Chapter 13, Problem 23PSA

a)

To determine

Calculate the net margin for the year 2019 and 2018.

Explanation of Solution

Net margin:

This ratio gauges the operating profitability by quantifying the amount of income earned from business operations from the sales generated.

The calculation of net margin in the year 2019 is as follows:

$\begin{array}{c}\text{Net margin}=\frac{\text{Net income }}{\text{Total net sales }}\\ =\frac{\$72,000}{\$420,000}\\ =17.14\%\end{array}$

Hence, the net margin for the year 2019 is 17.14%.

The calculation of net margin in the year 2018 is as follows:

$\begin{array}{c}\text{Net margin}=\frac{\text{Net income }}{\text{Total net sales }}\\ =\frac{\$54,000}{\$350,000}\\ =15.43\%\end{array}$

Hence, the net margin for the year 2018 is 15.43%.

b)

To determine

Calculate the return on investment for the year 2019 and 2018.

Explanation of Solution

Return on investment:

This financial ratio evaluates how efficiently the assets are used in earning income from operations. Therefore, ROI is a tool used to measure and compare the performance of a units or divisions or a companies.

The calculation of return on investment for the year 2019 is as follows:

$\begin{array}{c} \text{Return on investmet}=\frac{\text{Net income}}{\text{ Average total assets }}\\ =\frac{\$72,000}{\$512,000(1)}\\ =14.06\%\end{array}$

Hence, the return on investment for the year 2019 is 14.06%

The calculation of return on investment for the year 2018 is as follows:

$\begin{array}{c} \text{Return on investmet}=\frac{\text{Net income}}{\text{ Total assets }}\\ =\frac{\$54,000}{\$488,000\text{ (2) }}\\ =11.07\%\end{array}$

Hence, the return on investment for the year 2018 is 11.07%

Working note:

The calculation of average total assets for the year 2019 is as follows:

$\begin{array}{c}\text{Average total assets }=\frac{\text{Total assets (2019)}+\text{Total assets (2018)}}{2}\\ =\frac{\$536,000+\$488,000}{2}\\ =\frac{\$1,024,000}{2}\\ =\$512,000\end{array}$

Hence, the average total assets for the year 2019 is 512,000. (1)

For the year 2018, the average total assets will be $488,000 (total assets). As previous year total assets are not given it is unable to calculate the average total assets. (2)

c)

To determine

Calculate the return on equity for the year 2019 and 2018.

Explanation of Solution

Return on equity ratio:

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

The calculation of return on equity for the year 2019 is as follows:

$\begin{array}{c} \text{Return on Equity}=\frac{\text{Net}\text{Income}}{\text{Average}\text{Stockholder'}\text{s Equity}}\\ =\frac{\$72,000}{\$253,000(3)}\\ =28.46\%\end{array}$

Hence, the return on equity for the year 2019 is 28.46%.

The calculation of return on equity for the year 2018 is as follows:

$\begin{array}{c} \text{Return on Equity}=\frac{\text{Net}\text{Income}}{\text{Average}\text{Stockholder'}\text{s Equity}}\\ =\frac{\$54,000}{\$216,000(3)}\\ =25\%\end{array}$

Hence, the return on equity for the year 2018 is 25%.

Working note:

The calculation of average stockholders’ equity for the year 2019 is as follows:

$\begin{array}{c}\text{Average stock holders equity}=\frac{\left(\begin{array}{l}\text{Stockholders equity (2019)}+\\ \text{Stockholders equity (2018)}\end{array}\right)}{2}\\ =\frac{\$290,000+\$216,000}{2}\\ =\frac{\$506,000}{2}\\ =\$253,000\end{array}$

Hence, the average stockholders’ equity for the year 2019 is $253,000. (3)

For the year 2018, the average shareholders equity will be $216,000 (total stockholders 2018). As previous year total stockholders are not given it is unable to calculate the average shareholders’ equity. (4)

d)

To determine

Calculate the earnings per share for the year 2019 and 2018.

Explanation of Solution

Earnings per share:

Earnings per share help to measure the profitability of a company. Earnings per share are the amount of profit that is allocated to each share of outstanding stock.

