly.

19. Here are four industries and four forecasts for the macroeconomy. Choose the industry that you would expect to perform best in each scenario. Industries: Housing construction, health care, gold mining, steel production. Economic Forecasts: Deep recession: Falling inflation, falling interest rates, falling GDP. Superheated economy: Rapidly rising GDP, increasing inflation and interest rates. Healthy expansion: Rising GDP, mild inflation, low unemployment. Stagflation: Falling GDP, high inflation.

20. If you believe the U.S. dollar is about to depreciate more dramatically than do other investors, what will be your stance on investments in U.S. auto producers?

21. A firm ______________ its ROE by using more debt in its capital structure. a. can increase b. can decrease c. cannot change d. More information is required. 22. A company in a 30% tax bracket will have a margin of ______________ if its ROA is 16% and asset turnover is 2. a. 8% b. 10% c. 16% d. 30% 23. What is a company's debt to equity ratio if its asset to equity ratio is 2? a. 0.5 b. 1 c. 2 d. 2.5 24. National Furniture Company has an ROE of 11.9%, a debt/equity ratio of 2/3, a tax rate of 30%, and an interest rate on its debt of 12%. Its ROA is a. 12% b. 15% c. 20% d. 24% 25. The Asset Turnover of a company can be improved by ______________. a. cutting operating expenses b. investing more efficiently with its assets c. borrowing more debt d. cutting operating and interest expenses 26. What is the most correct relationship between a company's ROE and ROA when the company does not borrow any debt? a. ROE > ROA b. ROE = ROA c. ROE < ROA d. ROE = (1 + T)ROA 27. The capital structure of a company can be determined by using information from ______________. a. the income statement b. the cash flow statement c. the balance sheet d. None of the above.

28.

Which of the following balance sheet items is not considered an asset? A) inventory B) accounts receivable C) accrued taxes D) All of the above are assets

29.

A firm has a ROE of 20% and a market-to-book ratio of 2.38. Its P/E ratio is __________. A) 8.40 B) 11.90 C) 17.62 D) 47.60

Use the following to answer questions 30-33: The financial statements of Shuswap Lake Manufacturing Company are given below.

Note: The common shares are trading in the stock market for $160 each.

30.

The firm's current ratio for 2005 is __________. A) 0.90 B) 1.44 C) 1.89 D) 2.80

31.

The firm's leverage ratio for 2004 is __________. A) 0.90 B) 1.56 C) 1.89 D) 3.13

32.

The firm's fixed asset turnover ratio for 2005 is __________. Please keep in mind that when a ratio involves both income statement and balance sheet numbers, the balance sheet numbers for the beginning and end of the year must be averaged. A) 3.39 B) 3.60 C) 6.00 D) 12.00

33.

The firm's asset turnover ratio for 2005 is__________. Please keep in mind that when a ratio involves both income statement and balance sheet numbers, the balance sheet numbers for the beginning and end of the year must be averaged. A) 0.90 B) 1.56 C) 1.92 D) 2.80

34.

The net income of the company is $970. Taxes payable decrease by $120, depreciation is $85, and fixed assets are sold for $90. If the firm's inventories also decline by $65, what is the total change in cash for the firm for all activities? A) Increase of $970 B) Increase of $1090 C) Decrease of $970 D) Decrease of $1090

35. Yesterday, Bicksler Corporation purchased (and received) raw materials on credit from its supplier. All else equal, if Bicksler’s current ratio was 2.0 before the purchase, what effect did this transaction have on Bicksler’s current ratio? a. increased b. decreased c. stayed the same d. There is not enough information to answer this question. e. None of the above is a correct answer.

36. The Crusty Pie Co., which specializes in apple turnovers, has a return on sales higher than the industry average, yet its ROA is the same as the industry average. How can you explain this?

37. The ABC Corporation has a profit margin on sales below the industry average, yet its ROA is above the industry average. What does this imply about its asset turnover?

38. Jones Group has been generating stable after-tax return on equity (ROE) despite declining operating income. Explain how it might be able to maintain its stable after-tax ROE.

39. A company’s current ratio is 2.0. If the company uses cash to retire notes payable due within one year, would this transaction increase or decrease the current ratio? What about the asset turnover ratio?

40. The financial statements for Chicago Refrigerator Inc. are to be used to compute the ratios a through h for 2005.

a. Quick ratio.

b. Return on assets.

c. Return on common shareholders’ equity.

d. Earnings per share of common stock.

e. Profit margin.

f.

ԜTimes interest earned.

g. Inventory turnover.

h. Leverage ratio.

41. Scott Kelly is reviewing MasterToy’s financial statements in order to estimate its sustainable growth rate. Using the information presented in Table 41A TABLE 41A

Mastertoy, Inc.: Actual 2004 and estimated 2005 financial statements for fiscal year ending December 31 ($ millions, except per-share data)

a. Identify and calculate the components of the DuPont formula.

b. Calculate the ROE for 2005 using the components of the DuPont formula.

c. Calculate the sustainable growth rate for 2005 from the firm’s ROE and plowback ratios.