Question

You have just been hired as a financial analyst for Lydex Company, a manufacturer of safety helmets. Your boss has asked you to perform a comprehensive analysis of the company’s financial statements, including comparing Lydex’s performance to its major competitors. The company’s financial statements for the last two years are as follows:

Lydex Company Comparative Balance Sheet
	This Year		Last Year
Assets
Current assets:
Cash	$	930,000	$	1,170,000
Marketable securities		0		300,000
Accounts receivable, net		2,580,000		1,680,000
Inventory		3,570,000		2,200,000
Prepaid expenses		250,000		190,000
Total current assets		7,330,000		5,540,000
Plant and equipment, net		9,460,000		9,020,000
Total assets	$	16,790,000	$	14,560,000
Liabilities and Stockholders' Equity
Liabilities:
Current liabilities	$	3,980,000	$	2,920,000
Note payable, 10%		3,640,000		3,040,000
Total liabilities		7,620,000		5,960,000
Stockholders' equity:
Common stock, $70 par value		7,000,000		7,000,000
Retained earnings		2,170,000		1,600,000
Total stockholders' equity		9,170,000		8,600,000
Total liabilities and stockholders' equity	$	16,790,000	$	14,560,000

Lydex Company Comparative Income Statement and Reconciliation
	This Year		Last Year
Sales (all on account)	$	15,830,000	$	13,280,000
Cost of goods sold		12,664,000		9,960,000
Gross margin		3,166,000		3,320,000
Selling and administrative expenses		1,402,000		1,592,000
Net operating income		1,764,000		1,728,000
Interest expense		364,000		304,000
Net income before taxes		1,400,000		1,424,000
Income taxes (30%)		420,000		427,200
Net income		980,000		996,800
Common dividends		410,000		498,400
Net income retained		570,000		498,400
Beginning retained earnings		1,600,000		1,101,600
Ending retained earnings	$	2,170,000	$	1,600,000

To begin your assignment you gather the following financial data and ratios that are typical of companies in Lydex Company’s industry:

Current ratio	2.3
Acid-test ratio	1.1
Average collection period	40	days
Average sale period	60	days
Return on assets	8.9	%
Debt-to-equity ratio	0.7
Times interest earned ratio	5.9
Price-earnings ratio	10

QUESTIONS: You decide, finally, to assess the company’s liquidity and asset management. For both this year and last year, compute:

a. Working capital.

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

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

d. The average collection period. (The accounts receivable at the beginning of last year totaled $1,640,000.) (Use 365 days in a year. Round your intermediate calculations and final answer to 2 decimal place.)

e. The average sale period. (The inventory at the beginning of last year totaled $2,000,000.) (Use 365 days in a year. Round your intermediate calculations and final answer to 2 decimal place.)

f. The operating cycle. (Round your intermediate calculations and final answer to 2 decimal place.)

g. The total asset turnover. (The total assets at the beginning of last year totaled $14,580,000.) (Round your final answers to 2 decimal places.)

	This Year Last Year a. Working capital b. The current ratio c. The acid-test ratio d. The average collection period days days e. The average sale period days days f. The operating cycle days days g. The total asset turnover

Answer 1

Ans. A	Working capital =     Total current assets - Total current liabilities
	This year	$7,330,000 - $3,980,000	$3,350,000
	Last year	$5,540,000 - $2,920,000	$2,620,000
Ans. B	Current ratio   =   Total current assets / Total current liabilities
	This year	$7,330,000 / $3,980,000	1.84 : 1
	Last year	$5,540,000 / $2,920,000	1.90 : 1
Ans. C	Quick ratio   =   (Total current assets - Inventory - Prepaid expenses) / Total current liabilities
	This year	($7,330,000 - $3,570,000 - $250,000) / $3,980,000	0.88 : 1
	Last year	($5,540,000 - $2,200,000 - $190,000) / $2,920,000	1.08 : 1
Ans. D	Average collection period   =   No. of days in year / Net credit sales * Average accounts receivables
	This year	365 / $15,830,000 * $2,130,000	49.11	days
	Last year	365 / $13,280,000 * $1,660,000	45.63	days
	*Average receivable = (Beginning receivables + Ending receivables) / 2
	This year	($1,680,000 + $2,580,000) / 2	$2,130,000
	Last year	($1,640,000 + $1,680,000) / 2	$1,660,000
Ans. E	Average sales period   =   No. of days in year / Cost of goods sold * Average inventory
	This year	365 / $12,664,000 * $2,885,000	83.15	days
	Last year	365 / $9,960,000 * $2,100,000	76.96	days
	*Average inventory = (Beginning inventory + Ending inventory) / 2
	This year	($2,200,000 + $3,570,000) / 2	$2,885,000
	Last year	($2,000,000 + $2,200,000) / 2	$2,100,000
Ans. F	Operating cycle = Average collection period + Average sales period
	This year	49.11 + 83.15	132.26	days
	Last year	45.63 + 76.96	122.59	days
Ans. G	Total assets turnover = Sales / Average operating assets
	This year	$15,830,000 / $15,675,000	1.01	times
	Last year	$13,280,000 / $14,570,000	0.91	times
	*Average assets = (Beginning assets + Ending assets) / 2
	This year	($14,560,000 + $16,790,000) / 2	$15,675,000
	Last year	($14,580,000 + $14,560,000) / 2	$14,570,000
	*Ending balances of last year are considered as beginning balances for this year.