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Q5B

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Essentials Of Investments
Found in: Page 474
Essentials Of Investments

Essentials Of Investments

Book edition 9th
Author(s) Zvi Bodie, Alex Kane, Alan Marcus, Alan J. Marcus
Pages 748 pages
ISBN 9780078034695

Short Answer

A company’s current ratio is 2. If the company uses cash to retire notes payable due within one year, would this transaction increase or decrease the current ratio? What about the asset turnover ratio?

Increase; increase.

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Step by Step Solution

Step 1: Explanation of transaction on current ratio:

Though the above transaction reduces the current assets and liabilities by the same amount, its proportionate impact is more on current assets than liabilities. Hence this would increase the current ratio.

Step 2: Explanation of transaction on asset turnover ratio:

This transaction would keep the sales unaffected and assets reduced; this would certainly increase the assets turnover ratio because assets turnover ratio and assets are inversely related.

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