Financial Accounting
Financial Accounting
15th Edition
ISBN: 9781337272124
Author: Carl Warren, James M. Reeve, Jonathan Duchac
Publisher: Cengage Learning
Question
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Chapter 17, Problem 4PB
To determine

Calculate the following ratios measures for 20Y2.

  1. 1. Working capital
  2. 2. Current ratio
  3. 3. Quick ratio
  4. 4. Accounts receivable turnover
  5. 5. Number of days' sales in receivables
  6. 6. Inventory turnover ratio
  7. 7. Number of days' sales in inventory
  8. 8. Ratio of fixed assets to long-term liabilities
  9. 9. Ratio of liabilities to stockholders’ equity
  10. 10. Times interest earned ratio
  11. 11. Asset turnover ratio
  12. 12. Return on total assets
  13. 13. Return on stockholders' equity
  14. 14. Return on common stockholders' equity
  15. 15. Earnings per share on common stock
  16. 16. Price earnings ratio
  17. 17. Dividends per share of common stock
  18. 18. Dividend yield

Expert Solution & Answer
Check Mark

Explanation of Solution

Financial Ratios: Financial ratios are the metrics used to evaluate the capabilities, profitability, and overall performance of a company.

1. Working capital

Working capital  = Current assets – Current liabilities = $3,690,000 – $900,000= $2,790,000

Description:

Working capital is determined as the difference between current assets and current liabilities.

Formula:

Working capital = Current assets – Current liabilities 

2. Current ratio

Current ratio=Current assetsCurrentliabilities=$3,690,000$900,000=4.1

Description:

Current ratio is used to determine the relationship between current assets and current liabilities. The ideal current ratio is 2:1.  Current assets include cash and cash equivalents, short-term investments, net, accounts and notes receivables, net, inventories, and prepaid expenses and other current assets. Current liabilities include short-term obligations and accounts payable.  

Formula:

Current ratio=Current assetsCurrentliabilities

3. Quick ratio

Quick ratio =Quick assets Currentliabilities=$2,250,000$900,000=2.5

Description:

Acid-Test Ratio is the ratio denotes that this ratio is a more rigorous test of solvency than the current ratio. It is determined by dividing quick assets and current liabilities. The acceptable acid-test ratio is 0.90 to 1.00. It is referred as quick ratio. Use the following formula to determine the acid-test ratio:

Acid Ratio=Quick assetsCurrentliabilities

4. Accounts receivable turnover

Accounts receivables turnover ratio}=Net credit salesAverage accounts receivables=$10,000,000$625,000=16.0

Description:

Accounts receivables turnover ratio is mainly used to evaluate the collection process efficiency. It helps the company to know the number of times the accounts receivable is collected in a particular time period. Main purpose of accounts receivable turnover ratio is to manage the working capital of the company. This ratio is determined by dividing credit sales and sales return.

Formula:

Accounts receivables turnover ratio}=Net credit salesAverage accounts receivables

Average accounts receivable is determined as follows:

Average accounts receivables }(Opening accounts receivables + Closing accounts receivables )2=$740,000+$510,0002=$625,000

5. Number of days’ sales in receivables

 Number of days’ sales in receivable }=Average accounts receivable Average daily sales=$625,00027,397.26=22.8days

Description:

Number of days’ sales in receivables is used to determine the number of days a particular company takes to collect accounts receivables.

Formula:

 Number of days’ sales in receivable=Average accounts receivable Average daily sales

Average daily sales are determined by dividing sales by 365 days.

Average daily sales = Sales365days=$10,000,000365days=$27,397.26

6. Inventory turnover ratio

Inventory turnover ratio =Cost of goods soldAverage inventory=$5,350,000$1,070,000=2.2times

Description:

Inventory turnover ratio is used to determine the number of times inventory used or sold during the particular accounting period.

Formula:

Inventory turnover=Cost of goods soldAverage inventory

Average inventory is determined as below:

 Average inventory = (Opening inventory + Closing inventory )2=$1,190,000+$950,0002=$1,070,000

7.  Number of days sales in inventory ratio

 Number of days’ sales in inventory }=Average inventory Average daily cost of goods sold=$1,070,000$14,657.53=73.0days

Description:

Number of days’ sales in inventory is determined as the number of days a particular company takes to make sales of the inventory available with them.

