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Analysis of Financial Statements

Practice Problems

1. Gem Products has total assets of $5 million, a total asset turnover of 5 times for the
year, net income of $500,000, and a total debt to total asset ratio of 0.20.

a) What is its (1) net profit margins, (2) return on total assets, and (3) return on
equity?

b) By making $1 million in investments to replace outmoded equipment


(thereby increasing total assets by $1 million), Gem can increase its net
profit margin to 3 percent. If sales remain the same, as does the total debt to
total asset ratio, what is the new (1) return on total assets and (2) return on
equity?

c) How could Gem have achieved the same return on equity obtained in (b) by
changes in the total debt to total asset ratio, instead of increasing total assets
and net profit margin?

2. Complete the balance sheet for KFC using the information that follows it.
Balance sheet
KFC Industries
June 30, 1997
Cash $30,000 Accounts payable $120,000
Mark. Sec. 25,000 Notes payable ________
Accounts Rec. _______ Accruals 20,000
Inventories _______ Total C.L. ________
Total C.A. _______ Long term Debt ________
Net fixed assets _______ St. holder’s Equity $600,000
Total liabilities &
Total assets _______ St. Holder’s Equity ________

Information
i. Sales totaled $1,800,000.
ii. The gross profit margin was 25 percent.
iii. Inventory turnover was 6.0.
iv. There are 360 days in the year.
v. The average collection period was 40 days.
vi. The current ratio was 1.60.
vii. The total asset turnover ratio was 1.20.
3. From the value of the different ratios given below, calculate the missing balance sheet
items and complete the balance sheet.

Sales Rs.100,000
Average Collection Period 55-days
Inventory Turn over 15
Debt to Assets Ratio .4 or 40%
Current Ratio 3
Total Asset Turnover 1.6
Fixed Asset Turnover 2.9

Assets Liabilities + Equity


Cash Rs.6000 Accounts Payable 6000
Accounts Rec. ______ Notes Payable ____
Inventory ______ Accured Expenses 600
Prepaid Expenses ______ Total Current Liabilities ____
Total Current Assets ______ Bonds Payable ____
Fixed Assets ______ Common Stock 16,000
Retained Earnings _____
Total Assets ______
Total Liability+ Equity _____

4. Dewan Salman has Rs.1,750,000 in current assets and Rs.700,000 in current


liabilities. Its initial inventory level is Rs.500,000, and it will raise funds as
additional short term notes payable and use them to increase inventory. How
much can Dewan’s short term debt (notes payable) increase without violating a
current ratio of 2 to 1? What will be the firm’s quick ratio after Dewan has raised
the maximum amount of short term debt?
Class Assignment Problems

1. X Co has made plan for the next year. It is estimated that the company will
employ total assets of Rs.800,000; 50% of the assets being financed by borrowed
capital at an interest of 8% per year. The direct costs for the year are estimated at
Rs.480,000 and all other operating expenses are estimated at Rs.80,000. The goods
will be sold to customers at 150 per cent of the direct costs. Tax rate is assumed to be
50 percent.
You are required to calculate: (i) net profit margin; (ii) return on assets; (iii) assets
turnover and (iv) return on owner’s equity.

2. Complete the balance sheet and sales information in the table that follows for
XYZ Company, using the following financial data:

Debt ratio: 50%


Quick ratio: 0.8
Total asset turnover: 1.5
Average collection period: 36 days
Gross profit margin: 25%
Inventory turnover ratio: 5

Cash _______ Accounts payable _______


Account receivable _______ Long-term debt 40,000
Inventories _______ common stock ______
Fixed assets _______ Retained earnings 65,000
Total assets 200,000 Total Liab. & equity ______

Sales _______ Cost of goods sold ______

3. The following information is available on the Vanier Corp.

Balance Sheet as of June 30, 1999

Cash & M.S $ 500 Accounts Payable $ 400


Accounts receivable ? Bank loan ?
Inventories ? Accruals 200
Current assets ? Current liabilities ?
Long term debt
2,650
Net fixed assets ? C.S & R.E 3,750
Total Liabilities
Total Assets ? and Equity ?
Income Statement for 1999

Credit sales $ 8,000


Cost of goods sold ?
Gross profit ?
Selling & Admin Exp. ?
Interest expense 400
Profit before taxes ?
Taxes (44% rate) ?
Profit after taxes ?

Other information.

Current ratio 3
Depreciation $500
Net profit margin 7%
Debt / equity ratio 1
Avg. collection period 45 days
Inventory turnover 3

Assuming that the sales and production are steady throughout a 360- day year,
complete the balance sheet and income statement.

4. Abott Procesing has a total asset turnover of 2.0 and an operating profit margin of
20%. The company uses no financial leverage and faces a 50% income tax rate
Compute the net profit margin and return on total assets.