Problem 45

City Racquetball Club (CRC) offers racquetball and other physical fitness facilities to its members.

There are four of these clubs in the metropolitan area. Each club has between 1,800 and 2,500 members.

Revenue is derived from annual membership fees and hourly court fees. The annual membership fees

are as follows:

Individual………………………………………………………………………………… $ 40

Student…………………………………………………………………………………… 25

Family…………………………………………………………………………………….. 95

The hourly court fees vary from $6 to $10 depending upon the season and the time of day (prime

versus nonprime time).

The peak racquetball season is considered to run from September through April. During this

period, court usage averages 90 to 100 percent of capacity during prime time (5:00–9:00 p.m.) and 50 to

60 percent of capacity during the remaining hours. Daily court usage during the off-season (i.e., summer)

averages only 20 to 40 percent of capacity.

Most of CRC’s memberships have September expirations. A substantial amount of the cash receipts

are collected during the early part of the racquetball season due to the renewal of the annual membership

fees and heavy court usage. However, cash receipts are not as large in the spring and drop significantly

in the summer months.

CRC is considering changing its membership and fee structure in an attempt to change its cash

receipts. Under the new membership plan, only an annual membership fee would be charged, rather than

a membership fee plus hourly court fees. There would be two classes of membership as follows:

Individual ………………………………………………………………………………………………. $250

Family …………………………………………………………………………………………………… 400

The annual fee would be collected in advance at the time the membership application is completed.

Members would be allowed to use the racquetball courts as often as they wish during the year under the

new plan.

All future memberships would be sold under these new terms. Current memberships would be honored

on the old basis until they expire. However, a special promotional campaign would be instituted to attract

new members and to encourage current members to convert to the new membership plan immediately.

The annual fees for individual and family memberships would be reduced to $200 and $300,

respectively, during the two-month promotional campaign. In addition, all memberships sold or renewed

during this period would be for 15 months rather than the normal one-year period. Current members

also would be given a credit toward the annual fee for the unexpired portion of their membership fee, and

for all prepaid hourly court fees for league play that have not yet been used.

CRC’s management estimates that 60 to 70 percent of the present membership would continue with

the club. The most active members (45 percent of the present membership) would convert immediately

to the new plan, while the remaining members who continue would wait until their current memberships

expire. Those members who would not continue are not considered active (i.e., they play five or less

times during the year). Management estimates that the loss of members would be offset fully by new

members within six months of instituting the new plan. Furthermore, many of the new members would

be individuals who would play during nonprime time. Management estimates that adequate court time

will be available for all members under the new plan.

If the new membership plan is adopted, it would be instituted on February 1, well before the summer

season. The special promotional campaign would be conducted during March and April. Once the

plan is implemented, annual renewal of memberships and payment of fees would take place as each

individual or family membership expires.

Required: Your consulting firm has been hired to help CRC evaluate its new fee structure. Write a

letter to the club’s president answering the following questions.

1. Will City Racquetball Club’s new membership plan and fee structure improve its ability to plan its

cash receipts? Explain your answer.

2. City Racquetball Club should evaluate the new membership plan and fee structure completely

before it decides to adopt or reject it.

a. Identify the key factors that CRC should consider in its evaluation.

b. Explain what type of financial analyses CRC should prepare in order to make a complete

evaluation.

3. Explain how City Racquetball Club’s cash management would differ from the present if the new

membership plan and fee structure were adopted.

Problem 46

Patricia Eklund, controller in the division of social services for the state, recognizes the importance of

the budgetary process for planning, control, and motivational purposes. She believes that a properly

implemented participative budgetary process for planning purposes and an evaluation procedure will

motivate the managers to improve productivity within their particular departments. Based upon this

philosophy, Eklund has implemented the following budgetary procedures.

• An appropriation target figure is given to each department manager. This amount is the maximum

funding that each department can expect to receive in the next year.

• Department managers develop their individual budgets within the following spending constraints as

directed by the controller’s staff.

â—¦ Expenditure requests cannot exceed the appropriation target.

â—¦ All fixed expenditures should be included in the budget. Fixed expenditures would include

such items as contracts and salaries at current levels.

â—¦ All government projects directed by higher authority should be included in the budget in

their entirety.