Formula:

 Number of days’ sales in invenotry=Average inventory Average daily cost of goods sold

Average daily cost of goods sold are determined by dividing cost of goods sold by 365 days. Thus, average daily cost of goods sold are determined as follows:

Average daily cost of goods sold= Cost of goods sold365days=$5,350,000365days=$14,657.53

8. Ratio of fixed assets to long-term liabilities

Ratio of fixed assets to long-term liabilities=Fixed assets Long-term liabilities =$3,740,000$1,700,000=2.2

Description:

Ratio of fixed assets to long-term liabilities is determined by dividing fixed assets and long-term liabilities.

Formula:

Ratio of fixed assets to long-term liabilities=Fixed assets Long-term liabilities 

9. Ratio of liabilities to stockholders’ equity

 Ratio of liabilities to stockholders' equity }=Total liabilitiesStockholders' equity=$2,600,000$7,180,000=0.4

Description:

Ratio of liabilities to stockholders’ equity is determined by dividing liabilities and stockholders’ equity.

Formula:

 Ratio of liabilities to stockholders' equity=Total liabilitiesStockholders' equity

10. Times interest earned ratio

Times-interest-earned ratio }=Income before income tax+Interest expenseInterest expense=$1,130,000+$170,000$170,000=7.6%

Description:

Times interest earned ratio quantifies the number of times the earnings before interest and taxes can pay the interest expense. First, determine the sum of income before income tax and interest expense. Then, divide the sum by interest expense.

Formula:

Times-interest-earned ratio }=Income before income tax+Interest expenseInterest expense

11. Asset turnover ratio

Asset turnover ratio =SalesAverage total assets=$10,000,000$9,267,500=1.1

Description:

Asset turnover ratio is used to determine the asset’s efficiency towards sales.

Formula: Asset turnover =NetrevenueAverage total assets

Working notes for average total assets are as follows:

Average total assets =Beginning total assets + Ending total assets 2=$9,780,000+$8,755,0002=$9,267,500

12. Return on total assets

Return on total assets=Netincome + Interest expenseAverage total assets=$900,000+$170,000$9,267,500=11.5%

Description:

Return on assets determines the particular company’s overall earning power. It is determined by dividing sum of net income and interest expense and average total assets.

Formula:

Rate of return on assets=Netincome + Interest expenseAverage total assets

13. Return on stockholders’ equity

 Return on stockholders' equity}= Net income  Average stockholder’s equity=$900,000$6,777,500=13.3%

Description:

Rate of return on stockholders’ equity is used to determine the relationship between the net income and the average equity that are invested in the company.

Formula: Rate of return on stockholders' equtiy = Net incomeAverage  stockholder’s equity

Average stockholders’ equity is determined as follows:

Average  stockholders' equity =(Beginning  stockholders' equity  + Ending  stockholders' equity  2)=$7,180,000+$6,375,0002=$6,777,500

14. Return on common stockholders’ equity

 Return on common stockholders' equity}= Net income – Preferred dividends Average stockholder’s equity=$900,000$45,000$6,277,500=13.6%

Description:

Rate of return on stockholders’ equity is used to determine the relationship between the net income and the average common equity that are invested in the company.

Formula: Rate of return on common stockholders' equtiy = Net income – Preferred dividends Average  common stockholder’s equity

Average common stockholders’ equity is determined as follows:

Average  stockholders' equity =(Beginning common stockholders' equity  + Ending  common stockholders' equity  2)=$6,680,000+$5,875,0002=$6,277,500

15. Earnings per share on common stock

Earnings per share=(Net income  PreferreddividendsWeighted-average common shares outstanding)=$900,000$45,000100,000=$8.55

Description:

A portion of profit that an individual earns from each share is referred to earnings per share.

Formula:

Earnings per share}=Net income Preferred dividendsWeighted average number of common shares outstanding

16. Price earnings ratio

Price earnings ratio =Market price per shareEarning per share=$119.70$8.55=14.0 times

Description:

Price/earnings ratio is used to determine the profitability of a company. This ratio is abbreviated as P/E.

Formula:

Price/earnings ratio= Market price per share of common stockEarnings per share

17. Dividend per share of common stock

Dividend per share of common stock}= Dividend per Common stockShares of common stock×100=$50,000100,000shares=$0.50

Description:

Dividend per share of commons stock is determined by dividing dividend per common stock and shares of common stock. 

