You have just been hired as a financial analyst for Lydex Company, a manufacture

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:

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

Problem 15-15 Part 1

Required:

1. You decide first to assess the company’s performance in terms of debt management and profitability. Compute the following for both this year and last year: (Round your "Percentage" answers to 1 decimal place and other answers to 2 decimal places.)

a. The times interest earned ratio.

b. The debt-to-equity ratio.

c. The gross margin percentage.

d. The return on total assets. (Total assets at the beginning of last year were $13,130,000.)

e. The return on equity. (Stockholders’ equity at the beginning of last year totaled $8,257,550. There has been no change in common stock over the last two years.)

f. Is the company’s financial leverage positive or negative?

Lydex Company
Comparative Balance Sheet This Year Last Year Assets Current assets: Cash $ 1,020,000 $ 1,260,000 Marketable securities 0 300,000 Accounts receivable, net 2,940,000 2,040,000 Inventory 3,660,000 2,100,000 Prepaid expenses 270,000 210,000 Total current assets 7,890,000 5,910,000 Plant and equipment, net 9,640,000 9,110,000 Total assets $ 17,530,000 $ 15,020,000 Liabilities and Stockholders' Equity Liabilities: Current liabilities $ 4,070,000 $ 3,100,000 Note payable, 10% 3,700,000 3,100,000 Total liabilities 7,770,000 6,200,000 Stockholders' equity: Common stock, $75 par value 7,500,000 7,500,000 Retained earnings 2,260,000 1,320,000 Total stockholders' equity 9,760,000 8,820,000 Total liabilities and stockholders' equity $ 17,530,000 $ 15,020,000

Explanation / Answer

a). times interest earned ratio = Net Operating Income / interest expense
This Year = $2,170,000 / $370,000 = 5.86 times
Last year = $1,917,000 / $310,000 = 6.18 times

b). Debt to equity ratio = Total Debt / Equity
This Year = 7,770,000 / 9,760,000 = 0.79 times
Last Year = 6,200,000 / 8,820,000 = 0.70 times

c). Gross margin percentage = Gross profit / Sales * 100
This Year = 3,184,000 / 15,920,000 *100 = 20%
Last Year = 3,545,000 / 14,180,000 *100 = 25%

d). Return on Total Assets = Net Income / Average total assets
This Year = 1,260,000 / ((17,530,000 + 15,020,000)/2) = 0.774 or 7.75%
Last Year = 1,124,900 / ((15,020,000 + 13,130,000)/2) = 0.799 or 7.99% or 8% approx.

e). Return on equity = Net Income / Sharesholder's equity
This Year = 1,260,000 / ((9,760,000 + 8,820,000)/2) = 0.1356 or 13.56%
Last Year = 1,124,900 / ((8,820,000 + 8,257,550)/2) = 0.1317 or 13.17%

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