Question

Young Funds prepared a table of bond ratings and financial ratios of 34 companies as given below. The table is sorted by EBIT/TA. You want to choose a cutoff value for EBIT/TA for Young Funds so that they can rate firms with EBIT/TA greater than that value as A+ and firms with EBIT/TA less than that value as B.

What cutoff value for EBIT/TA minimizes the total number of misclassifications? (only 1 correct choice).

Company | Rating | EBIT/TA
VISTEON CORP | B | (0.0100)
EASTMAN KODAK CO | B | 0.0270
GOODYEAR TIRE & RUBBER CO | B | 0.0640
UNITED STATES STEEL CORP | B | 0.0750
PENSKE AUTOMOTIVE GROUP INC | B | 0.0750
ONEOK INC | B | 0.0760
DEAN FOODS CO | B | 0.0840
DANAHER CORP | A | 0.0850
AES CORP | B | 0.0910
RRI ENERGY INC | B | 0.0970
LEAR CORP | B | 0.0980
QWEST COMMUNICATION INTL INC | B | 0.0990
BOEING CO | A | 0.1020
AMAZON.COM INC | B | 0.1030
TESORO CORP | B | 0.1230
PFIZER INC | A | 0.1280
MERCK & CO | A | 0.1310
BRISTOL-MYERS SQUIBB CO | A | 0.1370
ABBOTT LABORATORIES | A | 0.1410
KIMBERLY-CLARK CORP | A | 0.1510
WYETH | A | 0.1510
BAXTER INTERNATIONAL INC | A | 0.1560
AMGEN INC | A | 0.1590
DISH NETWORK CORP | B | 0.1610
DIRECTV GROUP INC | B | 0.1650
ILLINOIS TOOL WORKS | A | 0.1710
COCA-COLA CO | A | 0.1760
LILLY (ELI) & CO | A | 0.1810
UNITED PARCEL SERVICE INC | A | 0.1820
JOHNSON & JOHNSON | A | 0.1890
PEPSICO INC | A | 0.2120
The 3M CO | A | 0.2250
ECHOSTAR DBS CORP | B | 0.2360
NUCOR CORP | A | 0.2620
COLGATE-PALMOLIVE CO | A | 0.2950

		A) 0.0845
		B) 0.1680
		C) 0.1255
		D) 0.1005

Answer 1

Please note in question it is mentioned that financial ratio has given for 34 companies but in actual there are 35 companies details has been given. Hence we have calculted classification for 35 companies.

In given option B 0.1680 is correct answer. where we can minimize the number of misclassification.

If we classify given data as per options given then it looks as below.

Particulars	Rating as per 0.0845	Rating as per 0.1680	Rating as per 0.1255	Rating as per 0.1005
Count of A Rating	28	10	20	23
Count of B Rating	7	25	15	12

But as per standard higher EBIT Ratio is great for considering companies performance. Hence in given optios higher ratio that is 0.1680 is correct answer to avoid misclassification of compnies.