5. More on debt management ratios

The extent of financial leverage in a firm

Debt ratios measure the proportion of total assets financed by a firms creditors.

Question #1 Carlson Co. has a debt-to-equity ratio of 3.20, compared to the industry average of 2.56. Its competitor Tucci Co., however, has a debt-to-equity ratio of 4.80. Based on what debt-to-equity ratios imply, which of the following statements is true? A. Tucci Co.s creditors face lesser risk than the average financial risk in the industry. B. Carlson Co.s shareholders expect magnified returns but higher risk as compared to Tucci Co. C. Tucci Co. has higher creditworthiness as compared to Carlson Co. D. Tucci Co. has greater financial risk as compared to Carlson Co. and to the average financial risk in the industry.

Question #2 Suppose the stock price of Carlson Co. falls by 10%. What impact will it have on its market-to-debt ratio if nothing changes in the companys balance sheet? A. The market debt ratio will increase, reflecting an increase in the financial risk of the company. B. The market debt ratio will decrease, reflecting an increase in the financial risk of the company. C. The market debt ratio will decrease, reflecting a decrease in the financial risk of the company. D. The market debt ratio will increase, reflecting a decrease in the financial risk of the company.

Data Collected (Millions of dollars)

	Year 1
EBITDA	$150
Interest payments	$15
Principal payments	$12
Lease payments	$7

Carlson Co. reported the following figures in its annual report.

Question #3 Based on the information, Carlson Co. has the ability to cover its fixed financial charges ______ times. A. 4.41 B. 5.81 C. 7.14 D. 4.62