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1.
Compute the gross profit percentage for current and previous year.
1.
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Explanation of Solution
Financial Ratios
Financial ratios are the metrics used to evaluate the capabilities, profitability, and overall performance of a company.
Compute the gross profit percentage for the previous year.
Gross profit percentage = Net Sales Revenue − Cost of goods soldNet sales revenue × 100=$185,000− $111,000$185,000 × 100= 40.0%
Compute the gross profit percentage for the current year.
Gross profit percentage = Net Sales Revenue − Cost of goods soldNet sales revenue × 100=$222,000− $127,650$222,000 × 100= 42.5%
By comparing the percentage gross profit percentage of Company TA during previous year (40.0%) with current year (42.5%), there is an increase in the gross profit percentage by 2.5 cents (40.0%−42.5%) in current year which is comparatively higher than previous year. Thus, this indicates that company is earning high profit for per dollar of sales.
2.
Compute the net profit margin for current and previous year.
2.
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Explanation of Solution
Compute the net profit margin for previous year.
Net profit margin =Net Income (1)Net Sale Revenue×100= $25,900$185,000×100= 14.0%
Compute the net profit margin for the current year.
Net profit margin =Net Income (1)Net Sale Revenue×100= $35,525$222,000×100= 16.0%
When compared to the previous year net profit margin, the net profit margin of Company TA in the current year has been increased 2.0 %(16%−14%) . Hence company TA did better job.
Working note (1):
Company TA | ||||
Financial statement | ||||
December 31 | ||||
Particulars |
Current year Amount ($)(A) |
Previous year Amount ($)(B) | ||
(C=A−B) $ | (D=C÷B)$ | |||
Income statement | ||||
Sales revenue | 222,000 | 185,000 | 37,000 | 20.0% |
Cost of goods sold | 127,650 | 111,000 | 16,650 | 15.0% |
Gross profit | 94,350 | 74,000 | 20,350 | 27.5% |
Operating expenses | 39,600 | 33,730 | 5,850 | 17.4% |
Interest expenses | 4,000 | 3,270 | 730 | 22.3% |
Income before income tax expense | 50,750 | 37,000 | 13,750 | 37.2% |
Income tax expense (30%) | 15,225 | 11,100 | 4,125 | 37.2% |
Net income | 35,525 | 25,900 | 9,625 | 37.2% |
Balance sheet | ||||
Cash | 40,000 | 38,000 | 2,000 | 5.3% |
18,500 | 16,000 | 2,500 | 15.6% | |
Inventory | 25,000 | 22,000 | 3,000 | 13.6% |
Property and equipment | 127,000 | 119,000 | 8,000 | 6.7% |
Total assets | 210,500 | 195,000 | 15,500 | 7.9% |
Accounts payable | 27,000 | 25,000 | 15,500 | 8.0% |
Income tax payable | 3,000 | 2,800 | 2,000 | 7.1% |
Note payable(long-term) | 75,500 | 92,200 | 200 | (18.1%) |
Total liabilities | 105,500 | 120,000 | (16,700) | (12.7%) |
Common stock(par $10) | 25,000 | 25,000 | (14,500) | 0% |
| 80,000 | 50,000 | 0 | 60% |
Total liabilities and | 210,500 | 195,000 | 30,000 | 7.9% |
Table (1)
3.
Compute the earnings per share for the current year and previous year.
3.
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Explanation of Solution
Calculate the earnings per share for the previous year.
EPS= Net Income −Preferred DividendsAverage Number of shares of Common stock outstanding= $25,900−$0$25,000 (2)= 1.04
Calculate the earnings per share for the current year.
EPS= Net Income −Preferred DividendsAverage Number of shares of Common stock outstanding= $35,525−$0$25,000 (2)= 1.42
The Company has an EPS of ($1.42) which is comparatively higher than previous year earnings per share ($1.04), Hence, there is an increase in EPS by 0.38cents ($1.42−$1.04). Increase in the EPS value shows a good profit for the stockholder’s.
Working note (2):
Average Number of shares of Common stock outstanding}=Common Stock BalancePer share value=$25,0001=$25,000
4.
