Chapter 3, Problem 17QP

Calculating Financial Ratios [LO2] Based on the balance sheets given for Just Dew It, calculate the following financial ratios for each year:

a. Current ratio.

b. Quick ratio.

c. Cash ratio.

d. NWC to total assets ratio.

e. Debt–equity ratio and equity multiplier.

f. Total debt ratio and long-term debt ratio.

Summary Introduction

To calculate: The current ratio.

Introduction:

The financial ratios are important tools for effective decision-making. It compares different figures taken from the financial statement to obtain information about the performance of the firm.

Answer to Problem 17QP

The current ratio for the year 2014 and 2015 are 1.44 times and 1.51 times respectively.

Explanation of Solution

Given information:

• The total current assets (2014) is $90,717.
• The total current liabilities (2014) is $62,939.
• The total current assets (2015) is $100,617.
• The total current liabilities (2015) is $66,442.

Given the balance sheet of Corporation JD is as follows:

		Corporation JD
Assets			Liabilities
	2014	2015		2014	2015
Current Assets			Current liabilities
Cash	$11,135	$13,407	Accounts payable	$45,166	$48,185
Accounts receivable	$28,419	$30,915	Notes payable	$17,773	$18,257
Inventory	$51,163	$56,295	Total	$62,939	$66,442
Total	$90,717	$100,617
			Long-term debt	$44,000	$39,000
			Owners' equity
			Common stock and       paid-in surplus	$50,000	$50,000
			Retained earnings	$260,234	$302,735
Net plant and equipment	$326,456	$357,560	Total	$310,234	$352,735
Total assets	$417,173	$458,177	Total liabilities and owners' equity	$417,173	$458,177

Formula to calculate the current ratio:

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

Compute current ratio for the year 2014:

$\begin{array}{c}\text{Current ratio}=\frac{\text{Current assets }}{\text{Current liabilities }}\\ =\frac{\$90,717}{\$62,939}\\ =1.44\text{ times}\end{array}$

Compute current ratio for the year 2015:

$\begin{array}{c}\text{Current ratio}=\frac{\text{Current assets }}{\text{Current liabilities }}\\ =\frac{\$100,617}{\$66,442}\\ =1.51\text{ times}\end{array}$

Hence, the current ratio for the year 2014 and 2015 are 1.44 times and 1.51 times respectively.

Summary Introduction

To calculate: The quick ratio.

Introduction:

The financial ratios are important tools for effective decision-making. It compares different figures taken from the financial statement to obtain information about the performance of the firm.

Answer to Problem 17QP

The quick ratio for the year 2014 and 2015 are 0.63 times and 0.67 times respectively.

Explanation of Solution

Given information:

• The total current asset (2014) is $90,717.
• Inventory (2014) is $51,163.
• The total current liabilities (2014) is $62,939.
• The total current asset (2015) is $100,617.
• Inventory (2015) is $56,295.
• The total current liabilities (2015) is $66,442.

Formula to calculate the current ratio:

$\text{Quick ratio}=\frac{\left(\text{Current assets}-\text{Inventory}\right)}{\text{Current liabilities}}$

Compute quick ratio for the year 2014:

$\begin{array}{c}\text{Quick ratio}=\frac{\left(\text{Current assets}-\text{Inventory}\right)}{\text{Current liabilities}}\\ =\frac{\left(\$90,717-\$51,163\right)}{\$62,939}\\ =\frac{\$39,554}{\$62,939}\\ =0.63\text{ times}\end{array}$

Compute quick ratio for the year 2015:

$\begin{array}{c}\text{Quick ratio}=\frac{\left(\text{Current assets}-\text{Inventory}\right)}{\text{Current liabilities}}\\ =\frac{\$100,617-\$56,295}{\$66,442}\\ =\frac{\$44,322}{\$66,442}\\ =0.67\text{ times}\end{array}$

Hence, the quick ratio for the year 2014 and 2015 are 0.63 times and 0.67 times respectively.

Summary Introduction

To calculate: The cash ratio.

Introduction:

The financial ratios are important tools for effective decision-making. It compares different figures taken from the financial statement to obtain information about the performance of the firm.

Answer to Problem 17QP

The cash ratio for the year 2014 and 2015 are 0.18 times and 0.20 times respectively.

