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Management (MGT)

MGTA04 - INTRODUCTION TO MANAGEMENT (II) Saturday, 27 October, 2012 SHORT ANSWER QUESTIONS - Model Answers 1a. Explain what is meant by the term “productivity” 2 marks Productivity is a ratio. It describes the relationship between “inputs” (e.g. hours of labour, $$ of capital, pounds of natural resources) and “outputs” (finished goods and services). The higher the “productivity” the greater the value of products or services relative to the time, money or raw materials that went into producing those goods. 1b. Identify whether productivity is higher in the United States or 2 marks in Canada, and provide evidence to support your answer Although the two countires are similar in many ways, GDP per capita (i.e the value of goods and services prodcued per citizen) is about 20% high in the US than it is in Canada. Because they are producing more with the same resources, or producing the same with fewer resources (either will produce higher produtivity) Americans are richer, on average, than canadians 1c. Provide two ways by which a nation could increase its productivity 2 marks A nation could improve its productivity by investing more in the education of its population (better educated people tend to be able to be more productive). A nation’s businesses could invest in more on the job training A nation’s businesses could invest in more and better technology for its workers and for its factories. Page 1of12 A nation’s government could invest in more and better transportation and communication infrastructure, to help businesses produce more goods and service s more quickly, cheaply or easily. Part I – Questions About Leverage and the Financing of the Business Joe decided he wanted to go into business as a car mechanic. He did his research and asked a number of friends and acquaintances who had been in the auto mechanic business for years. They advised him that he would need $200,000 to fully equip and outfit a garage (i.e. purchase the fixed assets like tools and equipment, as well as the opening inventory of parts for sale). Joe’s life savings were $40,000. That could be his initial equity. In order to come up with the rest of the necessary capital, Joe thought he would take out a bank loan. Question 2a. Calculate the debt to equity ratio that Joe would have if he borrowed 1 mark the balance of the money necessary to outfit “Joe’s Garage”. If Joe needs $200,000 to outfit the garage and he only has $40,000 in equity he will need to borrow $160,000. That would produce a debt to equity ratio of $160,000/$40,000 or 4:1 Joe went to see his bank manager. His bank manager was friendly and sympathetic, but he advised Joe that it was the bank’s policy not to allow small business customers to have a debt to equity ratio of more than 3:1 Question 2b. Why would the bank want to limit on a borrower's debt to equity ratio? 3 marks Banks will want to limit the amount that they lend to any borrower because they want to ensure that the borrower will have the profitabiltiy to be able to repay the debt, plus interest. The more that a business borrows, the higher will be its interest expense, and the lower will be its profit. Page 2of12 Also, lenders want to know that the owners of the business are committing some of their own resources into the business. Page3 of12 Question 2c) What would be the maximum amount of money that the bank would lend 1 mark to Joe, to outfit a $200,000 garage, and not violate its lending policies? To finance $200,000 but to keep the debt to equity ratio at no more than 3:1, the bank would be willing to lend as much as $150,000 in addition to $50,000 in equity Part II – Questions About Liquidity and the Balance Sheet On the first day of trading (i.e. the day the Joe’s Garage opened its doors for business), the balance sheet looked like this: Joe’s Garage Inc. Balance Sheet on 1 April, 2011 Assets - Current Liabilities - Current Cash 4,000 Accounts Payable 00 Accts. Receivable 00 Parts 26,000 Liabilities - Term 5 year term loan 150,000 Assets - Fixed Tools & Equipment 170,000 Equity Share capital 50,000 Question 2d) Calculate Joe’s Garage’s working capital 1 mark Working capital = Current Assets – Current liabilities $30,000 - $0 = $30,000 Question 2e) What is the purpose of calculating a business’ 1 mark working capital? One calculates a business’ working capital to see if the value of the assets to be converted into cash in the short term (less than 1 year) are sufficient to cover any debts that will need to be covered in the short term (less than 1 year) Page4 o12 Part III – Questions About Profitability and The Income Statement In the first year of its operations Joe’s garage did $248,000 worth of business. One of Joe’s customers, who owed the garage $8,000 died, without paying his bill. Although Joe tried to contact the customer’s family, it appears as though the customer died without a will, and without any money. Joe therefore wrote off the outstanding receivable. Joe’s direct expenses were: Parts and supplies $ 80,000 Wages to Joe’s assistant 40,000 Administrative expenses were: Depreciation of the equipment 20,000 Electricity and other utilities 8,000 Insurance 4.000 Newspaper advertising 3,000 Stationery and office supplies 2,000 Cleaning supplies 1,000 In addition, “Joe’s Garage” paid Joe a salary of $2,500 per month ($30,000 for the year) to work full time as the General Manager. The interest on the bank loan was 8% on the original full princip
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