The calculation of earnings per share for the year 2019 is as follows:

$\begin{array}{c}\text{Earning per share}=\frac{\text{Net income }}{\text{ Number of outstanding common shares }}\\ =\frac{\$72,000}{100,000}\\ =\$0.72\end{array}$

Hence, the earning per share for the year 2019 is $0.72.

The calculation of earnings per share for the year 2018 is as follows:

$\begin{array}{c}\text{Earning per share}=\frac{\text{Net income }}{\text{ Number of outstanding common shares }}\\ =\frac{\$54,000}{100,000}\\ =\$0.54\end{array}$

Hence, the earning per share for the year 2018 is $0.54.

e)

To determine

Calculate the price-earnings ratio for the year 2019 and 2018.

Explanation of Solution

 Price/Earnings Ratio:

It depicts the relation of market price of a share to earnings per share of that company. The price/earnings ratio presents the market value of the amount invested to earn $1 by a company. It is major tool to be used by investors before the decisions related to investments in a company.

The calculation of price-earnings ratio for the year 2019 is as follows:

$\begin{array}{c}\text{Price-earnings ratio}=\frac{\text{Market price}}{\text{Earnings per share }}\\ =\frac{\$9.54}{\$0.72}\\ =13.25\text{ times}\end{array}$

Hence, the price-earnings ratio for the year 2019 is 13.25 times.

The calculation of price-earnings ratio for the year 2018 is as follows:

$\begin{array}{c}\text{Price-earnings ratio}=\frac{\text{Market price}}{\text{Earnings per share }}\\ =\frac{\$11.88}{\$0.54}\\ =22\text{ times}\end{array}$

Hence, the price-earnings ratio for the year 2018 is 22 times.

f)

To determine

Calculate the book value per share of common stock for the year 2019 and 2018.

Explanation of Solution

Book value per share of common stock:

This ratio is a measure of a share of common stock that is used to determine the value of per share based on the equity available to the common stockholders. This ratio is calculated by using the formula:

The calculation of book value per share of common stock for the year 2019 is as follows:

$\begin{array}{c} \text{Book value}=\frac{\text{Total equity}-\text{Preferred dividend }}{\text{Average outstanding common stock }}\\ =\frac{\$290,000}{100,000}\\ =\$2.90\end{array}$

Hence, the book value per share of common stock for the year 2019 is $2.90.

The calculation of book value per share of common stock for the year 2018 is as follows:

$\begin{array}{c} \text{Book value}=\frac{\text{Total equity}-\text{Preferred dividend }}{\text{Average outstanding common stock }}\\ =\frac{\$216,000}{100,000}\\ =\$2.16\end{array}$

Hence, the book value per share of common stock for the year 2018 is $2.16.

Note:

The preferred dividend is not given so consider equity directly for the calculation.

g)

To determine

Calculate the number of times interest earned in the year 2019 and 2018.

Explanation of Solution

Times Interest Earned Ratio:

 It is one of the solvency ratios. It is a measure to evaluate the net income for interest payment on debt of a company.

The calculation of the number of times interest earned in the year 2019 is as follows:

$\begin{array}{c} \text{Interest turnover ratio}=\frac{\text{Income before taxes }+\text{interest expenses }}{\text{Interest expenses }}\\ =\frac{\$114,000+\$6,000}{\$6,000}\\ =\frac{\$120,000}{\$6,000}\\ =20\text{ times}\end{array}$

Hence, the number of times interest earned in the year 2019 is 20 times.

The calculation of the number of times interest earned in the year 2018 is as follows:

$\begin{array}{c} \text{Interest turnover ratio}=\frac{\text{Income before taxes }+\text{interest expenses }}{\text{Interest expenses }}\\ =\frac{\$90,000+\$6,000}{\$6,000}\\ =\frac{\$96,000}{\$6,000}\\ =16\text{ times}\end{array}$

Hence, the number of times interest earned in the year 2018 is 16 times.

h)

To determine

Calculate the working capital for the year 2019 and 2018.

Explanation of Solution

Working capital:

The measure that evaluates the ability of a company to pay off the short-term debt obligations, by computing the excess of current assets over current liabilities is mentioned to as working capital.

