December 24, 2022 [FINANCIAL STATEMENT ANALYSIS]

LUCY COLLEGE
DEPARTMENT OF ACCOUNTING AND FINANCE
GROUP ASSIGNMENT I ON CHAPTER 2 FINANCIAL MANAGEMENT I
FINANCIAL STATEMENT ANALYSIS

WORKOUT PROBLEMS (15%)

INSTRUCTION: SOLVE THE FOLLOWING PROBLEMS BY SHOWING CLEARLY ALL THE
NECESSARY STEPS, FORMULAS AND COMPUTATIONS.
PROBLEM 1 (10%)
Addis Corporation: Balance Sheet as of December 31, 2020
Assets Liabilities and Equity
Cash ETB 72,000 Accounts and notes payable ETB 432,000
Accounts receivable 439,000 Accruals 170,000
Inventories 894,000 Total current liabilities ETB 602,000
Total current assets ETB 1,405,000 Long – term debt 404,290
Fixed assets 431,000 Common stock 575,000
________ Retained earnings 254,710
Total assets ETB 1,836,000 Total liabilities and equity ETB 1,836,000
Addis Corporation: Income Statement for 2020
Sales ETB 4,338,515
Cost of goods sold 3,580,000
Selling, general, and administrative expenses 370,320
Depreciation 159,000
Earnings before interest and taxes (EBIT) ETB 229,195
Interest expense 48,515
Earnings before taxes (EBT) ETB 180,680
Taxes (40%) 72,272
Net income ETB 108,408
Additional Data:
Dividends ETB 10,840.80
Addition to retained earnings 97,567.20
Market price (average) ETB60.00
Number of shares outstanding 15,000
Required: Based on the above financial statements, calculate the following ratios.

I. Short – term solvency, or liquidity, ratios II. Long-term solvency, or financial leverage, ratios
a) Quick ratio a) Total debt ratio
b) Current ratio b) Debt to equity ratio
c) Cash ratio c) Long – term debt ratio
d) Net working capital d) Times interest earned ratio
e) Cash coverage ratio
III. Asset utilization, or turnover, ratios IV. Profitability ratios
a) Inventory turnover a) Profit margin ratio
b) Days’ sales in inventory b) Return on assets
c) Receivables turnover c) Return on equity

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 December 24, 2022 [FINANCIAL STATEMENT ANALYSIS]

d) Days sales outstanding

e) Fixed assets turnover
f) Total assets turnover

V. Market value ratios

a) Price – earnings ratio
b) Market – to – book ratio

Solutions

I. Short – term solvency, or liquidity, ratios

1. Liquidity
A) Current Ratio
B) Quick Ratio
C) Cash Ratio

I) Current Ratio
As at December 31, 2020

Current Ratio = Current Asset/ Current Liability

Current Ratio = 1,405,000/602,000

Current Ratio = 2.33x

II) Quick Ratio = (CA-Inventories)/ current Liabilities

Quick Ratio = (1,405,000-894,000)/602,000

Quick Ratio = 0.85x

III) Cash Ratio

Cash Ratio = Cash/ Current Liabilities

Cash Ratio = 72,000/602,000

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 December 24, 2022 [FINANCIAL STATEMENT ANALYSIS]

Cash Ratio = 0.12x

IV) Net working capital

NWC = A/R + Inventories – A/P
NWC = 439,000+894,000-432,000
NWC = 901,000

II. Long-term solvency, or financial leverage, ratios

A) Total debt ratio

B) Debt to equity ratio
C) Long – term debt ratio
D) Times interest earned ratio
E) Cash coverage ratio

A) Total Debt Ratio

Total Debt Ratio = Total Debit/ Total Asset

Total Debt Ratio = 1,836,000/1,836,000

Total Debt Ratio =100%

B) Debt to Equity Ratio

Debt to Equity Ratio = Total Liabilities/Total Stakeholder Equity

Debit to Equity Ratio = 1,006,290/829,710

Debit to Equity Ratio = 1.21

Total Liabilities = Current Liabilities + long term debt

Total Liabilities = 602,000+404,290

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 December 24, 2022 [FINANCIAL STATEMENT ANALYSIS]

