Chapter 12, Problem 92PSA

A Preparation of Ratios

Refer to the financial statements for Burch Industries in Problem 12-89A and the following data.

Required:

1. Prepare all the financial ratios for Burch for 2019 and 2018 (using percentage terms where appropriate and rounding all answers to two decimal places).

2. CONCEPTUAL CONNECTION Explain whether Burch’s short-term liquidity is adequate.

3. CONCEPTUAL CONNECTION Discuss whether Burch uses its assets efficiently.

4. CONCEPTUAL CONNECTION Determine whether Burch is profitable.

5. CONCEPTUAL CONNECTION Discuss whether long-term creditors should regard Burch as a high-risk or a low-risk firm.

6. Perform a Dupont analysis (rounding to two decimal places) for 2018 and 2019.

To determine

(a)

An organization’s liquidity is its capacity to meet its short-term financial commitments. Liquidity proportions endeavor to quantify an organization’s capacity to satisfy its short-term obligation commitments. This is finished by contrasting an organization’s most fluid resources, those that can be effectively changed over to money, with its short-term liabilities.

To discuss:

Calculate all financial ratio.

Answer to Problem 92PSA

Ratio	2019	2018
Current ratio	3.58	3.30
Quick ratio	2.18	2.10
Cash ratio	0.64	0.62
Operating cash flow ratio	0.42	0.35
Long-term debt to equity ratio	0.01	0.058
Debt to equity ratio	0.35	0.414
Long-term debt to total assets ratio	0.007	0.041
Debt to Total assets ratio	0.25	0.30
Accounts receivable turnover ratio	6.22	6.09
Inventory turnover ratio	4.48	3.95
Assets turnover ratio	1.93	1.90
Gross profit percentage	0.40	0.386
Return on assets	0.19	0.19
Return on equity	0.25	0.279
Earnings per share ratio	4.73	4.30
Return on common equity	4.73	4.30
Dividend yield ratio	0.009	0.016
Stock repurchase payout ratio	2.54	1.765

Explanation of Solution

For 2019

Short-term liquidity ratios

$\begin{array}{l}1.\text{ Current ratio =}\frac{\text{current Assets}}{\text{current liabilities}}=\frac{1,620,647}{452,564}=3.58\\ 2.\text{ Quick ratio =}\frac{\text{quick assets}}{\text{current liabilities}}=\frac{985209}{452,564}=2.18\\ 3.\text{ cash ratio = }\frac{\text{cash + short term investment}}{\text{current liabilities}}=\frac{291,284}{452,564}=0.64\\ 4.\text{ operting cash flow ratio = }\frac{\text{cash flow from operating activity}}{\text{current liabilities}}=\frac{190,000}{452,564}=0.42\end{array}$

$\begin{array}{l}\text{debt management ratio}\\ \text{5}\text{. long-term debt to equity ratio=}\frac{\text{long-term debt }}{\text{total equity}}=\frac{15,033}{1,542,486}=0.01\\ 6.\text{ Debt to equity ratio=}\frac{\text{Total liabilities}}{\text{Total equity}}=\frac{541,437}{1,542,486}=0.35\\ 67.\text{ Long-term debt to total assets ratio= }\frac{\text{long-term debt }}{\text{Total Assets}}=\frac{15,033}{2,187,463}=0.007\\ 8.\text{ Debt to total assets ratio = }\frac{\text{Total liabilities}}{\text{Total assets}}=\frac{541,437}{2,187,463}=0.25\end{array}$

Assets Efficiency ratios

$\begin{array}{l}9.\text{ Accounts Receivable turnover ratio=}\frac{\text{net credit sales }}{\text{average accounts receivable}}=\frac{3,930,984}{631,782.5}=6.22\\ 10.\text{ inventory turnover ratio =}\frac{\text{cost of goods sold}}{\text{average inventory turnover}}=\frac{2,386,993}{532094}=4.48\\ 11.\text{ assets turnover ratio =}\frac{\text{ Net sales}}{\text{average total assets}}=\frac{3,930,984}{2030162}=1.93\end{array}$

