Question

HEALTH and SAFETY (PTY) LTD (H&S) is a wholesaler of Personal Protective Equipment. At the Beginning of the year 2020, H&S expanded its retail business by adding over 50 shops in order to meet the demand for protective gear. The following information has been extracted from the comparative financial statements included in the company's 2019 annual report (all amounts are in thousands of Rands):

	Dec. 31, 2019	Dec. 31, 2018
Total liabilities	R26 000	R18 000
Total shareholders' equity	34 000	38 000
Depreciation expense	R 2 000	R 6 000
Interest expense	3 400	3 200
Income tax expense	12 600	18 100
Net income / (profit)	6 000	15 000
Net cash provided by (used for) operations	41 000	(400)
Total dividends paid	2 000	12 000
Cash used to purchase plant assets	32 000	18 000
Payments on long-term debt	1 600	1 800
1)         Using the information provided above, calculate the following for 2019 and 2018:             a. Debt-to-equity ratio (at each year-end)                                                (2)
b. Times interests earned ratio                                                                  (2)
2)         Comment briefly on the company's solvency.                                        (4) ​
3)         What other ratios will help you assess the solvency?             What information will they provide that you do not already have             concerning the company's             solvency?                                                      (2)

Answer 1

Ans 1. Debt Equity ratio is

Debt/Equity

where Debt is Rs 1600 in 2019 & 1800 in 2018

Equity = 34000 in 2019 & 38000 in 2018

Therefore ,

For 2019 , D/E Ratio = 1600/34000 = .04 Times

For 2018 , D/E Ratio = 1800/38000 = .04 Times

Interest Earned Ratio

Interest earned before INTEREST & Tax / Interest Exps on Bonds and Debts

So , 2019

Interest Earned Ratio - Net Income+Interest+Income Tax

i.e. 22000 (6000+3400+12600)

ratio = 22000/3400

6.47 times

For 2018,

Ratio = 36300 (15000+3200+18100)/3200

11.34 times

ANS 2. if we talk about the solvency position of the company , it simply means that how a company is able to meet its long term obligations or long term financial commitments. It means how the financial health of the company for future.

In this, company had not Cash for operations in 2018 as it is showing negative of Rs 400 while in next year 2019 it becomes positive with a sum of Rs 41000 which is sufficiently good and better than last year figure. Therefore in current year company has enough solvency to pay its long term debt obligations.

ANS 3. Solvency ratios are Debt to Equity ration , Debt to Asset ratio

Already we have discussed for D/E ratio, which is less than the ideal ration i.e. 2:1

now Debt to Asset ratio can be find out as -

Debts/Assets = 1600/32000 =0.05 for 2019

for 2018 , 1800/18000 = 0.10 times