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Business accounting

Week Five Exercise Assignment

Financial Ratios

 

1.      Liquidity ratios. Edison, Stagg, and Thornton have the following financial information at the close of business on July 10:

 

 

Edison

Stagg

Thornton

Cash

$4,000

$2,500

$1,000

 

Short-term investments

3,000

2,500

2,000

 

Accounts receivable

2,000

2,500

3,000

 

Inventory

1,000

2,500

4,000

 

Prepaid expenses

800

800

800

 

Accounts payable

200

200

200

 

Notes payable: short-term

3,100

3,100

3,100

 

Accrued payables

300

300

300

 

Long-term liabilities

3,800

3,800

3,800

 

 

 

  1. Compute the current and quick ratios for each of the three companies. (Round calculations to two decimal places.) Which firm is the most liquid? Why?
  2. Suppose Thornton is using FIFO for inventory valuation and Edison is using LIFO. Comment on the comparability of information between these two companies.
  3. If all short-term notes payable are due on July 11 at 8 a.m., comment on each company’s ability to settle its obligation in a timely manner.

 

2.      Computation and evaluation of activity ratios. The following data relate to Alaska Products, Inc:

 

 

19X5

19X4

Net credit sales

$832,000

$760,000

 

Cost of goods sold

440,000

350,000

 

Cash, Dec. 31

125,000

110,000

 

Accounts receivable, Dec. 31

180,000

140,000

 

Inventory, Dec. 31

70,000

50,000

 

Accounts payable, Dec. 31

115,000

108,000

 

 

The company is planning to borrow $300,000 via a 90-day bank loan to cover short-term operating needs.

  1. Compute the accounts receivable and inventory turnover ratios for 19X5. Alaska rounds all calculations to two decimal places.
  2. Study the ratios from part (a) and comment on the company’s ability to repay a bank loan in 90 days.
  3. Suppose that Alaska’s major line of business involves the processing and distribution of fresh and frozen fish throughout the United States. Do you have any concerns about the company’s inventory turnover ratio? Briefly discuss.

 

3.      Profitability ratios, trading on the equity. Digital Relay has both preferred and common stock outstanding. The com­pany reported the following information for 19X7:

Net sales

$1,500,000

Interest expense

120,000

Income tax expense

80,000

Preferred dividends

25,000

Net income

130,000

Average assets

1,100,000

Average common stockholders’ equity

400,000

 

 

  1. Compute the profit margin on sales and the rates of return on assets and common stockholders’ equity, rounding calculations to two decimal places.
  2. Does the firm have positive or negative financial leverage? Briefly ex­plain.

 

4.      Financial statement construction via ratios. Incomplete financial statements of Lock Box, Inc., are presented below.

 

LOCK BOX, INC.

Income Statement

For the Year Ended December 31, 19X3

Sales

$ ?

Cost of goods sold

?

Gross profit

$15,000,000

Operating expenses & interest

?

Income before tax

$ ?

Income taxes, 40%

?

Net income

$ ?

 

LOCK BOX, INC.

Balance Sheet

December 31, 19X3

Assets

 

Cash

Accounts receivable

Inventory

Property, plant, &. equipment

     Total assets

$ ?

?

?

8,000,000

$24,000,000

Liabilities & Stockholders’ Equity

 

Accounts payable

Notes payable (short-term)

Bonds payable

Common stock

Retained earnings

     Total liabilities & stockholders’ equity

$ ?

600,000 4,600,000

2,000,000

?

$24,000,000

 

Further information:

  1. Cost of goods sold is 60% of sales. All sales are on account.
  2. The company’s beginning inventory is $5 million; inventory turnover is 4.
  3. The debt to total assets ratio is 70%.
  4. The profit margin on sales is 6%.
  5. The firm’s accounts receivable turnover is 5. Receivables increased by $400,000 during the year.

 

Instructions:

Using the preceding data, complete the income statement and the balance sheet.

 

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