Question

Worksheet for Test 1 of Financial Management

Following is a balance sheet and income statement for Gunderson Manufacturing. Use this information to answer the questions below.

Income Statement

Sales $1,000,000

COGS    (400,000)

Gross Profit     600,000

Operating Exp.(includes $80,000 in depr. exp.)    (300,000)

EBIT     300,000

Interest Expense    (150,000)

EBT     150,000

Income Taxes    (50,000)

EAT    $100,000

Balance Sheet

Cash $50,000

Accounts Receivable 100,000

Marketable Securities 40,000

Inventory 120,000

   Current Assets 310,000

Net Property, Plant and Equipment 490,000

Total Assets        $800,000

Accounts Payable $60,000

Notes Payable 100,000

   Current Liabilities 160,000

Bonds Payable 240,000

   Total Liabilities 400,000

Common Stock 75,000

Capital Paid in Excess of Par        225,000

Retained Earnings        100,000

   Total Stockholders’ Equity 400,000

Total Liabilities and Stockholders’ Equity        $800,000

Additional Information

There is lease expense equal to $10,000 annually.

Following are selected ratios for the industry Gunderson is in:

Current ratio 2X

Quick Ratio 1X

Receivables Turnover 7.3X

Average Collection Period                 50 days

Inventory Turnover 3X

Fixed Asset Turnover 1.9X

Total Asset Turnover                         1.8X

Debt to Total Assets 40%

Leverage Ratio 1.67X

Times Interest Earned 2X

Fixed Charge Coverage Ratio 1.9X

Net Profit Margin 8%

Return on Assets 14.4%

Return on Equity 24%

a. Compute all of the ratios listed above for Gunderson Manufacturing.

b. Explain why Gunderson has a higher net profit margin than the industry yet it has a lower ROA. Also explain why Gunderson’s ROE is higher than the industry given that their ROA is lower.

Answer 1

Amount in $s

1 Current Ratio : Current Assets/ Current Liabilities

310,000 / 160,000 = 1.9375

2. Quick Ratio : Current Assets ( Excluding inventory)/ Current Liabilities

190,000 / 160,000 = 1.1875

3. Receivable Turnover Ratios : Turover/ Receivables

1,000,000/100,000 = 10

4. Average Collection period : No. of days in a year / receivable turn over ratio

365/10 = 36.5 days

5. Inventory turnover ratio ; Cost of goods sold/Inventory

400,000/ 120,000 = 3.33

6. Fixed assets turnover ratio : Sales/Fixed Assets

1,000,000/490,000 = 2.04

7. Total Assets turnover : Sales/ Total Assets

1,000,000/ 800,000 = 1.25

8. Debt to total assets ; Debt/Total assets   

240,000/800,000 = 30%

9. Leverage Ratio : Debt/ share holdersEquity

240,000/400,000 = 0.60

10. Times interest earned : EBIT/Interest

300,000/150,000 = 2 times

11. Fixed charges coverage ratio : EBIT/Interest

300,000/150,000 = 2

12. Net profit margin : Net profit before tax/Sales

150,000/1,000,000 = 15%

13. Return on assets : Net profit after tax/ total assets

100,000 / 800,000 = 12.5%

14. Return on Equity : Net profit after tax/ Share holders equity

100,000 / 400,000 =25%

b. Gunderson has a higher net profit margin than the industry because of lower leverage ratio which is 0.60 compared to the industry ratio of 1.67 due to which the interest expense is low. The same reason explains why the Gunderson's ROE is higher than the industry. The ROA of Gunderson is lower when compared to the industry because the turnover to total assets for the company is 1.25 whereas for the industry it is 1.80.