Chapter 2, Problem 2.5AP

(a)

To determine

Working capital: The measure which 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 referred to as working capital. This ratio assesses the liquidity of a company.

Formula of working capital:

$\text{Working capital = Current assets – Current liabilities}$

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

Formula of current ratio:

$\text{Current ratio = }\frac{\text{Current assets}}{\text{Current liabilities}}$

Free cash flow: This measure evaluates the cash-generating capacity of a company from its operating activities, after paying capital expenditures and dividends. This ratio assesses the solvency of a company.

Formula of free cash flow:

$\text{Free cash flow = }\left\{\begin{array}{l}\text{Net cash provided by operating activities–}\\ \text{Capital expenditures–}\\ \text{Dividends}\end{array}\right\}$

Debt to assets ratio: This financial ratio evaluates the ability of a company to pay off long-term debt obligations owed to creditors. This ratio assesses the solvency of a company.

Formula of debt to assets ratio:

$\text{Debt to assets ratio = }\frac{\text{Total liabilities}}{\text{Total assets}}$

Earnings per share (EPS): The amount of net income available to each shareholder per common share outstanding is referred to as earnings per share (EPS). This ratio assesses the profitability of a company.

Formula of EPS:

$\text{EPS = }\frac{\text{Net income – Preferred dividends}}{\text{Weighted average common shares outstanding}}$

To compute: (a) (i) Working capital, (ii) current ratio (iii) free cash flow (iv) debt to assets ratio (v) earnings per share for Company O for the year 2017.

(b)

To determine

To compute: (b) and compare the changes in liquidity, solvency, and profitability of 2017 with the values of 2016