Question

Paul Sabin organized Sabin Electronics 10 years ago to produce and sell several electronic devices on which he had secured patents. Although the company has been fairly profitable, it is now experiencing a severe cash shortage. For this reason, it is requesting a $650,000 long-term loan from Gulfport State Bank, $175,000 of which will be used to bolster the Cash account and $475,000 of which will be used to modernize equipment. The company’s financial statements for the two most recent years follow:

Sabin Electronics
Comparative Balance Sheet
	This Year		Last Year
Assets
Current assets:
Cash	$	130,000	$	300,000
Marketable securities		0		12,000
Accounts receivable, net		672,000		450,000
Inventory		1,095,000		745,000
Prepaid expenses		34,000		37,000
Total current assets		1,931,000		1,544,000
Plant and equipment, net		2,099,400		1,520,000
Total assets	$	4,030,400	$	3,064,000
Liabilities and Stockholders Equity
Liabilities:
Current liabilities	$	875,000	$	450,000
Bonds payable, 12%		750,000		750,000
Total liabilities		1,625,000		1,200,000
Stockholders' equity:
Common stock, $15 par		720,000		720,000
Retained earnings		1,685,400		1,144,000
Total stockholders’ equity		2,405,400		1,864,000
Total liabilities and equity	$	4,030,400	$	3,064,000

Sabin Electronics
Comparative Income Statement and Reconciliation
	This Year		Last Year
Sales	$	5,750,000	$	4,800,000
Cost of goods sold		4,025,000		3,600,000
Gross margin		1,725,000		1,200,000
Selling and administrative expenses		683,000		578,000
Net operating income		1,042,000		622,000
Interest expense		90,000		90,000
Net income before taxes		952,000		532,000
Income taxes (30%)		285,600		159,600
Net income		666,400		372,400
Common dividends		125,000		104,000
Net income retained		541,400		268,400
Beginning retained earnings		1,144,000		875,600
Ending retained earnings	$	1,685,400	$	1,144,000

During the past year, the company introduced several new product lines and raised the selling prices on a number of old product lines in order to improve its profit margin. The company also hired a new sales manager, who has expanded sales into several new territories. Sales terms are 2/10, n/30. All sales are on account.

Required:

1.	To assist in approaching the bank about the loan, Paul has asked you to compute the following ratios for both this year and last year:

a.	The amount of working capital.

          

b.	The current ratio. (Round your answers to 2 decimal places.)

            

c.	The acid-test ratio. (Round your answers to 2 decimal places.)

            

d.	The average collection period. (The accounts receivable at the beginning of last year totaled $400,000.) (Round your intermediate calculations and final answers to 1 decimal place. Use 365 days in a year.)

            

e.	The average sale period. (The inventory at the beginning of last year totaled $650,000.) (Round your intermediate calculations and final answers to 1 decimal place. Use 365 days in a year.)

            

f.	The operating cycle. (Round your intermediate calculations and final answer to 1 decimal place.)

            

g.	The total asset turnover. (The total assets at the beginning of last year were $3,024,000.) (Round your answers to 2 decimal places.)

            

h.	The debt-to-equity ratio. (Round your answers to 3 decimal places.)

            

i.	The times interest earned ratio. (Round your answers to 1 decimal place.)

          

j.	The equity multiplier. (The total stockholders’ equity at the beginning of last year totaled $1,854,000.) (Round your answers to 2 decimal places.)

          

2.	For both this year and last year:

a.	Present the balance sheet in common-size format. (Round your percentage answers to 1 decimal place (i.e., 0.1234 should be entered as 12.3).)

            

b.	Present the income statement in common-size format down through net income. (Round your percentage answers to 1 decimal place (i.e., 0.1234 should be entered as 12.3).)

            

Answer 1

Answer to Question 1:

Answer a.

This Year:

Working Capital = Current Assets - Current Liabilities
Working Capital = $1,931,000 - $875,000
Working Capital = $1,056,000

Last Year:

Working Capital = Current Assets - Current Liabilities
Working Capital = $1,544,000 - $450,000
Working Capital = $1,094,000

Answer b.

This Year:

Current Ratio = Current Assets / Current Liabilities
Current Ratio = $1,931,000 / $875,000
Current Ratio = 2.21

Last Year:

Current Ratio = Current Assets / Current Liabilities
Current Ratio = $1,544,000 / $450,000
Current Ratio = 3.43

Answer c.

This Year:

Acid-test Ratio = (Current Assets - Inventory - Prepaid Expenses) / Current Liabilities
Acid-test Ratio = ($1,931,000 - $1,095,000 - $34,000) / $875,000
Acid-test Ratio = 0.92

Last Year:

Acid-test Ratio = (Current Assets - Inventory - Prepaid Expenses) / Current Liabilities
Acid-test Ratio = ($1,544,000 - $745,000 - $37,000) / $450,000
Acid-test Ratio = 1.69

Answer d.

This Year:

Average Accounts Receivable = ($672,000 + $450,000) / 2
Average Accounts Receivable = $561,000

Average Collection Period = 365 * Average Accounts Receivable / Sales
Average Collection Period = 365 * $561,000 / $5,750,000
Average Collection Period = 35.61 days

Last Year:

Average Accounts Receivable = ($450,000 + $400,000) / 2
Average Accounts Receivable = $425,000

Average Collection Period = 365 * Average Accounts Receivable / Sales
Average Collection Period = 365 * $425,000 / $4,800,000
Average Collection Period = 32.32 days

Answer e.

This Year:

Average Inventory = ($1,095,000 + $745,000) / 2
Average Inventory = $920,000

Average Sale Period = 365 * Average Inventory / Cost of Goods Sold
Average Sale Period = 365 * $920,000 / $4,025,000
Average Sale Period = 83.43 days

Last Year:

Average Inventory = ($745,000 + $650,000) / 2
Average Inventory = $697,500

Average Sale Period = 365 * Average Inventory / Cost of Goods Sold
Average Sale Period = 365 * $697,500 / $3,600,000
Average Sale Period = 70.72 days

Answer f.

This Year:

Operating Cycle = Average Collection Period + Average Sale Period
Operating Cycle = 35.61 + 83.43
Operating Cycle = 119.04 days

Last Year:

Operating Cycle = Average Collection Period + Average Sale Period
Operating Cycle = 32.32 + 70.72
Operating Cycle = 103.04 days