Chapter 5: Q. 21-BP-f (page 531)

The Ellis Corporation has heavy lease commitments. Prior to SFAS No. 13, it merely footnoted lease obligations in the balance sheet, which appeared as follows:
In $ millions
In $ millions
Current assets
$70
Current liabilities
$30
Fixed assets
$70
Long-term liabilities
$30
Total liabilities
$60
Stockholder’s equity
$80
Total assets
$140
Total stockholder’s equity and liabilities
$140
The footnotes stated that the company had $14 million in annual capital lease obligations for the next 20 years.
f. Comment on management’s perception of market efficiency (the viewpoint of the financial officer).

Short Answer

Expert verified

The management perceives that the markets are not as efficient as perceived by the academics.

Step by step solution

Meaning of market efficiency

Market efficiency refers to the capability of the market to reflect the prices after considering all the information available to the public. The prices of an efficient market are fair and reflect all relevant information.

Management’s perception of market efficiency

The management perceives that the market is not as efficient as believed by the academics. The management believes that the information available to the public takes time to the reflected in its prices and is not simultaneously reflected in the market.

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In \( millions	In \) millions
Current assets	\(70	Current liabilities	\)30
Fixed assets	\(70	Long-term liabilities	\)30
		Total liabilities	\(60
		Stockholder’s equity	\)80
Total assets	\(140	Total stockholder’s equity and liabilities	\)140

Assets
	Book value	Liquidation value
Accounts receivables	\(1,400,000	\)1,200,000
Inventory	\(1,800,000	\)900,000
Machinery and equipment	\(1,100,000	\)600,000
Building and plant	\(4,200,000	\)2,500,000
Total assets	\(8,500,000	\)5,200,000

Liabilities and stockholder’s claims
Liabilities
Accounts payable	\(2,800,000
First lien, secured by machinery and equipment	\)900,000
Senior unsecured debt	\(2,200,000
Subordinated debenture	\)1,700,000
Total liabilities	\(7,600,000
Stockholder’s claims
Preferred stock	\)250,000
Common stock	\(650,000
Total stockholder’s claims	\)900,000
Total liabilities and stockholder’s claims	\(8,500,000

Assets
	Book value	Liquidation value
Accounts receivables	\(1,400,000	\)1,200,000
Inventory	\(1,800,000	\)900,000
Machinery and equipment	\(1,100,000	\)600,000
Building and plant	\(4,200,000	\)2,500,000
Total assets	\(8,500,000	\)5,200,000

Liabilities and stockholder’s claims
Liabilities
Accounts payable	\(2,800,000
First lien, secured by machinery and equipment	\)900,000
Senior unsecured debt	\(2,200,000
Subordinated debenture	\)1,700,000
Total liabilities	\(7,600,000
Stockholder’s claims
Preferred stock	\)250,000
Common stock	\(650,000
Total stockholder’s claims	\)900,000
Total liabilities and stockholder’s claims	$8,500,000

Short Answer

Step by step solution

Meaning of market efficiency

Management’s perception of market efficiency

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