D366 Financial Statement Analysis - Set 3 - Part 3

Correct Answer: Increase

The cash ratio equals cash and equivalents divided by current liabilities. If cash rises while current liabilities are unchanged, the ratio increases, reflecting improved immediate liquidity.

Correct Answer: Reveals whether a company's liquidity is improving or deteriorating over time

Trend analysis compares ratios across multiple periods, revealing the direction and pace of change in a company's liquidity, which is often more informative than a single period's value.

Correct Answer: Inventory

The quick ratio numerator includes cash, marketable securities, and receivables but excludes inventory because inventory is generally less liquid and slower to convert into cash.

Correct Answer: Long-run ability to meet all financial obligations and stay in business

Solvency reflects a company's long-run ability to meet all obligations, both short and long term, and continue operating. Insolvency ultimately threatens the firm's survival.

Correct Answer: 1.2

The quick ratio equals (current assets minus inventory) divided by current liabilities: ($500,000 - $200,000) divided by $250,000 equals $300,000 / $250,000, which is 1.2.

Correct Answer: Lower, indicating less reliance on debt

Creditors prefer lower debt-to-equity ratios because they indicate a larger equity cushion and less reliance on debt, reducing the risk that the company cannot repay its obligations.

Correct Answer: Financing new assets with debt rather than equity

Financing assets with debt increases total assets relative to equity, raising the equity multiplier and financial leverage. Issuing equity or repaying debt with equity would lower it.

Correct Answer: It does not reflect the timing and quality of assets and obligations

A single liquidity ratio may mask important details, such as slow-moving inventory, uncollectible receivables, or the timing of liabilities. Analysts combine multiple ratios and qualitative information for a complete picture.

Correct Answer: Liquidity

Liquidity refers to how quickly and easily an asset or company can convert holdings into cash without a significant loss in value, which is essential for meeting short-term obligations.

Correct Answer: Finances an asset purchase entirely with new debt

Buying an asset entirely with new debt raises total liabilities relative to total assets, increasing the debt-to-total-assets ratio and leverage. Repaying debt, issuing equity, or retaining earnings would lower it.