• The controller’s staff consolidates the budget requests from the various departments into a master

budget submission for the entire division.

• Upon final budget approval by the legislature, the controller’s staff allocates the appropriation to the

various departments on instructions from the division manager. However, a specified percentage of

each department’s appropriation is held back in anticipation of potential budget cuts and special funding

needs. The amount and use of this contingency fund is left to the discretion of the division manager.

• Each department is allowed to adjust its budget when necessary to operate within the reduced

appropriation level. However, as stated in the original directive, specific projects authorized by

higher authority must remain intact.

• The final budget is used as the basis of control. Excessive expenditures by account for each department

are highlighted on a monthly basis. Department managers are expected to account for all

expenditures over budget. Fiscal responsibility is an important factor in the overall performance

evaluation of department managers.

Eklund believes her policy of allowing the department managers to participate in the budgetary

process and then holding them accountable for their performance is essential, especially during times

of limited resources. She further believes that the department managers will be positively motivated to

increase the efficiency and effectiveness of their departments because they have provided input into the

initial budgetary process and are required to justify any unfavorable performances.

Required:

1. Describe several operational and behavioral benefits that are generally attributed to a participative

budgetary process.

2. Identify at least four deficiencies in Patricia Eklund’s participative policy for planning and performance

evaluation purposes. For each deficiency identified, recommend how it can be corrected.

Problem 45

City Racquetball Club (CRC) offers racquetball and other physical fitness facilities to its members.

There are four of these clubs in the metropolitan area. Each club has between 1,800 and 2,500 members.

Revenue is derived from annual membership fees and hourly court fees. The annual membership fees

are as follows:

Individual………………………………………………………………………………… $ 40

Student…………………………………………………………………………………… 25

Family…………………………………………………………………………………….. 95

The hourly court fees vary from $6 to $10 depending upon the season and the time of day (prime

versus nonprime time).

The peak racquetball season is considered to run from September through April. During this

period, court usage averages 90 to 100 percent of capacity during prime time (5:00–9:00 p.m.) and 50 to

60 percent of capacity during the remaining hours. Daily court usage during the off-season (i.e., summer)

averages only 20 to 40 percent of capacity.

Most of CRC’s memberships have September expirations. A substantial amount of the cash receipts

are collected during the early part of the racquetball season due to the renewal of the annual membership

fees and heavy court usage. However, cash receipts are not as large in the spring and drop significantly

in the summer months.

CRC is considering changing its membership and fee structure in an attempt to change its cash

receipts. Under the new membership plan, only an annual membership fee would be charged, rather than

a membership fee plus hourly court fees. There would be two classes of membership as follows:

Individual ………………………………………………………………………………………………. $250

Family …………………………………………………………………………………………………… 400

The annual fee would be collected in advance at the time the membership application is completed.

Members would be allowed to use the racquetball courts as often as they wish during the year under the

new plan.

All future memberships would be sold under these new terms. Current memberships would be honored

on the old basis until they expire. However, a special promotional campaign would be instituted to attract

new members and to encourage current members to convert to the new membership plan immediately.

The annual fees for individual and family memberships would be reduced to $200 and $300,

respectively, during the two-month promotional campaign. In addition, all memberships sold or renewed

during this period would be for 15 months rather than the normal one-year period. Current members

also would be given a credit toward the annual fee for the unexpired portion of their membership fee, and

for all prepaid hourly court fees for league play that have not yet been used.

CRC’s management estimates that 60 to 70 percent of the present membership would continue with

the club. The most active members (45 percent of the present membership) would convert immediately

to the new plan, while the remaining members who continue would wait until their current memberships

expire. Those members who would not continue are not considered active (i.e., they play five or less

times during the year). Management estimates that the loss of members would be offset fully by new

members within six months of instituting the new plan. Furthermore, many of the new members would

be individuals who would play during nonprime time. Management estimates that adequate court time

will be available for all members under the new plan.

If the new membership plan is adopted, it would be instituted on February 1, well before the summer

season. The special promotional campaign would be conducted during March and April. Once the

plan is implemented, annual renewal of memberships and payment of fees would take place as each

individual or family membership expires.

