Question

Mastery Problem: Financial Statement Analysis

Liquidity and Solvency Measures

Your friend, another accountant, has bet you that with your knowledge of accounting and just the computations for common analytical measures, you can figure out many aspects of a company's financial statements. You take the bet!

Match each computation to one of the liquidity and solvency measures in the table. (Hint: Begin by looking for simple computations and identifying the amounts in those computations. Look for other measures that use those amounts.)

Liquidity and Solvency Measures		Computations
Working capital		$3,093,000 – $900,000
Current ratio		$3,093,000 ÷ $900,000
Quick ratio		$1,866,000 ÷ $900,000
Accounts receivable turnover		$8,260,000 ÷ [($714,000 + $740,000) ÷ 2]
Number  of days' sales in receivables		[($714,000 + $740,000) ÷ 2] ÷ ($8,260,000 ÷ 365)
Inventory turnover		$4,100,000 ÷ [($1,072,000 + $1,100,000) ÷ 2]
Number of days' sales in inventory		[($1,072,000 + $1,100,000) ÷ 2] ÷ ($4,100,000 ÷ 365)
Ratio of fixed assets to long-term liabilities		$2,690,000 ÷ $1,690,000
Ratio of liabilities to stockholders' equity		$2,590,000 ÷ $4,017,000
Times interest earned		($976,800 + $127,000) ÷ $127,000

Balance Sheet

Use the following balance sheet form to enter amounts you identify from the computations on the Liquidity and Solvency Measures part. You will identify other amounts for the balance sheet on the Profitability Measures part. If you have a choice of two amounts, assume the first amount in the ratio is for the end of the year. Compute any missing amounts.

Balance Sheet December 31, 20Y6
Assets
Current assets:
Cash	$823,000
Marketable securities
Accounts receivable (net)
Inventory
Prepaid expenses
Total current assets	$
Long-term investments
Property, plant, and equipment (net)
Total assets	$
Liabilities
Current liabilities	$
Long-term liabilities
Total liabilities	$
Stockholders' Equity
Preferred stock, $10 par	$
Common stock, $5 par
Retained earnings
Total stockholders' equity	$
Total liabilities and stockholders' equity	$

Profitability Measures

Match each computation to one of the profitability measures in the table.

Profitability Measures		Computations
Asset turnover		$8,260,000 ÷ [($5,783,000 + $5,593,000) ÷ 2]
Return on total assets		($791,340 + $127,000) ÷ [($6,607,000 + $6,417,000) ÷ 2]
Return on stockholders' equity		$791,340 ÷ [($4,017,000 + $3,816,150) ÷ 2]
Return on common stockholders' equity		($791,340 – $65,000) ÷ [($3,529,500 + $3,388,320) ÷ 2]
Earnings per share on common stock		($791,340 – $65,000) ÷ 250,000 shares
Price-earnings ratio		$35 ÷ $3.05
Dividends per share		$175,000 ÷ 250,000 shares
Dividend yield		$0.70 ÷ $35

Comparative Income Statement

Use the following comparative income statement form to enter amounts you identify from the computations on the Liquidity and Solvency Measures part and on the Profitability Measures part. Compute any missing amounts and complete the horizontal analysis columns. Enter percentages as decimal amounts, rounded to one decimal place. When rounding, look only at the figure to the right of one decimal place. If < 5, round down and if ≥ 5, round up. For example, for 32.048% enter 32.0%. For 32.058% enter 32.1%.

Comparative Income Statement For the Years Ended December 31, 20Y6 and 20Y5
							Increase/(Decrease)
	20Y6			20Y5			Amount			Percentage
Sales		$			$7,267,000			$				%
Cost of goods sold					(3,444,000)							%
Gross profit		$			$3,823,000			$				%
Selling expenses		$			$(1,453,200)			$				%
Administrative expenses		(1,239,000)			(1,103,000)							%
Total operating expenses		$			$(2,556,200)			$				%
Operating income		$			$1,266,800			$				%
Other expense (interest)					(120,600)							%
Income before income tax expense		$			$1,146,200			$				%
Income tax expense					(179,460)							%
Net income		$			$966,740			$				%

Answer 1

Current Ratio = Current assets / Current Liability

= $3093000 / $900000

Current Assets = $3093000

Current Liability = $900000

Accounts Receivable Turnover Ratio = Total Turnover / ((Beginning Accounts Receivable + Ending Account Receivable)/2)

= $8260000 / (($714000 + $740000)/2)

Total Turnover = $8260000

Ending Account Receivable = $740000

Inventory Turnover Ratio = Cost of Goods Sold / ((Beginning Inventory + Ending Inventory)/2)

= $4100000 / (($1072000 + $1100000)/2)

Cost of Goods Sold = $4100000

Ending Inventory = $1100000

Ratio of fixed assets to long-term liabilities = Total Fixed Assets / Long Term Liabilities

= $2690000 / $1690000

Fixed Assets = $2690000

Long Term Liabilities = $1690000

Times interest earned = (Income Before Tax + Interest) / Interest

= ($976800 + $127000) / $127000

Income Before Tax = $976800

Interest = $127000

Ratio of liabilities to stockholders' equity = Total Liabilities / Stockholders' Equity

= $2590000 / $4017000

Total Liabilities = $2590000

Stockholders' Equity = $4017000

Quick ratio = Quick Assets / Quick Liabilities

Quick Assets = Current Assets - Inventory - Prepaid Expenses

$1866000 = $3093000 - $1100000 - Prepaid Expenses

Prepaid Expenses = $3093000 - $1100000 - $1866000

Prepaid Expenses = $127000

Quick Asset = Cash + Account Receivable + Marketable Securities

$1866000 = $823000 + $740000 + Marketable Securities

Marketable Securities = $1866000 - $823000 - $740000

Marketable Securities = $303000

Balance Sheet :-

Particulars	Amount($)
Assets
Cash	823000
Marketable Securities	303000
Accounts Receivable	740000
Inventory	1100000
Prepaid Expenses	127000
Total Current Assets	3093000
Long Term Investments ($6607000-$2690000-$3093000)	824000
Property, Plants and Equipment (Fixed Assets)	2690000
Total Assets	6607000
Liabilities
Current Liabilities	900000
Long Term Liabilities	1690000
Total Liabilities (A)	2590000
Stockholders' Equity
Preferred stock (Balance Fig.)	1248920
Common stock (250000*$5)	1250000
Retained Earnings($966740+$791340-$175000-$65000)	1518080
Total Stockholders' Equity (B)	4017000
Total Liabilities and Stockholders' Equity (A+B)	6607000

I assume that Beginning Retained Earning is $966740. Because Beginning Retained Earning not given in this Question.