Total Liabilities = 1,006,290

Total Stakeholders Equity = Current Stock +Retained Earnings

Total Stakeholders Equity = 575,000+254,710

Total Stakeholders Equity = 829,710

C) Long – term debt ratio

Long Term debt Ratio (LTD) = Long-Term debt/ Total Asset

Long Term debt = 404,290/1,836,000

Long Term debt = 0.22

D) Times interest earned ratio

TIE = Earnings before interest and Taxes / Interest expense

TIE = 229,195/48,515

TIE = 4.72x

E) Cash coverage ratio

Cash Coverage ratio = (EBTI + Non-Cash Expense (Depreciation))/ Interest Expense

Cash Coverage Ratio = (229,195+159,000)/48,515

Cash Coverage Ratio = 8

III. Asset utilization, or turnover, ratios

A) Inventory turnover

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 December 24, 2022 [FINANCIAL STATEMENT ANALYSIS]

B) Days’ sales in inventory

C) Receivables turnover
D) Days sales outstanding
E) Fixed assets turnover
F) Total assets turnover

A) Inventory Turnover

Inventory Turnover (IT) = Cost of Goods sold/ average Inventories

Inventory Turnover = 3,580,000/894,000

Inventory Turnover = 4

B) Days’ Sales in inventory

Having calculated inventory turnover, let’s say this company wanted to calculate their DSI
for the past year (365 days): Accordingly,

DSI = 365/4

DSI = 91.25 days

C) Receivables turnover

A/R Turnover = sales/ (A/R)

A/R Turnover = 4,338,515/439,000

A/R turnover = 9.88

D) Days sales outstanding

Days sales outstanding (Average Collection Period) = 365days *average A/R)/ Net Credit
sales

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 December 24, 2022 [FINANCIAL STATEMENT ANALYSIS]

Days sales outstanding = (365*439,000)/4,338,515

Days sales outstanding = 36.93

E) Fixed assets turnover

Fixed Asset Turnover = Sales/ Average Fixed Asset

Average Fixed Asset = Total Asset- Accumulated Depreciation

Average Fixed Asset = 1,836,000 – 159,000

Average Fixed Asset = 1,677,000

Thus,

Fixed Asset Turnover = 4,338,515/1,677,000

Fixed Asset Turnover = 2.59X

F) Total assets turnover

Total Asset Turnover = Sales/ Average total Asset

Total asset Turnover = 4,338,515/1,836,000

Total Asset Turnover = 2.36x

IV. Profitability ratios

A) Profit margin ratio

B) Return on assets
C) Return on equity

A) Profit Margin Ratio

Net Profit % = (Net profit after Tax*100)/ Net Sales

Net Profit % = (108,408*100)/4,338,515

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 December 24, 2022 [FINANCIAL STATEMENT ANALYSIS]

Net Profit % = 2.5%

B) Return on Assets

ROA = Net income / Total Asset

ROA = 108,408/1,836,000

ROA = 5.9%

C) Return on equity

Return on Equity = Net Income/ Stakeholders Equity

Return on Equity = 108,408/829,710

Return on Equity = 13.06%

V. Market value ratios

A) Price – earnings ratio

B) Market – to – book ratio

A) Price- Earnings ratio

Price – Earnings Ratio = Price Per Share/ Earning Per share

Price –Earnings Ratio = 60 / (180680/15,000)

Price –Earnings Ratio = 60/12.04

Price –Earing Ratio = 4.98

B) Market – to – book ratio

Market to Book Ratio = Stock Price/ Book Value per share

Market to Book Value = 575,000/(60*15,000)

Market to Book Value = 0.64

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 December 24, 2022 [FINANCIAL STATEMENT ANALYSIS]

PROBLEM 2
(5%)

As you can see, someone has spilled ink over some of the entries in the balance sheet and income
statement of Top Company. Can you use the following information to work out the missing entries?