Explanation of Solution

Given information:

• Cash (2014) is $11,135.
• Total current liabilities (2014) is $62,939.
• Cash (2015) is $13,407.
• Total current liabilities (2015) is $66,442.

Formula to calculate the cash ratio:

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

Compute cash ratio for the year 2014:

$\begin{array}{c}\text{Cash ratio}=\frac{\text{Cash}}{\text{Current liabilities}}\\ =\frac{\$11,135}{\$62,939}\\ =0.18\text{ times}\end{array}$

Compute quick ratio for the year 2015:

$\begin{array}{c}\text{Cash ratio}=\frac{\text{Cash}}{\text{Current liabilities}}\\ =\frac{\$13,407}{\$66,442}\\ =0.20\text{ times}\end{array}$

Hence, the cash ratio for the year 2014 and 2015 are 0.18 times and 0.20 times respectively.

Summary Introduction

To calculate: The net working capital to the ratio of total assets.

Introduction:

The financial ratios are important tools for effective decision-making. It compares different figures taken from the financial statement to obtain information about the performance of the firm.

Answer to Problem 17QP

The net working capital to total asset ratio for the year 2014 and 2015 are 0.0666 or 6.66% and 0.0746 or 7.46% respectively.

Explanation of Solution

Given information:

• The total current asset (2014) is $90,717.
• The total asset (2014) is $417,173.
• The total current liabilities (2014) is $62,939.
• The total current asset (2015) is $100,617.
• The total asset (2015) is $458,177.
• The total current liabilities (2015) is $66,442.

Formula to calculate the net working capital:

$\text{Net working capital}=\text{Total assets}-\text{Total liabilities}$

Note: It is required to calculate the net working capital to total asset ratio.

Compute the net working capital for the year 2014:

$\begin{array}{c}\text{Net working capital}=\text{Total current assets}-\text{Total current liabilities}\\ =\$90,717-\$62,939\\ =\$27,778\end{array}$

Compute the net working capital for the year 2015:

$\begin{array}{c}\text{Net working capital}=\text{Total current assets}-\text{Total current liabilities}\\ =\$100,617-\$66,442\\ =\$34,175\end{array}$

Hence, the net working capital for the year 2014 and 2015 are $27,778 and $34,175 respectively.

Formula to calculate the net working capital to total asset ratio:

$\text{Net working capital ratio}=\frac{\text{Net working capital}}{\text{Total assets}}$

Compute the net working capital to total asset ratio for the year 2014:

$\begin{array}{c}\text{Net working capital ratio}=\frac{\text{Net working capital}}{\text{Total assets}}\\ =\frac{\$27,778}{\$417,173}\\ =0.0666\text{ or }6.66\%\end{array}$

Compute the net working capital to total asset ratio for the year 2015:

$\begin{array}{c}\text{Net working capital ratio}=\frac{\text{Net working capital}}{\text{Total assets}}\\ =\frac{\$34,175}{\$458,177}\\ =0.0746\text{ or 7}\text{.4}6\%\end{array}$

Hence, the net working capital to total asset ratio for the year 2014 and 2015 are0.0666 or 6.66% and 0.0746 or 7.46% respectively.

Summary Introduction

To calculate: Equity multiplier ratio.

Introduction:

The financial ratios are important tools for effective decision-making. It compares different figures taken from the financial statement to obtain information about the performance of the firm.

Answer to Problem 17QP

The equity multiplier ratio for the year 2014 and 2015 are 1.34 times and 1.30 times respectively.

Explanation of Solution

Given information:

• The total current liabilities (2014) is $62,939.
• The total long term debts (2014) is $44,000.
• The total equity (2014) is $310,234.
• The total current liabilities (2015) is $66,442.
• The total long term debts (2015) is $39,000.
• The total equity (2015) is $352,735.

Formula to calculate the total debt value:

$\text{Total debt}=\text{Total current liabilities}+\text{Long-term debt}$

Note: It is required to compute the value of total debt to calculate the total debt ratio.

Compute the total debt value for the year 2014:

$\begin{array}{c}\text{Total debt}=\text{Total current liabilities}+\text{Long-term debt}\\ =\$62,939+\$44,000\\ =\$106,939\end{array}$

Compute the total debt value for the year 2015:

$\begin{array}{c}\text{Total debt}=\text{Total current liabilities}+\text{Long-term debt}\\ =\$66,442+\$39,000\\ =\$105,442\end{array}$

Hence, the total debt value for the year 2014 and 2015 are $106,939 and $105,442 respectively.

