Question

The following information pertains to Wayde’s Fish Tanks and Theresa’s Critter Control at the end of 2016:

ACCOUNT TITLE WAYDE’S FISH THERESA’S CRITTER

TANKS CONTROL

Current Assets	$ 45,000	$ 45,000
Total Assets	800,000	800,000
Current Liabilities	78,000	57,000
Total Liabilities	675,000	500,000
Stockholders’ Equity	125,000	300,000
Interest Expense	62,000	45,000
Income Tax Expense	69,000	75,500
Net Income	105,000	115,000

Compute each company’s debt to asset ratio, current ratio and times interest earned (EBIT must be computed…Earnings Before Interest and Taxes). Identify the company with the greater financial risk.

Compute each company’s return on equity ratio and return on assets ratio. Use EBIT instead of net income when computing the return on assets ratio. Identify the company that is managing its assets more effectively. Identify the company that is producing the higher return from the stockholders’ perspective. Explain how one company was able to produce a higher return on equity than the other.

Answer 1

			WAYDE fish tanks	THERESA critter control
1-	debt to asset ratio	total of liabilities/total assets	0.84375	0.625
	total of liabilities		675000	500000
	total of assets		800000	800000
2-	current assets	current assets/current liabilities	0.576923	0.789474
	current assets		45000	45000
	current liabilities		78000	57000
3-	Times interest earned	EBIT/interest	3.806452	5.233333
	EBIT	net income+ income tax expense+interest expense	236000	235500
	Interest		62000	45000
	EBIT	105000+69000+62000	236000
	EBIT	115000+75500+45000	235500
	Company WAYDE fish is at higher financial risk because it is more leveraged as it s debt to total asset ratio is greater and it is also poor in terms of short term solvency(current ratio) and its interest coverage ratio is also less than the competitor firm
4-	return on equity	Net income/total of equity	84.00%	38.33%
	Net income		105000	115000
	total of equity		125000	300000
5-	return on assets	EBIT/total of assets	29.50%	29.44%
	EBIT		236000	235500
	total of assets		800000	800000
	Company WAYDE is producing higher return to equity shareholders in comparison to its competitor because it is using more leverage in its capital structure and due to high leverage it is producing high returns to equity shareholders
	Both companies are managing its assets more effectively as retirn on total assets are almost equal