Compute the return on equity for current and previous each year.
4.
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Explanation of Solution
Calculate the return on equity for the previous year.
Return on Equity(ROE) = Net Income − Preferred DividendsAverage Common Stockholders' Equity × 100=$25,900− $0$70,000 (3) × 100= 37.0%
Calculate the return on equity for the current year.
Return on Equity(ROE) = Net Income − Preferred DividendsAverage Common Stockholders' Equity × 100=$35,525− $0$90,000 (3) × 100= 39.5%
Company has generated more returns on equity in current year (39.5%) which is comparatively higher than the return on equity of previous year (37.0%). Increase in the return on equity increase the net profit margin of Company TA.
Working note (3):
Calculate Average stockholder’s equity for the previous year.
Average stockholder's Equity = Opening stockholder' s equity + Closing Stockholder's equity2= $75,00+$65,0002= $70,000
Calculate Average stockholder’s equity for the current year.
Average stockholder's Equity = Opening stockholder' s equity + Closing Stockholder's equity2= $105,000+$75,0002= $90,000
5.
Compute the fixed asset turnover for current and previous year.
5.
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Explanation of Solution
Calculate the fixed asset turnover for the previous year.
Fixed asset turnover = Net RevenueAverage Net Fixed Assets= $185,000$117,000 (4)= 1.58
Calculate the fixed asset turnover for the current year.
Fixed asset turnover = Net RevenueAverage Net Fixed Assets= $222,000$123,000 (5)= 1.80
Company TA has utilized its fixed assets, better in the current year than in previous year, as the fixed asset turnover ratio of the current year (1.80) is comparatively higher than the previous year (1.58) for every dollar invested in fixed assets.
Working note (4):
Calculate the fixed asset turnover for the previous year.
Average net fixed assets = Opening + Closing 2= $119,000+$115,0002= $117,000
Working Note (5):
Calculate the fixed asset turnover for the current year.
Average net fixed assets = Opening fixed assets + Closing fixed assets 2= $127,000+$119,0002= $123,000
6.
Compute the debt - to - asset for current and previous year.
6.
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Explanation of Solution
Compute the debt –-to - asset for the previous year.
Debt -to -asset = Total LiabilitiesTotal Assets= $120,000$195,000= 0.62
Compute the debt - to -asset for the current year.
Debt -to -asset = Total LiabilitiesTotal Assets= $105,500$210,500= 0.50
Company has received a contribution of 50% from its creditors which is comparatively less than the contribution made by its creditors during the previous year (62%). Therefore, Company TA shows a less risky financing strategy in the current year than the previous year.
7.
Compute the time interest earned for current and previous year.
7.
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Explanation of Solution
Compute the time interest earned for previous year.
Times Interest Earned = Net Income + Interest Expense + Income tax expenseInterest Expense= $25,900+$3,270+$11,100$3,270= 12.3
Compute the time interest earned for current year.
Times Interest Earned = Net Income + Interest Expense + Income tax expenseInterest Expense= $35,525+$4,000+$15,225$4,000= 13.7
Company’s times interest earned ratio has improved by 1.4 cents (13.7−12.3) . Company TA times interest earned ratio for the current year (13.7) shows that the company has enough net income which is earned before paying interest and income taxes to meet out their interest expense for the year.
8.
Compute the price earnings ratio for current and previous year.
8.
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Explanation of Solution
Compute the price earnings ratio for previous year.
Price earning ratio = Stock Price (per share)Earnings per share (annual)= $12$1.04= 11.5
Compute the price earnings ratio for current year.
Price earning ratio = Stock Price (per share)Earnings per share (annual)= $17$1.42= 12.0
Price earnings ratio of Company TA shows that investors have become more confident about the future success of the company. Because the company price earnings ratio has increased from 11.5 to 12.0 in the current year, (by 0.5 cents) which is comparatively more than the price earnings ratio of previous year. Increase in the price earnings ratio shows that investors of the company have trust in company’s future performance, and their increase in profits. Lower price earnings ratio shows that investors of the company do not expect effective financial performance.
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Chapter 13 Solutions
Loose Leaf For Fundamentals Of Financial Accounting
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