Impact of transactions on ratios analyze the effect of each of the following tra

Question

Impact of transactions on ratios analyze the effect of each of the following transactions on the current ratio, quick ratio, debt-to-equity ratio and earnings per share. Assume that the current ratio, quick ratio and debt-to-equity ratio are each greater than 1, and that earnings per share is positive. Determine if the ratio increases, decreases or is unchanged. Consider each transaction independently of all the other transactions. Purchased inventory of $48 000 on credit. Made repayments of $78 000 on the long-term loan. Declared, but did not pay, a $31 000 cash dividend on shares. Borrowed an additional $56 000 on the long-term loan. Sold short-term investments recorded in the balance sheet at $30000 for $34000. Issued 140 000 shares at the beginning of the financial period for cash of $168 000. Received $6000 owing in cash from a customer. Repaid short-term loans payable of $51 000.

Explanation / Answer

1) if inventory is purchased on credit for $48,000

The formulaof current ratio is current assets / current liabilties .if inventory is purchasedon credit means the current liabilities has gone up by$48,000 . but there is no increase inclosing inventory . hence the ratio will decrease

The formula for quick ratio is (current assets – inventory ) / current liabilties . inventory is purcahsed on credit current liabilties goes up and the Ratio decreases

Debt to equity ratioformula is total debt / total equity . in this case as debt has increased bt $48,000 . the ratio will increase

The formula for Earning per share is (net income – dividend on preferred stock) / average outstanding common stocks . As purchases of inventory will reduce the net income . the ratio will decrease

2) made repayments of $78,000 on the long term loans

The formulaof current ratio is current assets / current liabilties .as there is no impact on current liabilities the ratio remains unchanged

The formula for quick ratio is (current assets – inventory ) / current liabilties . as there is no impact on current liabilities the ratio remains unchanged

Debt to equity ratioformula is total debt / total equity . in this case as debt has decreased by repayment. the ratio will decrease

The formula for Earning per share is (net income – dividend on preferred stock) / average outstanding common stocks . as payment made is for repayment liabilties there is no change in net income . hence no change in ratio

3) declared but did not pay $31,000 cash dividends on shares

The formulaof current ratio is current assets / current liabilties .as the liabilty is created for increasing the balance in dividend payable account which a current liabilties . the ratio will decrease

The formula for quick ratio is (current assets – inventory ) / current liabilties as the liabilty is created for increasing the balance in dividend payable account which a current liabilties . the ratio will decrease

Debt to equity ratioformula is total debt / total equity . in this case as debt has increased as the liabilty is created for increasing the balance in dividend payable account which a current liabilties by repayment. the ratio will increase

The formula for Earning per share is (net income – dividend on preferred stock) / average outstanding common stocks . as there dividend is common stock there is no change in net income . hence no change in ratio

4) borrowed an additional $56,000 on the long term loan

The formulaof current ratio is current assets / current liabilties . there is no increase in current liabilties or assets hence no change in ratio

The formula for quick ratio is (current assets – inventory ) / current liabilties there is no increase in current liabilties or assets hence no change in ratio

Debt to equity ratioformula is total debt / total equity . in this case as debt has increased as the liabilty is created for increasing long term debt. the ratio will increase

The formula for Earning per share is (net income – dividend on preferred stock) / average outstanding common stocks . there is no change in net income . hence no change in ratio

6) issued 140,000 shares at the begginng of the year for $168,000 cash

The formulaof current ratio is current assets / current liabilties . there is increase in current assets as cash is current asset . the ratio increases

The formula for quick ratio is (current assets – inventory ) / current liabilties there is increase in current assets as cash is current asset . the ratio increases

Debt to equity ratioformula is total debt / total equity . in this case as equity has increased. the ratio will decreases

The formula for Earning per share is (net income – dividend on preferred stock) / average outstanding common stocks . there is no change in net income . but increase in equity shares outstanding . the ratio decreases

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