Question

A comparative balance sheet and an income statement for Rowan Company are given below: Rowan Company Comparative Balance Sheet (dollars in millions) Ending Balance Beginning Balance Assets Current assets: Cash and cash equivalents $ 70 $ 91 Accounts receivable 536 572 Inventory 620 580 Total current assets 1,226 1,243 Property, plant, and equipment 1,719 1,656 Less accumulated depreciation 640 480 Net property, plant, and equipment 1,079 1,176 Total assets $ 2,305 $ 2,419 Liabilities and Stockholders' Equity Current liabilities: Accounts payable $ 205 $ 180 Accrued liabilities 94 105 Income taxes payable 72 88 Total current liabilities 371 373 Bonds payable 180 310 Total liabilities 551 683 Stockholders' equity: Common stock 800 800 Retained earnings 954 936 Total stockholders' equity 1,754 1,736 Total liabilities and stockholders' equity $ 2,305 $ 2,419 Rowan Company Income Statement For the Year Ended December 31 (dollars in millions) Sales $ 4,350 Cost of goods sold 3,470 Gross margin 880 Selling and administrative expenses 820 Net operating income 60 Nonoperating items: Gain on sale of equipment 4 Income before taxes 64 Income taxes 22 Net income $ 42 Rowan also provided the following information: The company sold equipment that had an original cost of $16 million and accumulated depreciation of $9 million. The cash proceeds from the sale were $11 million. The gain on the sale was $4 million. The company did not issue any new bonds during the year. The company paid a cash dividend during the year. The company did not complete any common stock transactions during the year. Required: 1. Using the indirect method, prepare a statement of cash flows for the year. 2. Calculate the free cash flow for the year. 3. To help Rowan assess its liquidity at the end of the year, calculate the following: a. Current ratio b. Acid-test (quick) ratio 4. To help Rowan assess its asset management, calculate the following: a. Average collection period (assuming all sales are on account) b. Average sale period 5. To help Rowan assess its debt management, calculate the following: a. Debt-to-equity ratio at the end of the year b. Equity multiplier 6. To help Rowan assess its profitability, calculate the following: a. Net profit margin percentage b. Return on equity 7. To help Rowan assess its market performance, calculate the following (assume the par value of the company’s common stock is $10 per share): a. Earnings per share b. Dividend payout ratio

Answer 1

1) Rowan Company

Statement of Cash Flows for the year (Amounts in million $)

Cash Flows from Operating Activities
Net Income		42
Adjustments to reconcile net income to cash provided by operating activities
Add: Depreciation Exp. [640 - (480 - 9)] [End. Bal. Accum. Dep. - (Beg. Bal. Accum. Dep. - Accum. Dep. on Equipment sold)]	169
Less: Gain on sale of equipment	(4)
Add: Decrease in Accounts Receivable ($572-$536)	36
Less: Increase in Inventory ($620-$580)	(40)
Add: Increase in Accounts Payable ($205-$180)	25
Less: Decrease in Accrued Liabilities ($105-$94)	(11)
Less: Decrease in Income taxes payable ($88-$72)	(16)
Total Adjustments		159
Net Cash provided by Operating Activities (A)		201
Cash Flows from Investing Activities
Sale of Equipment	11
Purchase of Property, Plant and Equipment [$1,719 End. Bal PPE - ($1,656 Beg. Bal. PPE - $16 Cost of equipment sold)]	(79)
Net Cash used in Investing Activities (B)		(68)
Cash Flows from Financing Activities
Redemption of Bonds ($310-$180)	(130)
Dividends paid ($936 Beg. Bal. Retained Earnings + $42 Net Income - $954 End. Bal. Retained Earnings)	(24)
Net Cash used for Financing Activities (C)		(154)
Net Increase or (decrease) in cash and cash equivalents (A+B+C)		(21)
Add: Beginning Cash and Cash Equivalents		91
Ending Cash and Cash Equivalents		70

2) Free cash flow of year = Net Cash provided by Operating Activities - Net Cash used for Investing Activities

= $201 million - $68 million = $133 million

3) a) Current Ratio = Total Current Assets/Total Current Liabilities

= $1,226/$371 = 3.30

b) Acid Test Ratio = Liquid Assets/Total Current Liabilities

Liquid Assets = Total Current Assets - Inventory = $1,226 - $620 = $606 million

Acid Test Ratio = $606/$371 = 1.63

4) a) Average Collection Period = No. of days in a year/Accounts Receivable Turnover Ratio

Accounts Receivable Turnover Ratio = Net Credit Sales/Average Accounts Receivable

= $4,350/[($536+$572)/2] = $4,350/$554 = 7.85

Average Collection Period = 365 days/7.85 = 46.50 days