In: Accounting
You have just been hired as a financial analyst for Lydex Company, a manufacturer of safety helmets. Your boss has asked you to perform a comprehensive analysis of the company’s financial statements, including comparing Lydex’s performance to its major competitors. The company’s financial statements for the last two years are as follows:
Lydex Company Comparative Balance Sheet |
||||
This Year | Last Year | |||
Assets | ||||
Current assets: | ||||
Cash | $ | 1,040,000 | $ | 1,280,000 |
Marketable securities | 0 | 300,000 | ||
Accounts receivable, net | 3,020,000 | 2,120,000 | ||
Inventory | 3,680,000 | 2,300,000 | ||
Prepaid expenses | 270,000 | 210,000 | ||
Total current assets | 8,010,000 | 6,210,000 | ||
Plant and equipment, net | 9,680,000 | 9,130,000 | ||
Total assets | $ | 17,690,000 | $ | 15,340,000 |
Liabilities and Stockholders' Equity | ||||
Liabilities: | ||||
Current liabilities | $ | 4,090,000 | $ | 3,140,000 |
Note payable, 10% | 3,720,000 | 3,120,000 | ||
Total liabilities | 7,810,000 | 6,260,000 | ||
Stockholders' equity: | ||||
Common stock, $75 par value | 7,500,000 | 7,500,000 | ||
Retained earnings | 2,380,000 | 1,580,000 | ||
Total stockholders' equity | 9,880,000 | 9,080,000 | ||
Total liabilities and stockholders' equity | $ | 17,690,000 | $ | 15,340,000 |
Lydex Company Comparative Income Statement and Reconciliation |
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This Year | Last Year | |||
Sales (all on account) | $ | 15,940,000 | $ | 14,380,000 |
Cost of goods sold | 12,752,000 | 10,785,000 | ||
Gross margin | 3,188,000 | 3,595,000 | ||
Selling and administrative expenses | 1,216,000 | 1,636,000 | ||
Net operating income | 1,972,000 | 1,959,000 | ||
Interest expense | 372,000 | 312,000 | ||
Net income before taxes | 1,600,000 | 1,647,000 | ||
Income taxes (30%) | 480,000 | 494,100 | ||
Net income | 1,120,000 | 1,152,900 | ||
Common dividends | 320,000 | 576,450 | ||
Net income retained | 800,000 | 576,450 | ||
Beginning retained earnings | 1,580,000 | 1,003,550 | ||
Ending retained earnings | $ | 2,380,000 | $ | 1,580,000 |
To begin your assignment you gather the following financial data and ratios that are typical of companies in Lydex Company’s industry:
Current ratio | 2.3 | |
Acid-test ratio | 1.2 | |
Average collection period | 32 | days |
Average sale period | 60 | days |
Return on assets | 8.6 | % |
Debt-to-equity ratio | 0.7 | |
Times interest earned ratio | 5.8 | |
Price-earnings ratio | 10 | |
rev: 04_27_2020_QC_CS-209476
Required:
1. You decide first to assess the company’s performance in terms of debt management and profitability. Compute the following for both this year and last year: (Round your "Percentage" answers to 1 decimal place and other answers to 2 decimal places.)
a. The times interest earned ratio.
b. The debt-to-equity ratio.
c. The gross margin percentage.
d. The return on total assets. (Total assets at the beginning of last year were $13,150,000.)
e. The return on equity. (Stockholders’ equity at the beginning of last year totaled $8,503,550. There has been no change in common stock over the last two years.)
f. Is the company’s financial leverage positive or negative?
a)
Times Interest Earned = Net operating income / Interest expense
For This Year
Times Interest Earned = $1,972,000 / $372,000 = 5.30 times
For Last year
Times Interest Earned = $1,959,000 / $312,000 = 6.28 times
b)
Debt to Equity Ratio = Total Liabilities / Total Equity
For This Year
Debt to Equity Ratio= $7,810,000/ $9,880,000 = 0.79
For Last year
Debt to Equity Ratio= $6,260,000 / $9080,000 = 0.69
c)
The gross margin percentage = Gross Margin / Sales *100
For This Year
The gross margin percentage = $3,188,000/ $15,940,000 * 100 = 20%
For Last year
The gross margin percentage = $3,595,000/ $14,380,000 * 100 = 25%
d)
The return on total asset = Net Operating Income / Average total
asset
For this year
The return on total asset = 1,972,000 / [(17,690,000 +
15,340,000)/2] = 11.94%
For last year
The return on total asset = 1,959,000 / [(15,340,000 +
13,150,000)/2] = 13.75%
e)
The return on equity = Net Income / Average Shareholder's Equity * 100
For this year
The return on equity = 1,120,000 / [(9,880,000 + 9,080,000)/2] =
11.81%
For last year
The return on equity = 1,152,900 / [(9,080,000 + 8,503,550)/2] =
13.11%
f)
Since the return on investment is greater than the Cost of Borrowing of 10%, the company is having a positive leverage.
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