Profitability ratio

$\begin{array}{l}12.\text{ Gross Profit Percentage=}\frac{\text{gross profit}}{\text{Net sale}}=\frac{1543991}{3,930,984}=0.40\\ 13.\text{ Return on assets =}\frac{\text{Net income +}\left[\text{interest expense }\times \left(1-\text{tax rate}\right)\right]}{Average\text{ total assets}}\\ =\frac{365016+\left[25739\times \left(1-.3864\right)\right]}{2030162}=\frac{380809}{2030162}=0.19\\ 14.\text{ Return on equity=}\frac{\text{net income }}{\text{Average equity}}=\frac{365016}{1485087}=0.25\\ 15.\text{ net profit margin =}\frac{Net\text{ income}}{\text{net sales}}=\frac{365016}{3,930,984}=0.09\end{array}$

Stockholder Ratios

$\begin{array}{l}16.\text{ Earning per share ratio=}\frac{\text{net income - preferred dividens}}{\text{average number of common share outstanding}}=\frac{365016}{77063}=4.73\\ 17.\text{ Return on common equity=}\frac{\text{net income }}{average\text{ common equity}}=\frac{365016}{77063}=4.73\\ 18.\text{ dividend yield ratio=}\frac{dividend\text{ per common share}}{\text{closing market price per share for the year}}=\frac{0.75}{86.33}=0.009\\ 19.\text{ stock repurchase payout ratio=}\frac{\text{common stock repurchase}}{\text{ net income}}=\frac{930111}{365016}=2.54\end{array}$

For 2018

Short-term liquidity ratios

$\begin{array}{l}1.\text{ Current ratio =}\frac{\text{current Assets}}{\text{current liabilities}}=\frac{1387758}{420588}=3.30\\ 2.\text{ Quick ratio =}\frac{\text{quick assets}}{\text{current liabilities}}=\frac{883579}{420588}=2.10\\ 3.\text{ cash ratio = }\frac{\text{cash + short term investment}}{\text{current liabilities}}=\frac{260050}{420588}=0.62\\ 4.\text{ operting cash flow ratio = }\frac{\text{cash flow from operating activity}}{\text{current liabilities}}=\frac{150000}{420588}=0.35\end{array}$

$\begin{array}{l}\text{debt management ratio}\\ \text{5}\text{. long-term debt to equity ratio=}\frac{\text{long-term debt }}{\text{total equity}}=\frac{77022}{1324149}=0.058\\ 6.\text{ Debt to equity ratio=}\frac{\text{Total liabilities}}{\text{Total equity}}=\frac{548712}{1324149}=0.414\\ 67.\text{ Long-term debt to total assets ratio= }\frac{\text{long-term debt }}{\text{Total Assets}}=\frac{77022}{1872861}=0.0411\\ 8.\text{ Debt to total ratio = }\frac{\text{Total liabilities}}{\text{Total assets}}=\frac{548712}{1872861}=0.30\end{array}$

Assets Efficiency ratios

$\begin{array}{l}9.\text{ Accounts Receivable turnover ratio=}\frac{\text{net credit sales }}{\text{average accounts receivable}}=\frac{3405211}{558803}=6.09\\ 10.\text{ inventory turnover ratio =}\frac{\text{cost of goods sold}}{\text{average inventory turnover}}=\frac{2089089}{528898}=3.95\\ 11.\text{ assets turnover ratio =}\frac{\text{ Net sales}}{\text{average total assets}}=\frac{3405211}{1790645}=1.90\end{array}$

Profitability ratio

$\begin{array}{l}12.\text{ Gross Profit Percentage=}\frac{\text{gross profit}}{\text{Net sale}}=\frac{1316122}{3405211}=0.3865\\ 13.\text{ Return on assets =}\frac{\text{Net income +}\left[\text{interest expense }\times \left(1-\text{tax rate}\right)\right]}{Average\text{ total assets}}\\ =\frac{329218+\left[30665\times \left(1-.3690\right)\right]}{2030162}=\frac{348567}{1790645}=0.19\\ 14.\text{ Return on equity=}\frac{\text{net income }}{\text{Average equity}}=\frac{329218}{1178469}=0.279\\ 15.\text{ net profit margin =}\frac{Net\text{ income}}{\text{net sales}}=\frac{329218}{3405211}=0.096\end{array}$

Stockholder Ratios

$\begin{array}{l}16.\text{ Earning per share ratio=}\frac{\text{net income - preferred dividens}}{\text{average number of common share outstanding}}=\frac{329218}{76602}==4.30\\ 17.\text{ Return on common equity=}\frac{\text{net income }}{average\text{ common equity}}=\frac{329218}{76602}==4.30\\ 18.\text{ dividend yield ratio=}\frac{dividend\text{ per common share}}{\text{closing market price per share for the year}}=\frac{0.59}{35.12}=0.016\\ 19.\text{ stock repurchase payout ratio=}\frac{\text{common stock repurchase}}{\text{ net income}}=\frac{581134}{329218}=1.765\end{array}$.

