CFA Practice Question

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CFA Practice Question

You are analyzing a consumer products firm. The management of the firm is considered to be fairly conservative. Which of the following would you likely observe?
A. The firm will have little or no unshielded taxable income.
B. The firm will have little financial flexibility.
C. The firm's optimal debt ratio will be greater than the target debt ratio.
Explanation: If the management is fairly conservative, then they will likely not have shielded much of their taxable income and not used much of their financial flexibility. The optimal debt to equity ratio is likely to be greater than the management-set target debt to equity ratio.

User Contributed Comments 6

User Comment
murli Because, target debt ratio would be conservatively low!
mtcfa I understand C, but part of C's answer assumes A.
yly13 A's wrong because the firm may very well have significant taxable income even with a conservative strategy. Only that an optimal strategy would suggest more.
vinoth84 Why answer B is not correct?
birdperson Vinoth84 --- because if you are conservative you preserve financial flexibility
Kevdharr vinoth84--preserving financial flexibility indicates that the company will have a lot of cash on hand. A conservative company will have a lot of cash on hand and therefore be more financially flexible.
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