MINDTAP Ch. 3: HW2 The extent of financial leverage in a firm Debt ratios measur

Question

MINDTAP Ch. 3: HW2 The extent of financial leverage in a firm Debt ratios measure the proportion of total assets financed by a firm's creditors Shoe Barn Inc. has a debt-to-equity ratio of 2.40, compared to the industry average of 1.92. Its competitor Heally has a debt-to-equity ratio of 3.60. Based on what debt-to-equity ratios imply, which of the following statements is true? O Healy Corp, has higher creditworthiness as compared to Shoe Barn Inc Shoe Barn Inc.'s shareholders expect magnified returns but higher risk as compared to Healy Corp. Heally Corp. has greater financial risk as compared to Shoe Barn Inc. and to the average financial risk in the industry Healy Corp.'s creditors face lesser risk than the average financial risk in the industry. Suppose the stock price of Shoe Barn Inc, falls by 10%, what impact nothing changes in the company's balance sheet? will it have on its market-to-debt ratio if O The market debt ratio will Increase, reflecting a decrease in the financial risk of the company The market debt ratio will increase ref ecting an increase in the financial risk of the company O The market debt ratio will decrease, reflecting a decrease in the financial risk of the company O The market debt ratio will decrease, reflecting an increase in the financial risk of the company. Data Collected (Millions of dollars) Shoe Barn Inc. reported the following figures in its annual report. EBITDA Interest payments Principal payments Lease payments Year 1 $850 $85 $68 $38 Based on the information, Shoe Barn Inc. has the ability to cover its fixed financial charges times. 13 2 MacBook Air

Explanation / Answer

Ans 1 C Heally corp has greater financial risk as compared to shoe barn inc. and to the average financial risk in the industry. Ans 2 B The market debt ratio will increase, reflecting an increase in the financial risk of the company. Explanation Market debt ratio = Book value of debt / Book value of debt + Market value of equity If market value of equity decreases , then denominator will decrease in total that will make the ratio rise Ans 3 fixed financial charges coverage ratio = EBITDA / Fixed charges i.e. (LOAN + Lease) $850/(85+68+38)           4.45

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