The calculation of working capital for the year 2019 is as follows:

$\begin{array}{c} \text{Working capital}=\text{Current assets}-\text{Current liabilities}\\ \text{=\$268,000}-\$114,000\\ =\$172,000\end{array}$

Hence, the working capital for the year 2019 is $172,000.

The calculation of working capital for the 2018 is as follows:

$\begin{array}{c} \text{Working capital}=\text{Current assets}-\text{Current liabilities}\\ \text{=\$278,000}-\$138,000\\ =\$140,000\end{array}$

Hence, the working capital for the year 2018 is $140,000.

i)

To determine

Calculate the current ratio for the year 2019 and 2018.

Explanation of Solution

Current ratio:

The financial ratio that evaluates the capability of a company to pay off the debt obligations that mature within one year or within completion of operating cycle is referred to as current ratio. This ratio assesses the liquidity of a company.

The calculation of current ratio for the year 2019 is as follows:

$\begin{array}{c} \text{Current ratio}=\frac{\text{Current assets}}{\text{Current liabilities}}\\ =\frac{\$286,000}{\$114,000}\\ =2.51:1\end{array}$

Hence, the current ratio for the year 2019 is 2.51:1.

The calculation of current ratio for the year 2018 is as follows:

$\begin{array}{c} \text{Current ratio}=\frac{\text{Current assets}}{\text{Current liabilities}}\\ =\frac{\$278,000}{\$138,000}\\ =2.01:1\end{array}$

Hence, the current ratio for the year 2018 is 2.01:1.

j)

To determine

Calculate the quick ratio for the year 2019 and 2018.

Explanation of Solution

Quick Ratio:

It is a ratio used to determine a company’s ability to pay back its current liabilities. Liquid assets that are current assets except inventory and prepaid expenses.

The calculation of quick ratio for the year 2019 is as follows:

$\begin{array}{c}\text{Quick Ratio}\text{=}\frac{\text{Quick}\text{Assets}}{\text{Current}\text{Liabilities}}\\ =\frac{\$80,000\text{ (5)}}{\text{\$114,000 }}\\ =0.70:1\end{array}$

Hence, the quick ratio for the year 2019 is 0.70:1

The calculation of quick ratio for the year 2018 is as follows:

$\begin{array}{c}\text{Quick Ratio}\text{=}\frac{\text{Quick}\text{Assets}}{\text{Current}\text{Liabilities}}\\ =\frac{\$82,000\text{ (6)}}{\text{\$138,000 }}\\ =0.59:1\end{array}$

Hence, the quick ratio for the year 2018 is 0.59:1

Working note:

The calculation of quick assets for the year 2019 is as follows:

$\begin{array}{c}\text{Quick assets}=\text{Cash}+\text{Marketable securities}+\text{Accounts receivable}\\ =\$8,000+\$2,000+\$70,000\\ =\$80,000\end{array}$

Hence, the quick assets for the year 2019 is $80,000. (5)

The calculation of quick assets for the year 2018 is as follows:

$\begin{array}{c}\text{Quick assets}=\text{Cash}+\text{Marketable securities}+\text{Accounts receivable}\\ =\$16,000+\$2,000+\$64,000\\ =\$82,000\end{array}$

Hence, the quick assets for the year 2018 is $82,000. (6)

k)

To determine

Calculate the account receivable turnover for the year 2019 and 2018.

Explanation of Solution

Account receivable:

The amount of money to be received by a company for the sale of goods and services to the customers is referred to as account receivable. The number of times the company receives money is termed as accounts receivable turnover ratio.

The calculation of account receivable turnover for the year 2019 is as follows:

$\begin{array}{c}\text{Account receivable turnover}=\frac{\text{Net sales}}{\text{Average account receivables}}\\ \text{=}\frac{\$420,000}{\$67,000\text{ (7)}}\\ =6.27\text{ times}\end{array}$

Hence, the account receivable turnover for the year 2019 is 6.27 times.

The calculation of account receivable turnover for the year 2018 is as follows:

$\begin{array}{c}\text{Account receivable turnover}=\frac{\text{Net sales}}{\text{Average account receivables}}\\ \text{=}\frac{\$350,000}{\$64,000\text{ (8)}}\\ =5.47\text{ times}\end{array}$

Hence, the account receivable turnover for the year 2018 is 5.47 times.

