The following information is relevant for Questions 1 and 2: Austin Corporation's Year 8 financial statement notes

Question:

The following information is relevant for Questions 1 and 2:

Austin Corporation's Year 8 financial statement notes include the following information:

a. Austin recently entered into operating leases with total future payments of $40 million that equal a discounted present value of $20 million.

b. Long-term assets include held-to-maturity debt securities carried at their amortized cost of $10 million. Fair market value of these securities is $12 million.

c. Austin guarantees a $5 million bond issue, due in Year 13. The bonds are issued by Healey, a nonconsolidated 30%-owned affiliate.

After analysis, you decide to adjust Austin's balance sheet for each of the above three items.

1. Among the effects of these adjustments for the times interest earned coverage ratio is (choose one of the following):

a. Lease capitalization increases this ratio.

b. Lease capitalization decreases this ratio.

c. Recognizing the debt guarantee decreases this ratio.

d. Held-to-maturity debt securities adjustment increases this ratio.

2. Among the effects of these adjustments for the long-term debt to equity ratio is (choose one of the following):

a. Only the held-to-maturity debt securities adjustment decreases this ratio.

b. Only lease capitalization decreases this ratio.

c. All three adjustments decrease this ratio.

d. All three adjustments increase this ratio.

3. What is the effect of a cash dividend payment on the following ratios (all else equal)?

             Times Interest Earned                  Long-Term Debt to Equity

a.                                 Increase                                               Increase

b.                                 No effect                                             Increase

c.                                 No effect                                             No effect

d.                                 Decrease                                            Decrease

4. What is the effect of selling inventory for profit on the following ratios (all else equal)?

                 Times Interest Earned                  Long-Term Debt to Equity

a.                                 Increase                                               Increase

b.                                 Increase                                               Decrease

c.                                 Decrease                                              Increase

d.                                 Decrease                                               Decrease

5. The existence of uncapitalized operating leases is to (choose one of the following):

a. Overstate the earnings to fixed charges coverage ratio.

b. Overstate fixed charges.

c. Overstate working capital.

d. Understate the long-term debt to equity ratio.

(CFA Adapted)

Balance Sheet
Balance sheet is a statement of the financial position of a business that list all the assets, liabilities, and owner’s equity and shareholder’s equity at a particular point of time. A balance sheet is also called as a “statement of financial...
Dividend
A dividend is a distribution of a portion of company’s earnings, decided and managed by the company’s board of directors, and paid to the shareholders. Dividends are given on the shares. It is a token reward paid to the shareholders for their...
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Financial Statement Analysis

ISBN: 978-0078110962

11th edition

Authors: K. R. Subramanyam, John Wild

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