8. More on ratio analysis Aa Aa Analysts and investors often use return on equit

Question

8. More on ratio analysis Aa Aa Analysts and investors often use return on equity (ROE) to compare profitability of a company with other firms in the industry. ROE is considered a very important measure, and managers strive to make the company's ROE numbers look good If a firm takes steps that increase its expected future ROE, its stock price will increase Based on your understanding of the uses and limitations of ROE, which of the following projects will a manager likely choose if his or her bonus is solely based on the ROE of the next project? O Project Y, with 40% ROE and a small investment, generating low expected cash flows O Project X, with 35% ROE and a large investment, generating high expected cash flows Suppose you are trying to decide whether to invest in a company that generates a high expected ROE, and you want to conduct further analysis on the company's performance. If you wanted to conduct a trend analysis, you would: Analyze the firm's financial ratios over time Compare the firm's financial ratios with other firms in the industry for a particular year You decide also to conduct a qualitative analysis based on the factors summarized by the American Association of Individual Investors (AAII). According to your understanding, a company with one key product is considered to be risky than companies with a wide range of products.

Explanation / Answer

Ans 1 if expected ROE increases, then stock price will also increase

And 2 Project Y will be choose as manger's bonus is linked with ROE , and it's higher in Project Y case.

Ans 3 option A, trend analysis is to analyse the firm's financial ratios over time.

Ans 4 company with one key product is considered to.be more risky than a company with wide products. As wide product company has diversification benefit that's if one product doesn't works out than other will .

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