Working note:

The calculation of average accounts receivable for the year 2019 is as follows:

$\begin{array}{c}\text{Average account receivable}=\frac{\text{Net account receivable (2019)}+\text{Net account receivable (2018)}}{2}\\ =\frac{\$70,000+\$64,000}{2}\\ =\frac{\$134,000}{2}\\ =\$67,000\end{array}$

Hence, the average accounts receivable for the year 2019 is $67,000. (7)

For the year 2018, the average accounts receivable will be $64,000 (accounts receivable 2018). As previous year accounts receivables are not given it is unable to calculate the average accounts receivables. (8)

l)

To determine

Calculate inventory turnover for the year 2019 and 2018.

Explanation of Solution

Inventory turnover ratio:

This is the ratio which analyzes the number of times inventory is sold during the period. This ratio gauges the efficacy of inventory management. Larger the ratio, more efficient the inventory management.

The calculation of inventory turnover for the year 2019 is as follows:

$\begin{array}{c} \text{Inventory turnover ratio}=\frac{\text{Cost of goods sold }}{\text{Average inventory }}\\ =\frac{\$252,000}{\$196,000\text{ (9) }}\\ =1.28\text{ times}\end{array}$

Hence, inventory turnover ratio for the year 2019 is 1.28 times.

The calculation of inventory turnover for the year 2018 is as follows:

$\begin{array}{c} \text{Inventory turnover ratio}=\frac{\text{Cost of goods sold }}{\text{Average inventory }}\\ =\frac{\$206,000}{\$192,000\text{ (10) }}\\ =1.07\text{ times}\end{array}$

Hence, inventory turnover ratio for the year 2018 is 1.07 times.

Working note:

The calculation of average inventory for the year 2019 is as follows:

$\begin{array}{c}\text{Average inventory}=\frac{\text{Inventory (2019)}+\text{Inventory (2019)}}{2}\\ =\frac{\$200,000+\$192,000}{2}\\ =\frac{\$392,000}{2}\\ =\$196,000\end{array}$

Hence, the average inventory for the year 2019 is $196,000. (9)

For the year 2018, the average inventory will be $192,000 (inventory 2018). As previous year inventory are not given it is unable to calculate the average inventory. (10)

m)

To determine

Compute the debt to equity ratio for the year 2019 and 2018.

Explanation of Solution

Debt to equity ratio:

Debt to equity ratio can be defined as the comparison of the resources provided by creditors to the resources provided by owners.

The calculation of debt to equity ratio for the year 2019 is as follows:

$\begin{array}{c} \text{Debt to equity ratio}=\frac{\text{Total liabilities }}{\text{Toatl stockholders equity }}\\ =\frac{\$246,000}{\$290,000}\\ =0.85:1\end{array}$

Hence, the debt to equity ratio for the year 2019 is 0.85:1.

The calculation of debt to equity ratio for the year 2018 is as follows:

$\begin{array}{c} \text{Debt to equity ratio}=\frac{\text{Total liabilities }}{\text{Toatl stockholders equity }}\\ =\frac{\$272,000}{\$216,000}\\ =1.26:1\end{array}$

Hence, the debt to equity ratio for the year 2018 is 1.26:1.

n)

To determine

Compute the debt to asset ratio for the year 2019 and 2018.

Explanation of Solution

Debt to asset ratio:

Debt to asset is the ratio between total asset and total liability of the company. Debt ratio reflects the finance strategy of the company. It is used to evaluate company’s ability to pay its debts. Higher debt ratio implies the higher financial risk.

The calculation of debt to assets ratio for the year 2109 is as follows:

$\begin{array}{c} \text{Debt to assets ratio}=\frac{\text{Total liabilities }}{\text{Total assets }}\\ =\frac{\$246,000}{\$536,000}\\ =46\%\end{array}$

Hence, the debt to asset ratio for the year 2019 is 46%.

The calculation of debt to assets ratio for the year 2108 is as follows:

$\begin{array}{c} \text{Debt to assets ratio}=\frac{\text{Total liabilities }}{\text{Total assets }}\\ =\frac{\$272,000}{\$488,000}\\ =56\%\end{array}$

Hence, the debt to asset ratio for the year 2018 is 56%.