Long – term debt ratio 0.4

Times interest earned 8.0
Current ratio 1.4
Quick ratio 1.0
Cash ratio 0.2
Return on assets 18%
Return on equity 41%
Inventory turnover 5.0
Days sales outstanding 71.2 days

INCOME STATEMENT
(figures in millions of ETB)
Net Sales ETB…
Cost of goods sold 110
Selling, general, and administrative expenses 10
Depreciation 20
Earnings before interest and taxes (EBIT) ETB …
Interest expense …
Earnings before taxes ETB …
Taxes …
Net income ETB…

BALANCE SHEET
(figures in millions of ETB)
Assets
Cash and marketable securities ETB 11
Receivables 44
Inventories 22
Total current assets ETB 77
Net property, plant, and equipment 1522.33
Total assets ETB 1,599.33
Liabilities and Shareholders’ Equity
Accounts payable ETB25
Notes payable 30
Total current liabilities ETB 55
Long – term debt 639.73
Shareholders’ equity 702.14
Total liabilities and shareholders’ equity ETB115

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 December 24, 2022 [FINANCIAL STATEMENT ANALYSIS]

Solution

Given:

Long – term debt ratio 0.4

Times interest earned 8.0
Current ratio 1.4
Quick ratio 1.0
Cash ratio 0.2
Return on assets 18%
Return on equity 41%
Inventory turnover 5.0
Days sales outstanding 71.2 days
INCOME STATEMENT
(figures in millions of ETB)
Net Sales ETB 225.56
Cost of goods sold 110
Selling, general, and administrative expenses 10
Depreciation 20
Earnings before interest and taxes (EBIT) ETB 365.56
Interest expense 45.69
Earnings before taxes ETB 411.25
Taxes 123.37
Net income ETB 287.88

A) Current Ratio

Current Ratio = Current Asset / Current liabilities

Current Asset = Current Ratio* Current Liabilities

Current Asset = 1.4 * 55

Current Asset = 77

B) Quick Ratio

quick Ratio = (CA- Inventories)/ Current Liabilities

1.0 = (77-Inventories)/ 55

77-Inventories =55

77-55= inventories

Inventories = 22

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 December 24, 2022 [FINANCIAL STATEMENT ANALYSIS]

C) Cash Ratio

Cash Ratio = Cash/ Current Liabilities

0.2 = Cash/55

Cash =55*0.2

Cash = 11

D) Inventory Turnover Ratio

Inventory Turnover Ratio = Cost of goods sold/ Average inventories

5 = Cost of goods sold/ 22

Cost of goods sold =22*5

Cost of goods sold= 110

E) Current Asset

Current Asset = Cash +A/R +inventory

Current Asset = 77

Cash = 11

Inventory = 22

Thus,

A/R = 77 -11 – 22

A/R =44

F) Days sales outstanding

Days sales Outstanding = (365 days* Average A/R )/Net Cr. sales
71.2 days = (365 days* A/R )/ net sales
Net sales * 71.2 = (365 days* 44)
Net sales = (365*44)/71.2
Net sales = 225.56

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 December 24, 2022 [FINANCIAL STATEMENT ANALYSIS]

G) Times interest earned

TIE = EBIT/ Interest Expense
TIE =8
EBTI = 365.56
Thus,
Interest Expense = 365.56/8
IE = 45.69
H) Return on Asset
ROA = 18%
ROA = Net Income/ Total Asset
Net income = 287.88
Thus,
Total Asset = 287.88/0.18
Total Asset = 1599.33

D) Return on equity

Return on Equity = Net Income/ Stakeholders Equity

ROE = 41%

Net Income 287.88

Stakeholders Equity = 287.88/0.41

Stakeholders Equity = 702.14

F) Long – term debt ratio

Long Term debt Ratio (LTD) = Long-Term debt/ Total Asset

LTD = 0.4

Total Asset =1599.33

Long Term Debt = 0.4*1599.33

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 December 24, 2022 [FINANCIAL STATEMENT ANALYSIS]

Long term debt = 639.73

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