Question

1.   Williams Furniture Company has the following data:

        Williams Furniture

         Balance Sheet

      December 31, 201x

Assets:

Cash                                                $50,000

Marketable Securities            80,000

Accounts Receivable        3,000,000

Inventory                                1,000,000

Gross plant &

                  Equipment           6,000,000

                  Less Accum

                  Depreciation       2,000,000

Total Assets                            8,130,000

Liabilities And Equity

Accounts Payable               $2,200,000

Accrued Expense                        150,000

Notes Payable (current)        400,000

Bonds Payable                          2,500,000

Common Stock (1.7

Million shares, par $1)     1,700,000

Retained Earnings                  1,180,000

Total Liabilities &

    Equity                                       8,130,000

          Williams Furniture

           Income Statement

           Year ended Dec 31, 201x

Sales (credit)                                            $7,000,000

Fixed costs*                                             2,100,000

Variable costs (.60)                              4,200,000

Earnings before interest and

                  Taxes                                                700,000

Less interest                                                   250,000

Earnings before taxes                               450,000

Less Taxes (35%)                                          157,500

Earnings after taxes                                   292,500

Dividends (40% payout)                         117,000

Increased retained earnings                 175,500

*Fixed costs include a) lease expense of $200,000 and 9b) depreciation of $500,000.

Williams Furniture has a $65,000 per year sinking fund obligation associated with its bond issues. The sinking fund represents an annual repayment of the principal amount of the bond. It is not tax deductible.

a. Calculate the following and compare to industry average. Be thorough and specific with weak points, strong points and your recommendation on how to improve the company’s performance.

                                                      Williams                                  Industry

Profit Margin                                                                              5.75%

Return on Assets                                                                       6.90%

Return on Equity                                                                      9.20%

Receivables Turnover                                                             4.35x

Inventory Turnover                                                                 6.50x

Fixed Asset Turnover                                                              1.85x    

Current Ratio                                                                              1.45x

Quick Ratio                                                                                  1.10x

Interest Coverage                                                                     5.35x

Debt to total assets                                                                 25.05%

b. Calculate break even in sales dollars. Calculate DOL .

2. Litten Oil and Gas Company is a large company with common stock listed on the New York Stock Exchange and bonds traded over the counter.

The vice president of finance is planning to sell $75 million of bonds this year. Present market yields are 12.1%. Litten has $90 million of 7.5% non callable preferred stock outstanding and has no intentions of selling any preferred stock at any time in the future. The preferred stock is currently priced at $80 per share and its dividend per share is $7.80.

The company has had volatile earnings but its dividend per share had had 8% growth and this will continue. The expected dividend is $1.90 per share and common stock is selling for $40 per share. The company’s flotation costs are $2.50 per share preferred stock and $2.20 per share for common stock.

Litten keeps its debt at 50% of assets and its equity at 50%. Litten sees no need to sell common or preferred stock in the near future as is has generated enough internal funds for investment needs. The tax rate for the company is 40%

Calculated the following cost of capital:

a. bond

b. preferred stock

c. common stock in retained earnings

d. new common stock

e. weighted average cost of capital.

3. Smith Corporation is considering two new investments. Project A and Project B are listed below

Project A will cost $20,000 and has the following cash flow

Yr 1 5,000

Yr 2 6,000

Yr 3 7,000

Yr 4 10,000

Project B will also cost $20,000 has the following cash flow

Yr 1 16000

Yr 2    5000

Yr 3    4000

Calculate specific payback for each

Calculate NPV of each. Use the weighted cost of capital of 8%.

  

Answer 1

1.

(a)

In the books of Williams Furniture Company

Profit Margin = Net Income / Sales = $292,500 / $7,000,000 = 4.18%
Return on Assets = Net Income / Sales = $292,500 / $ 8,130,000 = 3.60%
Return on Equity = Net Income / Share holders' equity = $292,500 / ($1,700,000 +  1,180,000) = 10.15%
Receivables Turnover = Credit Sales / Receivables = $7,000,000 / $3,000,000 = 2.33x
Inventory Turnover = Sales / Inventory = $7,000,000 / $1,000,000 = 7x
Fixed Asset Turnover = Sales / (Gross Fixed Asset - Accumulated Depreciation) = $7,000,000 / (6,000,000 - 2,000,000) = 1.75x
Current Ratio = Current Asset / Current Liability = ($50,000+ $80,000 + 3,000,000 + 1,000,000) / ($2,200,000 + $ 150,000 + $ 400,000) = 1.50x
Quick Ratio = (Cash + Marketable Securities + Accounts Receivable) / Current Liabilities = ($50,000 + $ 80,000 + $3,000,000) / ($2,200,000 + $ 150,000 + $ 400,000) = 1.14x
Interest Coverage = EBIT / Interest = $700,000 / $250,000 = 2.8x
Debt to total assets = Total Liabilities / Total Asset = (2,200,000 + 150,000 + 400,000 + 2,500,000) / 8,130,000 = 64.58%

Ratio	Williams	Industry	Remarks
Profit Margin	4.18%	5.75%	Weak Point
Return on Assets	3.60%	6.90%	Weak Point
Return on Equity	10.15%	9.20%	Strong Point
Receivables Turnover	2.33	4.35	Weak Point
Inventory Turnover	7	6.50x	Almost Same
Fixed Asset Turnover	1.75	1.85x	Almost Same
Current Ratio	1.5	1.45x	Almost Same
Quick Ratio	1.14	1.10x	Almost Same
Interest Coverage	2.8	5.35x	Weak Point
Debt to total assets	64.58%	25.05%	Weak Point

Recommendation -

From above analysis we can see that due to poor recovery of accounts receivables, Company's debt fund has increased which results high interest expense and reduced Profit margin.
So, It is Advisible to revise company's credit policy and Improve its in collection function.

(b)

Particulars	Amount
Sales	$            7,000,000.00
Less ; Variable Cost	$            4,200,000.00
Contribution	$            2,800,000.00
PV ratio (Contribution / Sales)	$                            0.40
Fixed Cost	$            2,100,000.00
Break even in sales	$            5,250,000.00	Fixed Cost / PV Ratio

DOL = Contribution / EBIT = $2,800,000 / $700,000 = 4