Q&A Hero

Question

Other things held constant, the more debt a firm uses, the lower the firm's profit margin will be.

a. True

b. False

ANSWER: True

LOCAL STANDARDS: United States - OH - Default City - N/A - Since we still do not have the Cengage Business School Outcomes, you do not need to include anything for this category.

27. Suppose you are analyzing two firms in the same industry. Firm A has a profit margin of 10% versus a margin of 8% for Firm B. Firm A's total debt to total capital ratio [measured as (Short-term debt + Long-term debt)/(Debt + Preferred stock + Common equity)] is 70% versus 20% for Firm B. Based only on these two facts, you cannot reach a conclusion as to which firm is better managed, because the difference in debt, not better management, could be the cause of Firm A's higher profit margin.

a. True

b. False

ANSWER: False

RATIONALE: A's higher total debt to total capital ratio would tend to lower its profit margin. Since its margin is already higher, this indicates that A is the better managed company.

LOCAL STANDARDS: United States - OH - Default City - N/A - Since we still do not have the Cengage Business School Outcomes, you do not need to include anything for this category.