Chapter 10, Problem 10.1ADM

A.

To determine

Ratio analysis

It is the financial analysis tool for measuring the profitability, liquidity, capability and overall performance of a company.

Following are the two measures of liquidity:

1. 1. Current ratio: Current ratio is used to determine the relationship between current assets and current liabilities. The ideal current ratio is 2:1.
2. 2. Quick ratio: Quick ratio measures the immediate debt paying capacity of a business, which can be measured by dividing quick assets by the current liabilities. Quick assets represent cash, readily marketable securities, and accounts receivable.
3. 3. Working capital: Total current assets minus total current liabilities are the working capital of a company.

Vertical analysis: The analysis which compares the percentage change in the financial components in relation to a base item is referred to as vertical analysis.

Vertical analysis percentage: Vertical analysis denotes the percent of financial element or component in relation to a base amount. It is computed as shown below:

$\begin{array}{l}\text{Vertical analysis}\\ \text{percentage}\end{array}\}\text{ = }\frac{\text{Specific item}}{\text{Base amount}\left(\text{Total current assets}\right)}\text{ × 100}$

To compute: The working capital for each company.

B.

To determine

To compute: The current ratio for each company.

C.

To determine

To compute: The quick ratio for each company.

D.

To determine

To Explain: That the working capital is a good measure of relative liquidity in comparing the two companies.

E.

To determine

To identify: The company which has the highest debt-paying ability, based on the current ratio.

F.

To determine

To identify: The company which has the greater short-term debt-paying ability, based on the quick ratio.

G.

To determine

To explain: The reason behind the difference in the result between Part E and Part F.