Required: Your consulting firm has been hired to help CRC evaluate its new fee structure. Write a

letter to the club’s president answering the following questions.

1. Will City Racquetball Club’s new membership plan and fee structure improve its ability to plan its

cash receipts? Explain your answer.

2. City Racquetball Club should evaluate the new membership plan and fee structure completely

before it decides to adopt or reject it.

a. Identify the key factors that CRC should consider in its evaluation.

b. Explain what type of financial analyses CRC should prepare in order to make a complete

evaluation.

3. Explain how City Racquetball Club’s cash management would differ from the present if the new

membership plan and fee structure were adopted.

Problem 46

Patricia Eklund, controller in the division of social services for the state, recognizes the importance of

the budgetary process for planning, control, and motivational purposes. She believes that a properly

implemented participative budgetary process for planning purposes and an evaluation procedure will

motivate the managers to improve productivity within their particular departments. Based upon this

philosophy, Eklund has implemented the following budgetary procedures.

• An appropriation target figure is given to each department manager. This amount is the maximum

funding that each department can expect to receive in the next year.

• Department managers develop their individual budgets within the following spending constraints as

directed by the controller’s staff.

â—¦ Expenditure requests cannot exceed the appropriation target.

â—¦ All fixed expenditures should be included in the budget. Fixed expenditures would include

such items as contracts and salaries at current levels.

â—¦ All government projects directed by higher authority should be included in the budget in

their entirety.

• The controller’s staff consolidates the budget requests from the various departments into a master

budget submission for the entire division.

• Upon final budget approval by the legislature, the controller’s staff allocates the appropriation to the

various departments on instructions from the division manager. However, a specified percentage of

each department’s appropriation is held back in anticipation of potential budget cuts and special funding

needs. The amount and use of this contingency fund is left to the discretion of the division manager.

• Each department is allowed to adjust its budget when necessary to operate within the reduced

appropriation level. However, as stated in the original directive, specific projects authorized by

higher authority must remain intact.

• The final budget is used as the basis of control. Excessive expenditures by account for each department

are highlighted on a monthly basis. Department managers are expected to account for all

expenditures over budget. Fiscal responsibility is an important factor in the overall performance

evaluation of department managers.

Eklund believes her policy of allowing the department managers to participate in the budgetary

process and then holding them accountable for their performance is essential, especially during times

of limited resources. She further believes that the department managers will be positively motivated to

increase the efficiency and effectiveness of their departments because they have provided input into the

initial budgetary process and are required to justify any unfavorable performances.

Required:

1. Describe several operational and behavioral benefits that are generally attributed to a participative

budgetary process.

2. Identify at least four deficiencies in Patricia Eklund’s participative policy for planning and performance

evaluation purposes. For each deficiency identified, recommend how it can be corrected.

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Company J and Company K each recently reported the same earnings per share (EPS). Company J’s stock, however, trades at a higher price. Which of the following statements is correct?

A. a. Company J must have a higher P/E ratio.
B. b. Company J must have a higher market to book ratio.
C. c. Company J must be riskier
D. d. Company J must have fewer growth opportunities.
E. e. All of the statements above are correct.
Question 2 of 20

Which of the following statements is correct?

A. a. Many large firms operate different divisions in different industries, and this makes it hard to develop a meaningful set of industry benchmarks for these types of firms.
B. b. Financial ratios should be interpreted with caution because there exist seasonal and accounting differences that can reduce their comparability.
C. c. Financial ratios should be interpreted with caution because it may be difficult to say with certainty what is a “good” value. For example, in the case of the current ratio, a “good” value is neither high nor low.
D. d. Ratio analysis facilitates comparisons by standardizing numbers.
E. e. All of the statements above are correct.
Question 3 of 20

Which of the following actions can a firm take to increase its current ratio?

A. a. Issue short-term debt and use the proceeds to buy back long-term debt with a maturity of more than one year.
B. b. Reduce the company’s days sales outstanding to the industry average and use the resulting cash savings to purchase plant and equipment.
C. c. Use cash to purchase additional inventory.
D. d. Statements a and b are correct.
E. e. None of the statements above is correct.
Question 4 of 20

Which of the following actions will cause an increase in the quick ratio in the short run?

