MBA 620, Financial Management
(Chapter #1 Review) Questions Fully
Solved.
What does it mean when cash flow from operations on a company's cash flow statement is
negative? Is this bad news? Is it dangerous? - Answer This means that the company's
operating activities consumed cash.
A combination of two things can cause this: operating losses, and increases in accounts
receivables and inventories. Operating losses can obviously be dangerous. Rising receivables
and inventories are not dangerous if they increase simultaneously with sales and the company
is able to finance cash shortfalls.
Rising receivables and inventories relative to sales suggest slackening management control of
important operating assets which is potentially dangerous.
What does it means when cash flow from investing activities on a company's cash flow
statement is negative? Is this bad news? Is it dangerous? - Answer This means that the
company's investing activities consumed cash, that the company purchased more property,
plant, equipment, or marketable securities than it disposed of during the year.
For most growing, stable companies, cash flows from investing activities are negative as firms
build production capacity and replace used equipment.
Positive cash flows from investing activities can signal problems, suggesting the firm has no
attractive investment opportunities or that it might be liquidating productive assets due to
financial difficulties.
What does it mean when cash flow from financing activities on a company's cash flow
statement is negative? Is this bad news? Is it dangerous? - Answer Negative cash flows from
financing activities means that the firm is paying out more money to investors (in the form of
debt principal repayment, interest payments, dividends, and share repurchases) than it is raising
from investors.
Usually, negative cash flows from financing activities are associated with mature companies
generating more than enough cash from operations to fund future activities.
, Braintree Corporation has $5 billion in assets, $4 billion in equity, and earned a profit of $100
million last year as the economy boomed. Senior management proposes paying themselves a
large cash bonus in recognition of their performance. As a member of Braintree's board of
directors, how would you respond to this proposal? - Answer Management is either dumb or
thinks its board is. Earning $100 million on a $4 billion equity investment is a return of 2.5
percent, a figure well below any reasonable cost of equity. As a board member, I would vote to
cut management's compensation, not raise it. I would also criticize them sharply for apparently
attempting to deceive the board.
True or false: If a company gets into financial difficulty, it can use some of its shareholders'
equity to pay its bills for a time. - Answer False
Shareholders' equity is on the liabilities side of the balance sheet. It represents owners' claims
on company assets. The money contributed by owners and supplemented by retained profits
has already been spent to acquire company assets.
True or false: It is impossible for a firm to have a negative book value of equity without the firm
going into bankruptcy. - Answer False
Book value of equity is simply the "plug" number that makes the book value of assets equal to
the sum of the book value of liabilities and the book value of equity. If the book value of
liabilities is greater than the book value of assets, then book value of equity must be negative.
This does not necessarily determine bankruptcy, as it occurs when a firm cannot pay its bills in a
timely manner and creditors force it to seek, or it voluntarily seeks, court protection.
True or false: If a company increases its dividend, its net income will decrease. - Answer False
Earnings are allocated to either dividends or retained earnings after net income is calculated.
Increasing the dividend will reduce retained earnings, but will not affect net income.
True or false: It is possible to construct a sources and uses statement for 2017 if you have a
company's balance sheet for year-end 2016 and 2017. - Answer True
By comparing a balance sheet from the beginning of 2017 (year-end 2016) with a balance sheet
from the end of 2017, it is possible to construct a sources and uses statement for 2017.
True or false: The "goodwill" account on the balance sheet is an attempt by accountants to
(Chapter #1 Review) Questions Fully
Solved.
What does it mean when cash flow from operations on a company's cash flow statement is
negative? Is this bad news? Is it dangerous? - Answer This means that the company's
operating activities consumed cash.
A combination of two things can cause this: operating losses, and increases in accounts
receivables and inventories. Operating losses can obviously be dangerous. Rising receivables
and inventories are not dangerous if they increase simultaneously with sales and the company
is able to finance cash shortfalls.
Rising receivables and inventories relative to sales suggest slackening management control of
important operating assets which is potentially dangerous.
What does it means when cash flow from investing activities on a company's cash flow
statement is negative? Is this bad news? Is it dangerous? - Answer This means that the
company's investing activities consumed cash, that the company purchased more property,
plant, equipment, or marketable securities than it disposed of during the year.
For most growing, stable companies, cash flows from investing activities are negative as firms
build production capacity and replace used equipment.
Positive cash flows from investing activities can signal problems, suggesting the firm has no
attractive investment opportunities or that it might be liquidating productive assets due to
financial difficulties.
What does it mean when cash flow from financing activities on a company's cash flow
statement is negative? Is this bad news? Is it dangerous? - Answer Negative cash flows from
financing activities means that the firm is paying out more money to investors (in the form of
debt principal repayment, interest payments, dividends, and share repurchases) than it is raising
from investors.
Usually, negative cash flows from financing activities are associated with mature companies
generating more than enough cash from operations to fund future activities.
, Braintree Corporation has $5 billion in assets, $4 billion in equity, and earned a profit of $100
million last year as the economy boomed. Senior management proposes paying themselves a
large cash bonus in recognition of their performance. As a member of Braintree's board of
directors, how would you respond to this proposal? - Answer Management is either dumb or
thinks its board is. Earning $100 million on a $4 billion equity investment is a return of 2.5
percent, a figure well below any reasonable cost of equity. As a board member, I would vote to
cut management's compensation, not raise it. I would also criticize them sharply for apparently
attempting to deceive the board.
True or false: If a company gets into financial difficulty, it can use some of its shareholders'
equity to pay its bills for a time. - Answer False
Shareholders' equity is on the liabilities side of the balance sheet. It represents owners' claims
on company assets. The money contributed by owners and supplemented by retained profits
has already been spent to acquire company assets.
True or false: It is impossible for a firm to have a negative book value of equity without the firm
going into bankruptcy. - Answer False
Book value of equity is simply the "plug" number that makes the book value of assets equal to
the sum of the book value of liabilities and the book value of equity. If the book value of
liabilities is greater than the book value of assets, then book value of equity must be negative.
This does not necessarily determine bankruptcy, as it occurs when a firm cannot pay its bills in a
timely manner and creditors force it to seek, or it voluntarily seeks, court protection.
True or false: If a company increases its dividend, its net income will decrease. - Answer False
Earnings are allocated to either dividends or retained earnings after net income is calculated.
Increasing the dividend will reduce retained earnings, but will not affect net income.
True or false: It is possible to construct a sources and uses statement for 2017 if you have a
company's balance sheet for year-end 2016 and 2017. - Answer True
By comparing a balance sheet from the beginning of 2017 (year-end 2016) with a balance sheet
from the end of 2017, it is possible to construct a sources and uses statement for 2017.
True or false: The "goodwill" account on the balance sheet is an attempt by accountants to