To determine

(b)

A company’s liquidity is its capacity to meet its short-term money related obligations. Liquidity ratios endeavor to measure a company’s capacity to satisfy its short-term obligation obligations. This is finished by looking at a company’s most fluid assets, those that can be easily changed over to cash, with its short-term liabilities.

To discuss:

Discuss the Short term liquidity.

Answer to Problem 92PSA

As per the company ratio, the company has more cash and company need to investment the extra cash in the market or any other place so company earn more benefit.

Explanation of Solution

Short-term liquidity always be better if the ratio is near about 2:1, 1:1 and like this.

In this company both the year ratio is high which better but not effective for the company its company have more cash so company need to investment the extra cash in the market.

To determine

(c)

The benefit turnover ratio is an efficiency ratio that estimates an organization’s capacity to create deals from its advantages by contrasting net deals and normal all out resources. At the end of the day, this ratio demonstrates how productively an organization can utilize its resources for create deals.

To discuss:

Discuss the assets efficiently ratio.

Answer to Problem 92PSA

Company cannot use the assets properly so the ratio is low. The company real need to improve the efficiency of assets for increase the production.

The Company have sufficient assets but company not uses the assets for production.

Explanation of Solution

Higher stock turnover ratios are viewed as a positive pointer of powerful stock administration. Nonetheless, a higher stock turnover ratio improves execution. It in some cases may show lacking stock dimension, which may result in decline in deals.

To determine

(d)

Profitability ratios are a class of money related measurements that are utilized to survey a business' capacity to produce income with respect to its income, working costs, accounting report resources, and shareholders' value after some time, utilizing information from a particular point in time.

To discuss:

Discuss the profitability of the company.

Answer to Problem 92PSA

Company have good profitability according to all profitability ratio but the company have more resource to earn income like extra utilization of assets for more production.

Explanation of Solution

The company have sufficient earning from the main business. The company have more benefit which can be use for the production. The company has to more resource of the assets for increase the production.

Right now profitability goods for the company.

To determine

(a)

Long Term Debt to Total Asset Ratio is the proportion that speaks to the money related position of the organization and the organization’s capacity to meet all its monetary prerequisites. It demonstrates the level of an organization’s assets that are financed with credits and other monetary commitments that last over a year.

To discuss:

Discuss the long-term creditor as a high risk or low risk.

Answer to Problem 92PSA

Long-term debt ratio is normal in the question because in 2019 the ratio is good but in 2018 the ratio more than 0.40. so the ratio in the 2018 is higher than normal.

Explanation of Solution

It is determined by separating total liabilities by total assets, with higher debt proportions demonstrating higher degrees of debt financing. Regardless of whether a debt proportion is great relies upon the setting inside which it is being broke down. From an unadulterated hazard point of view, lower proportions (0.4 or lower) are viewed as better debt proportions.

To determine

(e)

The Dupont analysis sometime called the Dupont display is a monetary proportion dependent on the arrival on value proportion that is utilized to investigate an organization’s capacity to build its arrival on value. As it were, this model separates the arrival on value proportion to clarify how organizations can expand their arrival for speculators.

To calculate:

Calculate the Dupont analysis for 2019 and 2018.

Answer to Problem 92PSA

According to Dupont analysis

Particular	2019	2018
Return on equity	0.245	0.28

Explanation of Solution

$\text{Return on Equity = }\frac{\text{net income}}{sale}\times \frac{sale}{\text{Average total assets}}\times \frac{\text{Average total assets}}{\text{average Equity}}$

For 2019

$\text{Return on Equity = }\frac{\text{365016}}{3930984}\times \frac{3930984}{\text{2030162}}\times \frac{\text{2030162}}{\text{1485087}\text{.5}}=0.245$

For 2018

$\text{Return on Equity = }\frac{\text{329218}}{3405211}\times \frac{3405211}{1790645.5}\times \frac{1790645.5}{1178469}=0.28$.