A. a. $1,000 worth of inventory is sold, and an account receivable is created. The receivable exceeds the inventory by the amount of profit on the sale, which is added to retained earnings.
B. b. A small subsidiary which was acquired for $100,000 two years ago and which was generating profits at the rate of 10 percent is sold for $100,000 cash. (Average company profits are 15 percent of assets.)
C. c. Marketable securities are sold at cost.
D. d. All of the answers above.
E. e. Answers a and b above.
Question 5 of 20

Company A is financed with 90 percent debt, whereas Company B, which has the same amount of total assets, is financed entirely with equity. Both companies have a marginal tax rate of 35 percent. Which of the following statements is correct?

A. a. If the two companies have the same basic earning power (BEP), Company B will have a higher return on assets.
B. b. If the two companies have the same return on assets, Company B will have a higher return on equity.
C. c. If the two companies have the same level of sales and basic earning power (BEP), Company B will have a lower profit margin.
D. d. All of the answers above are correct.
E. e. None of the answers above is correct.
Question 6 of 20

The Wilson Corporation has the following relationships:

What is Wilson’s profit margin and debt ratio?

A. a. 2% and 0.33
B. b. 4% and 0.33
C. c. 4% and 0.67
D. d. 2% and 0.67
E. e. 4% and 0.50

Reset Selection

Q Corp. has a basic earnings power (BEP) ratio of 15 percent, and has a times interest earned (TIE) ratio of 6. Total assets are $100,000. The corporate tax rate is 40 percent. What is Q Corp.’s return on assets (ROA)?

A. a. 7.5%
B. b. 10.0%
C. c. 12.2%
D. d. 13.1%
E. e. 14.5%

Kansas Office Supply had $24,000,000 in sales last year. The company’s net income was $400,000. Its total assets turnover was 6.0. The company’s ROE was 15 percent. The company is financed entirely with debt and common equity. What is the company’s debt ratio?

A. a. 0.20
B. b. 0.30
C. c. 0.33
D. d. 0.60
E. e. 0.66

Question 9 of 20= Inc.

Net income = $200,000

Earnings per share = $2.00

Stockholders’ equity = $2,000,000

Market/Book ratio = 0.20

Taft Technologies has the following relationships:

The company’s current assets consist of cash, inventories, and accounts receivable. How much cash does Taft have on its balance sheet?

Info Technics Inc. has an equity multiplier of 2.50. The company’s assets are financed with some combination of long-term debt and common equity. What is the company’s debt ratio?

Cutler Enterprises has current assets equal to $5 million. The company’s current ratio is 1.25, and its quick ratio is 0.75. What is the firm’s level of current liabilities (in millions)?

Lewis Inc. has sales of $3,600,000 per year, all of which are credit sales. Its days sales outstanding is 42 days. What is its average accounts receivable balance? Assume 360 days per year.

A firm has total interest charges of $20,000 per year, sales of $2,800,000, a tax rate of 40 percent, and a profit margin of 6 percent. What is the firm’s times-interest-earned ratio?

A fire has destroyed many of the financial records at Anderson Associates. You are assigned to piece together information to prepare a financial report. You have found that the firm’s return on equity is 12 percent and its debt ratio is 0.20. What is its return on assets?

Rowe and Company has a debt ratio of 0.20, a total assets turnover of 0.25, and a profit margin of 10 percent. The president is unhappy with the current return on equity, and he thinks it could be doubled. This could be accomplished (1) by increasing the profit margin to 14 percent and (2) by increasing debt utilization. Total assets turnover will not change. What new debt ratio, along with the 14 percent profit margin, is required to double the return on equity?

Pinkerton Packaging’s ROE last year was 4.5 percent, but its management has developed a new operating plan designed to improve things. The new plan calls for a total debt ratio of 50 percent, which will result in interest charges of $240 per year. Management projects an EBIT of $800 on sales of $8,000, and it expects to have a total assets turnover ratio of 1.6. Under these conditions, the federal-plus-state tax rate will be 40 percent. If the changes are made, what return on equity will Pinkerton earn?

Examining the ratios of a particular firm against the same measures for a small group of firms from the same industry, at a point in time, is an example of

Which of the following statements is correct?

Which of the following statements is correct?

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