Formula:

Dividend per share of common stock}= Dividend per Common stockShares of common stock×100

18. Dividend yield ratio

Dividend yield = Annual dividend per ShareMarket price per Share×100=$0.50$119.70=0.4%

Description:

Dividend yield ratio is determined to evaluate the relationship between the annual dividend per share and the market price per share.  

Formula:

Dividend yield = Annual dividend per ShareMarket price per Share×100

Conclusion

Thus, summary table of determined ratios are below:

S.NoParticularsRatios
1.  Working capital$2,790,000
2.  Current ratio4.1
3.  Acid test ratio2.5
4.  Accounts receivable turnover ratio16.0
5.  Number of days’ sales in receivables22.8
6.  Inventory turnover ratio5.0
7.  Number of days sales in inventory73.0
8.  Ratio of fixed assets to  long-term liabilities 2.2
9.  Ratio of liabilities to stockholders’ equity0.4
10.  Times interest earned ratio7.6
11.  Asset turnover ratio1.1
12.  Return on total assets11.5%
13.  Return on stockholders’ equity 13.3%
14.  Return on common stockholders’ equity13.6%
15.  Earnings per share $8.55
16.  Price earnings ratio14.0
17.  Dividend  per share of common stock $0.50
18.  Dividend yield 0.4%

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Financial accounting

Chapter 17 Solutions

Financial Accounting

Ch. 17 - Prob. 1PEACh. 17 - Prob. 1PEBCh. 17 - Prob. 2PEACh. 17 - Vertical analysis Income statement information for...Ch. 17 - Prob. 3PEACh. 17 - Prob. 3PEBCh. 17 - Prob. 4PEACh. 17 - Prob. 4PEBCh. 17 - Prob. 5PEACh. 17 - Inventory analysis A company reports the...Ch. 17 - Prob. 6PEACh. 17 - Prob. 6PEBCh. 17 - Times interest earned A company reports the...Ch. 17 - Times interest earned A company reports the...Ch. 17 - Asset turnover A company reports the following:...Ch. 17 - Asset turnover A company reports the following:...Ch. 17 - Prob. 9PEACh. 17 - Prob. 9PEBCh. 17 - Common stockholders' profitability analysis A...Ch. 17 - Common stockholders' profitability analysis A...Ch. 17 - Earnings per share and price-earnings ratio A...Ch. 17 - Earnings per share and price-earnings ratio A...Ch. 17 - Vertical analysis of income statement Revenue and...Ch. 17 - Prob. 2ECh. 17 - Common-sized income statement Revenue and expense...Ch. 17 - Prob. 4ECh. 17 - Prob. 5ECh. 17 - Current position analysis The following data were...Ch. 17 - Prob. 7ECh. 17 - Current position analysis The bond indenture for...Ch. 17 - Accounts receivable analysis The following data...Ch. 17 - Prob. 10ECh. 17 - Inventory analysis The following data were...Ch. 17 - Inventory analysis QT, Inc. and Elppa Computers,...Ch. 17 - Ratio of liabilities to stockholders equity and...Ch. 17 - Prob. 14ECh. 17 - Ratio of liabilities to stockholders equity and...Ch. 17 - Prob. 16ECh. 17 - Profitability ratios The following selected data...Ch. 17 - Profitability ratios Ralph Lauren Corporation...Ch. 17 - Six measures of solvency or profitability The...Ch. 17 - Five measures of solvency or profitability The...Ch. 17 - Earnings per share, price-earnings ratio, dividend...Ch. 17 - Prob. 22ECh. 17 - Earnings per share, discontinued operations The...Ch. 17 - Prob. 24ECh. 17 - Unusual items Explain whether Colston Company...Ch. 17 - Horizontal analysis of income statement For 20Y2,...Ch. 17 - Prob. 2PACh. 17 - Effect of transactions on current position...Ch. 17 - Measures of liquidity, solvency, and profitability...Ch. 17 - Solvency and profitability trend analysis Addai...Ch. 17 - Prob. 1PBCh. 17 - Prob. 2PBCh. 17 - Effect of transactions on current position...Ch. 17 - Prob. 4PBCh. 17 - Solvency and profitability trend analysis Crosby...Ch. 17 - Financial statement analysis The financial...Ch. 17 - Prob. 1CPCh. 17 - Prob. 3CPCh. 17 - Prob. 4CPCh. 17 - Prob. 5CPCh. 17 - The average liabilities, average stockholders'...
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