Chapter 11, Problem 5APSA

To determine

Times Interest earned: Times interest earned is calculated by dividing income before interest and income tax by interest expense. This ratio shows the ratio of income earned by a company to amount of interest expenses, whether the company is earning enough to pay off its interest expenses. Thus, higher the ratio more capable is the company to pay off its interest expense. Formula for the same is given below:

$TimesInterestEarned=\frac{EarningsBeforeInterestAndTaxes}{InterestExpense}$

Requirement 1:

To determine:

Times interest earned ratio for miller Company using the formula as stated above.

Explanation of Solution

Times interest earned for Miller Company.

$TimesInterestEarned=\frac{EarningsBeforeInterestAndTaxes}{InterestExpense}$

$\begin{array}{l}TimesInterestEarned=\frac{200000}{60000}\\ TimesInterestEarned=3.33Times\end{array}$

To determine

Requirement 2:

To determine:

Times interest earned ratio for Weaver Company using the formula as stated above.

Explanation of Solution

Times interest earned for Weaver Company

$TimesInterestEarned=\frac{EarningsBeforeInterestAndTaxes}{InterestExpense}$

$\begin{array}{l}TimesInterestEarned=\frac{400000}{260000}\\ TimesInterestEarned=1.54Times\end{array}$

To determine

Requirement 3:

To determine:

Changes If sales Increase by 30%.

Explanation of Solution

Miller Company		Weaver Company
Sales	1000000	Sales	1000000
Add 30%	300000	Add 30%	300000
Total Sales	1300000	Total Sales	1300000
Sales	1300000	Sales	1300000
Variable Expense(80%)	1040000	Variable Expense(60%)	780000
Income Before Interest	260000	Income Before Interest	520000
Interest(Fixed Expense)	60000	Interest(Fixed Expense)	260000
Net Income	200000	Net Income	260000

If sales are increased by 30%, Net income of Miller increases to $200000 from $140000 and Net Income of Weaver increases from $140000 to $260000.

To determine

Requirement 4:

To determine:

Changes If Sales increase by 50%

Explanation of Solution

Miller Company		Weaver Company
Sales	1000000	Sales	1000000
Add 50%	500000	Add 50%	500000
Total Sales	1500000	Total Sales	1500000
Sales	1500000	Sales	1500000
Variable Expense(80%)	1200000	Variable Expense(60%)	900000
Income Before Interest	300000	Income Before Interest	600000
Interest(Fixed Expense)	60000	Interest(Fixed Expense)	260000
Net Income	240000	Net Income	340000

If sales are increased by 50% Net Income of Miller company increased to $240000 from $140000 and net income of Weaver increases to $340000 from $140000.

To determine

Requirement 5:

To determine:

Changes If Sales Increase by 80%

Explanation of Solution

Miller Company		Weaver Company
Sales	1000000	Sales	1000000
Add 80%	800000	Add 80%	800000
Total Sales	1800000	Total Sales	1800000
Sales	1800000	Sales	1800000
Variable Expense(80%)	1440000	Variable Expense(60%)	1080000
Income Before Interest	360000	Income Before Interest	720000
Interest(Fixed Expense)	60000	Interest(Fixed Expense)	260000
Net Income	300000	Net Income	460000

If sales increase to 80% net income of Miller Company increases to $300000 from $140000 and Weaver Company increases from $140000 to $460000.

To determine

Requirement 6:

To determine:

Changes If sales decrease by 10%

Explanation of Solution

Miller Company		Weaver Company
Sales	1000000	Sales	1000000
Less 10%	100000	Less 10%	100000
Total Sales	900000	Total Sales	900000
Sales	900000	Sales	900000
Variable Expense(80%)	720000	Variable Expense(60%)	540000
Income Before Interest	180000	Income Before Interest	360000
Interest(Fixed Expense)	60000	Interest(Fixed Expense)	260000
Net Income	120000	Net Income	100000

If Sales decrease by 10%, Net income of miller reduces to $120000 from $140000 and Weaver Company, reduces from $140000 to $100000.

To determine

Requirement 7:

To determine:

Changes If sales decrease by 20%

Explanation of Solution

Miller Company		Weaver Company
Sales	1000000	Sales	1000000
Less 20%	200000	Less 20%	200000
Total Sales	800000	Total Sales	800000
Sales	800000	Sales	800000
Variable Expense(80%)	640000	Variable Expense(60%)	480000
Income Before Interest	160000	Income Before Interest	320000
Interest(Fixed Expense)	60000	Interest(Fixed Expense)	260000
Net Income	100000	Net Income	60000

If sales decrease by 20%, Net income of Miller company reduces from $140000 to $100000 and Weaver Company reduces from $140000 to $60000

To determine

Requirement 8:

To determine:

Changes If sales decrease by 40%

Explanation of Solution

Miller Company		Weaver Company
Sales	1000000	Sales	1000000
Less 40%	400000	Less 40%	400000
Total Sales	600000	Total Sales	600000
Sales	600000	Sales	600000
Variable Expense(80%)	480000	Variable Expense(60%)	360000
Income Before Interest	120000	Income Before Interest	240000
Interest(Fixed Expense)	60000	Interest(Fixed Expense)	260000
Net Income	60000	Net Income	-20000

If sales decrease by 40% net income of Miller Company reduces to $60000 from $140000 and Weaver Company suffers a loss of $20000 from profit of $140000.