# Critical Thinking Skills

*label*Business Finance

*timer*Asked: Oct 11th, 2017

*account_balance_wallet*$10

### Question Description

Critical Thinking Skills Assignment

(1) Evaluation skill: Evaluation is associated with the ability to judge the value of material for a

given purpose. The judgements are to be based on definite criteria. These criteria may be

determined by relevance, purpose, statements, and numerical values or calculations. Please

watch the video clips provided on Evaluating Logic Part 1,2 and 3

Read the following vignette carefully and answer questions using the evaluation skill.

Emily Smith just received a promotion at work that increased her annual salary to $42,000. She

is eligible to participate in her employer’s 401(k) retirement plan to which the employer matches,

dollar for dollar, workers’ contributions up to 5% of salary. However, Emily wants to buy a new

$25,000 car in 3 years, and she wants to have enough money to make a $10,000 down payment

on the car and finance the balance. Fortunately, she expects a sizable bonus this year that she

hopes will cover that down payment in 3 years.

A wedding is also in her plans. Emily and her boyfriend, Paul, have set a wedding date two years

in the future, after he finishes medical school. In addition, Emily and Paul want to buy a home of

their own in 5 years. This might be possible because two years later, Emily will be eligible to

access a trust fund left to her as an inheritance by her late grandfather. Her trust fund has $80,000

invested at an interest rate of 5%.

1. Justify Emily’s participation in her employer’s 401(k) plan using the time value of money

concepts by calculating the actual annual return on her own contributions. She will

contribute $1,000 per year to her 401(k) for 25 years and the employer will match dollar

for dollar. Assume that her 401(k) earns 6% per year for 25 years and all contributions

are made at the end of each year.

2. Calculate the amount of money that Emily needs to set aside from her bonus this year to

cover the down payment on a new car, assuming she can earn 4% on her savings. What if

she could earn 10% on her savings?

3. What will be the value of Emily’s trust fund in 36 years, assuming she takes possession

of $20,000 in 2 years for her wedding, and leaves the remaining amount of money

untouched where it is currently invested?

4. Suggest at least two conditions that Emily and Paul could take to accumulate more for

their retirement.

5. Suppose that Emily and Paul purchase a $200,000 home in 5 years and make $40,000

down payment immediately. Find the monthly mortgage payment assuming that the

remaining balance is financed at a 3% fixed rate for 15 years. What if its mortgage term

is 30 years?

6. What can you conclude about the relationship between the mortgage term and the amount

of the monthly payment? From Question 5, is the monthly payment with the 30-year term

half as large as the monthly payment with the 15-year term? Explain.

(2) Deductive reasoning skill: Deductive reasoning is a logical process in which a conclusion is

based on the concordance of multiple premises that are generally assumed to be true. Please

watch the video clip provided on Deductive Reasoning

Do the following problems (Q1 - Q5) and then, answer the last question (Q6) using the

deductive reasoning skill.

Use the following information to answer the following questions.

ABC, Inc. Income Statement (in thousands)

December 31, 2014

Sales $200,000

Cost of goods sold 140,000

Gross profit on sales 60,000

Operating expenses 56,000

Operating income (EBIT) 4,000

Interest expense 1,000

Earnings before tax 3,000

Income tax 1,050

Net income available to common stockholders $1,950

Number of shares outstanding 1, 500

Market price per share $22

ABC, Inc. Balance Sheet (in thousands)

December 31, 2014

Assets

Cash $2,000

Accounts receivable 17,800

Inventories 8,700

Total current assets 28,500

Gross fixed assets 70,000

Accumulated depreciation 26,500

Net fixed assets 43,500

Total assets $72,000

Liabilities and Equity

Accounts payable $18,000

Accruals 13,350

Total current liabilities 31,350

Long-term debt 8,250

Total liabilities 39,600

Common stock (par value and paid in capital) 2,000

Retained earnings 30,400

Total stockholders' equity 32,400

Total liabilities and equity $72,000

Industry Key Ratios

Industry Average Ratios

Current ratio 1.1

Quick ratio 0.60

Days Sales Outstanding (DSO) 25 days

Fixed assets turnover 5.8

Total asset turnover 2.95

Liabilities-to-assets ratio 65%

Times-interest-earned 3.2

Net profit margin 1.3%

Return on equity 7.32%

Price/earnings ratio 20.38

Market/book ratio 3.19

1. Calculate current ratio and acid test ratio for the firm.

2. Calculate DSO, fixed assets turnover, and total asset turnover for the firm.

3. Calculate liabilities-to-assets ratio and times-interest-earned ratio for the firm.

4. Calculate net profit margin and return on equity for the firm.

5. Evaluate the performance of the firm in the following areas:

Liquidity management

Asset management

Debt management

Profitability management

When you explain the firm’s strength or weakness in each area, you must support your

arguments through the evaluative reasoning process by providing reasons, methods,

criteria, or assumptions behind the claims made.

6. Deductive reasoning starts with a general principle and deduces that it applies to a

specific case. Deductive reasoning moves with exacting precision from the assumed truth

of a set of premises to a conclusion which cannot be false if those premises are true.

Explain the deductive reasoning process applied to analyze the firm’s performance.

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Question 1

Answer: payment = $1000 x 2 = $2000, after 25 years, FV= PMT x [(1+r)^n-1/r]

FV=2000 x [(1+0.06)^25-1]/0.06 = $109729.024

The actual annual return is $109729.024/25 = $4389.16

Question 2

Answer: $10000=PMT x [(1+0.04)^3-1]/0.04 x [(1+0.04)^2]/0.04

Payment=$3203.49

If the r is 10%, n=3, I/Y=10%, FV=10000, Payment=3201.15

Question 3

Answer: $80000-$20000=$60000, s...

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