Formula to calculate the total debt ratio:

$\text{Total debt ratio}=\frac{\text{Total debt}}{\text{Total equity}}$

Compute the total debt ratio for the year 2014:

$\begin{array}{c}\text{Total debt ratio}=\frac{\text{Total debt}}{\text{Total equity}}\\ =\frac{\$106,939}{\$310,234}\\ =0.34\text{ times}\end{array}$

Compute the total debt ratio for the year 2015:

$\begin{array}{c}\text{Total debt ratio}=\frac{\text{Total debt}}{\text{Total equity}}\\ =\frac{\$105,442}{\$352,735}\\ =0.30\text{ times}\end{array}$

Hence, the total debt ratio for the year 2014 and 2015 are 0.34 times and 0.30 times respectively.

Formula to calculate the equity multiplier ratio:

$\text{Equity multiplier ratio}=1+\text{debt-equity ratio}$

Compute the equity multiplier ratio for the year 2014:

$\begin{array}{c}\text{Equity multiplier ratio}=1+\text{debt-equity ratio}\\ =1+0.34\\ =1.34\text{ times}\end{array}$

Compute the equity multiplier ratio for the year 2015:

$\begin{array}{c}\text{Equity multiplier ratio}=1+\text{debt-equity ratio}\\ =1+0.30\\ =1.30\text{ times}\end{array}$

Hence, the equity multiplier ratio for the year 2014 and 2015 are 1.34 times and 1.30 times respectively.

Summary Introduction

To calculate: The ratio of total debt and long-term debt.

Introduction:

The financial ratios are important tools for effective decision-making. It compares different figures taken from the financial statement to obtain information about the performance of the firm.

Answer to Problem 17QP

The long-debt ratio for the year 2014 and 2015 are 0.12 times and 0.10 times respectively.

Explanation of Solution

Given information:

• The total asset (2014) is $417,173.
• The total equity (2014) is $310,234.
• The total long-term debt (2014) is $44,000.
• The total asset (2015) is $458,177.
• The total equity (2015) is $352,735.
• The total long-term debt (2015) is $39,000.

Formula to calculate the total debt ratio:

$\text{Total debt ratio}=\frac{\text{Total assets}-\text{Total equity}}{\text{Total assets}}$

Compute the total debt ratio for the year 2014:

$\begin{array}{c}\text{Total debt ratio}=\frac{\text{Total assets}-\text{Total equity}}{\text{Total assets}}\\ =\frac{\$417,173-\$310,234}{\$417,173}\\ =\frac{\$106,939}{\$417,173}\\ =0.26\text{ times}\end{array}$

Compute the total debt ratio for the year 2015:

$\begin{array}{c}\text{Total debt ratio}=\frac{\text{Total assets}-\text{Total equity}}{\text{Total assets}}\\ =\frac{\$458,177-\$352,735}{\$458,177}\\ =\frac{\$105,442}{\$458,177}\\ =0.23\text{ times}\end{array}$

Hence, the total debt ratio for the year 2014 and 2015 are 0.26 times and 0.23 times respectively.

Formula to calculate the long-term debt ratio:

$\text{Long-term debt ratio}=\frac{\text{Long-term debt}}{\text{Long-term debt}+\text{Total equity}}$

Compute the long-debt ratio for the year 2014:

$\begin{array}{c}\text{Long-term debt ratio}=\frac{\text{Long-term debt}}{\text{Long-term debt}+\text{Total equity}}\\ =\frac{\$44,000}{\$44,000+\$310,234}\\ =\frac{\$44,000}{\$354,234}\\ =0.12\text{ times}\end{array}$

Compute the long-debt ratio for the year 2015:

$\begin{array}{c}\text{Long-term debt ratio}=\frac{\text{Long-term debt}}{\text{Long-term debt}+\text{Total equity}}\\ =\frac{\$39,000}{\$39,000+\$310,234}\\ =\frac{\$39,000}{\$393,234}\\ =0.10\text{ times}\end{array}$

Hence, the long-debt ratio for the year 2014 and 2015 are 0.12 times and 0.10 times respectively.