ASSIGNMENT # 2

SUBMISSION DATE: 22ND October 2012. No assignments will be accepted after the stipulated date. SUBMISSION TIME DEADLINE: 5 PM The assignments must be submitted to me or left in my office.(S11) Students are required to submit their assignments and other written work in printed OR handwritten form. Please name your assignment along with your section to make it easier for me to manage your submissions. You are supposed to do your own work. Plagiarism and cheating will lead to dismissal. Do not copy the work of others and do not use others to do your work. It is not allowed to pass off work done in past semesters as work done for this course. THIS IS AN INDIVIDUAL ASSIGNMENT AND MUST BE PRODUCED INDIVIDUALLY.

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List the four ways that improvement can be made in return on equity. Discuss why debt is considered a two-edged sword. Discuss the limitations of ratio analysis. Baker & Co. has applied for a loan from the Trust Us Bank in order to invest in several potential opportunities. In order to evaluate the firm as a potential debtor, the bank would like to compare Baker & Co. to the industry. The following are the financial statements given to Trust Us Bank: Balance Sheet 12/31/95 12/31/96 Cash $305 270 Accounts receivable 275 290 Inventory 600 580 Current assets 1,180 1,140 Plant and equipment 1,700 1,940 Less: acc depr (500) (600) Net plant and equipment 1,200 1,340 Total assets $2,380 $2,480 Liabilities and Owners Equity Accounts payable $150 $200 Notes payable 125 0 Current liabilities 275 200 Bonds 500 500 Owners equity Common stock 165 305 Paid-in-capital 775 775 Retained earnings 665 700 Total owners equity 1,605 1,780 Total liabilities and owners equity $2,380 $2,480 Income Statement Sales (100% credit) $1,100 $1,330 Cost of goods sold 600 760 Gross profit 500 570 Operating expenses 20 30 Depreciation 160 200 Net operating income 320 340 Interest expense 64 57 Net income before taxes 256 283 Taxes 87 96 Net income $ 169 $ 187

Compute the following ratios: 1995 Current ratio Acid test ratio Inventory turnover Average collection period Debt ratio Times interest earned Total asset turnover Fixed asset turnover Operating profit margin Net profit margin Return on total assets Operating income return on investments Return on equity 5. 1996 Industry Norms 5.0 3.0 2.2 90 days .33 7.0 .75 1.0 20% 12% 9.00% 15.00% 10.43%

In reference to the above problem: a. What are the firms financial strengths and weaknesses? b. Should the bank make the loan? Why or why not?