In: Accounting
Below you can find the comparative financial statements of
“Alpha – Beta” company
in € for years 2017 and 2018:
Comparative Balance Sheet of “Alpha- Beta” | |||||
Assets | 2018 | 2017 | Liabilities & Stockholders’ Equity |
2018 | 2017 |
Fixed Assets Property, Plant and Equipment Accumulated depreciation Net Property, Plant and Equipment Other Assets Total Fixed Assets Current Assets Cash and Cash Equivalents Accounts receivables Inventory Prepaid Expenses Total Current Assets Total Assets |
3,250,000 |
2,100,000 (250,000) 1,850,000 550,000 2,400,000 300,000 750,000 800,000 100,000 1,950,000 4,350,000 |
Shareholders’ Equity Common Stock Retained earnings Total Stockholders’ Equity Long-term Liabilities Long-term debt Total Long-term Liabilities Current Liabilities Accounts Payable Short-term Debt Total Current Liabilities Total Liabilities Total Liabilities and Stockholders’ Equity |
1,250,000 997,600 2,247,600 2,200,000 2,200,000 502,400 1,000,000 1,502,400 3,702,400 5,950,000 |
1,250,000 600,000 1,850,000 1,150,000 1,150,000 450,000 900,000 1,350,000 2,500,000 4,350,000 |
Comparative Income Statement of “Alpha- Beta” | ||
2018 | 2017 | |
Sales Cost of Goods Sold Gross Profit Selling and Administrative Expenses Net Operating Income Interest Expenses Income Before Taxes Tax Net Income |
5,000,000 (3,200,000) 1,800,000 (1,000,000) 800,000 (240,000) 560,000 (162,400) 397,600 |
3,000,000 (1,800,000) 1,200,000 (900,000) 300,000 (110,000) 190,000 (55,100) 134,900 |
Required:
1. Assume that you want to conduct a credit analysis. In doing so,
you need to
calculate the following series of amounts and financial ratios for
years 2017 and
2018, so to decide whether to provide a shot-term loan or not to
“Alpha – Beta”:
a) net working capital, b) current ratio, c) quick ratio, d) cash
to current liabilities
ratio, e) days’ sales in receivables (based on accounts receivables
at the end of the
period), f) days’ sales in inventory (based on sales and inventory
at the end of the
period), g) operating cycle, h) debt to equity ratio and i) times
interest earned. For
your computations, assume that a year has 365 days. (10%)
2. According to the above analysis of “Alpha – Beta”, what do you
notice about the
company? Make a recommendation as a credit analyst if it is a smart
choice to
lend the company or not. (10%)
3. The cash balance (i.e., cash and cash equivalents) is the most
objectively
measured asset relative to other current assets (i.e., inventories,
account
receivables) and thus, a credit analyst should trust it, when
analyzing a firm’s
short-term liquidity. Do you agree? (10%)
1 | Particulars | 2017 | 2018 | |
a | Net Working Capital | (1950000-1350000) | (2400000-1502400) | |
CA-CL | $600,000 | $897,600 | ||
b | Current Ratio | (1950000/1350000) | (2400000/1502400) | |
CA/CL | 1.4 times | 1.59 times | ||
c | Quick Ratio | (1950000-800000)/1350000 | (2400000-1100000)/1502400 | |
CA-Inventory/CL | .8 times | .86 times | ||
d | Cash to CL Ratio | 300000/1350000 | 300000/1502400 | |
.2 times | .19 times | |||
e | Days sale in receivables | 750000/3000000*365 | 900000/5000000*365 | |
Receivables /sales*365 | 91.25 days | 65.7 days | ||
f | Days sale in inventory | 800000/1800000*365 | 1100000/3200000*365 | |
Inventory/COGS *365 | 162.2 days | 125.4 days | ||
g | Operating Cycle | |||
Days sale of inventory +days sale O/S-days payable O/S | (162.2+91.25-91.25) | (65.7+125.4-57.3) | ||
162.2 days | 133.8 days | |||
h | Debt to equity ratio | (1150000+1350000)/18500000 | (2200000+15024000)/2247600 | |
debt/equity | 1.35 times | 1.64 times | ||
i | Times interest earned | 300000/110000 | 800000/240000 | |
PBIT/Interest | 2.7 times | 3.3 times | ||
Note | ||||
Days payable O/S | 450000/1800000*365 | 502400/3200000*365 | ||
Accounts Payable/COGS*365 | 91.25 days | 57.305 days | ||
2 | We can lend to short term borrowing to the company. The company ratios are favorable with respect to current ratio and times interest earned ratio. The company could service three times more interest than it is paying in the present context. Similarly debt to equity ratio is also decent enough. It increased to 1.6 times in 2018. Increase up to 2.0 times could be considered for general business. So the lending amount should be capped accordingly. The operating cycle of the company has also improved in 2018. The company is able to rotate inventory faster compared to 2017 and realize debtors quickly compared to 2017. | |||
3 | Cash balance would indicate the immediate liquidity available for a company. However is not the sole measure of liquidity. The company would maintain cash to the extent required only for petty expenses and not for meeting all the current liabilities. The idle cash would always be invested in short term assets for better return. Hence while analyzing the liquidity all the current assets should be considered and not mere cash. Net working capital should be analyzed and not mere cash for understanding the liquidity position. Further analysis could also be done by taking into consideration quick ratio which does not take inventory as immediate realizable asset. |