Question

In: Accounting

Income Statements for Years Ending December 31, 2011-13 2011 2012 2013 Net sales $1,697 $2,013 $2,694...

Income

Statements for Years Ending December 31, 2011-13

2011

2012

2013

Net sales

$1,697

$2,013

$2,694

Cost of goods sold

     Beginning inventory

183

239

326

     Purchases

1,278

1,524

2,042

    

$1,461

$1,763

$2,368

     Ending inventory

239

326

418

     Total cost of goods sold

$1,222

$1,437

$1,950

Gross profit

475

576

744

Operating expense

425

515

658

Interest expense

13

20

33

Net income before taxes

$ 37

$ 41

$ 53

Provision for income taxes

6

7

9

Net income

$ 31

$ 34

$ 44

Balance Sheets at December 31, 2011-13

2011

2012

2013

Cash

$ 58

$ 49

$ 41

Accounts receivable, net

171

222

317

Inventory

239

325

418

     Current assets

$468

$596

$776

Property, net

126

140

157

     Total assets

$594

$736

$933

Notes payable

$105

$146

$233

Accounts payable

124

192

256

Accrued expenses

24

30

39

Long-term debt, current portion

7

7

7

     Current liabilities

$260

$375

$535

Long-term debt

64

57

50

     Total liabilities

$324

$432

$585

Net worth

270

304

348

   Total liabilities and net worth

$594

$736

$933

(a) What was the above firm's profit margin and return on equity in 2011, 2012 and 2013. Comment on the relationship between profit margin and ROE over these three years.

(b) Compute the liquidity ratios for 2011, 2012 and 2013. What can be concluded? Are liquidity ratios good gauges of credit risk?

(c) What should be the amount of A/P due to suppliers at the end of 2014 assuming the firm chooses to pay on the 10th day and that sales are projected at $ 3,000,000

(d) Find the amount of bank financing necessary for 2014, assuming that

(i) sales are projected to reach $ 3,000,000;

(ii) the cash balance has to be maintained at $ 50,000, A/P are 2/10 net 30 and the firm is paying the supplier on 10th $ 15,000 in dividends are distributed to the firm. Interest expenses are assumed to be $ 40,000 for the purpose of setting up the income statement and assuming that corporate income tax is 20%.

The steps for calculations are to be shown and explained.

Thanks   

Solutions

Expert Solution


1) Return on Equity is the percentage of net income generated by the average shareholder equity.

Net profit margin is the percentage of net income received from the company's revenue.

The common thread between ROE and net profit margin is net income, however what is different with ROE is the equity part of the equation. So, while two companies may have similar net profit margins (and perhaps similar revenue), but if the average shareholder equity is different then the ROE between the companies will be different. Also, while the net profit margins may be the same, the amount of revenue and net profit for each company can also be quite different.

In order to sustain a high ROE though, net profit margin only as an indicator of performance trend. If the company's profit margin is dropping may be due to the company is losing its competitive advantage, or perhaps it's costs & expenses are not being constrained.

ROE is a good indicator of a company's quality. And net profit margin is a good indicator of the company's performance trend.

2) Liquidity ratios means ability of companies to convert assets into cash. For credit analysis, the ratios show a borrower’s ability to pay off current debt. Higher liquidy ratios suggest a company is more liquid and can, therefore, more easily pay off outstanding debts.


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