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Exercise 1-2

Sales.........................................
Cost of goods sold.................
Gross profit..............................
Operating expenses................
Net income...............................

2006
100.0%
66.0
34.0%
21.0
13.0%

2005
100.0%
52.4
47.6%
19.4
28.2%

Analysis and Interpretation: This situation appears to be unfavorable. Both cost


of goods sold and operating expenses are taking a larger percent of each sales
dollar in year 2006 compared to the prior year. Also, even though sales volume
increased, net income both decreased in absolute terms and declined to only
13.0% of sales as compared to 28.2% in the year before.

Exercise 1-3
a. Current ratio:
2006:

$30,800 + $88,500 + $111,500 + $9,700


$128,900

= 1.9 to 1

2005:

$35,625 + $62,500 + $82,500 + $9,375


$75,250

= 2.5 to 1

2004:

$36,800 + $49,200 + $53,000 + $4,000


$49,250

= 2.9 to 1

b. Acid-test ratio:
2006:

$30,800 + $88,500 = 0.9 to 1


$128,900

2005:

$35,625 + $62,500 = 1.3 to 1


$75,250

2004:

$36,800 + $49,200 = 1.7 to 1


$49,250

Analysis and Interpretation: Mixon's short-term liquidity position has weakened


over this two-year period. Both the current and acid-test ratios show declining
trends. Although we do not have information about the nature of the company's
business, the acid-test ratio shift from 1.7 to 1 down to 0.9 to 1 and the current
ratio shift from 2.9 to 1 down to 1.9 to 1 indicate a potential liquidity problem.
Still, we must recognize that industry standards may show that the 2004 ratios
were too high (instead of 2006 ratios as too low).

Exercise 1-4
Mixon Company
Common-Size Comparative Balance Sheet
December 31, 2004-2006
2006
2005*
Cash.......................................................................
5.9%
8.0%
Accounts receivable, net.....................................
17.1
14.0
Merchandise inventory.........................................
21.5
18.5
Prepaid expenses.................................................
1.9
2.1
Plant assets, net ..................................................
53.6
57.3
Total assets ..........................................................
100.0% 100.0%
Accounts payable.................................................
Long-term notes payable secured by
mortgages on plant assets ..............................
Common stock, $10 par value.............................
Retained earnings ................................................
Total liabilities and equity...................................
*

Column does not equal 100.0 due to rounding.

2004*
9.9%
13.2
14.2
1.1
61.6
100.0%

24.9%

16.9%

13.2%

18.8
31.4
24.9
100.0%

23.0
36.5
23.5
100.0%

22.1
43.6
21.0
100.0%

Exercise 1-5
a. Days' sales in receivables:
($88,500 + $62,500) /
x 360 = 40.4 days
2
$672,500
($62,500 + $49,200)
2005:
x 360 = 37.9 days
/2
$530,000
2006:

b. Accounts receivable turnover:


2006:
2005:

$672,500
($88,500 +
$62,500)/2
$530,000
($62,500 +
$49,200)/2

= 8.9 times
= 9.5 times

c. Inventory turnover:
2006:
2005:

$410,225
($111,500 +
$82,500)/2
$344,500
($82,500 +
$53,000)/2

= 4.2 times
= 5.1 times

d. Days sales in inventory:


2006:
2005:

($111,500+
$82,500)/2
$410,225
($82,500+
$53,000)/2
$344,500

x 360 = 85.1 days


x 360 = 70.8 days

Analysis and Interpretation:


The number of days' sales uncollected has
increased and the accounts receivable turnover has declined.
Also, the
merchandise turnover has decreased and days sales in inventory has increased.
While none of these changes in ratios that occurred from 2005 to 2006 appear
dramatic, it seems that Mixon is becoming less efficient in managing its inventory
and in collecting its receivables.

Exercise 1-6
a. Total debt ratio (solution also includes the equity ratio):
2006
Total liabilities (and debt ratio):
$128,900 + $97,500.................. $226,400
43.7%
$75,250 + $102,500..................
Total equity (and equity ratio):
$162,500 + $129,100................
291,600
56.3
$162,500 + $104,750................ _______
Total liabilities and equity........... $518,000
100.0%

2005
$177,750

39.9%

267,250
$445,000

60.1
100.0%

b. Times interest earned:


2006: ($34,100 + $8,525 + $11,100)/$11,100 = 4.8 times
2005: ($31,375 + $7,845 + $12,300)/$12,300 = 4.2 times
Analysis and Interpretation: Mixon added debt to its capital structure during
2006, with the result that the debt ratio increased from 39.9% to 43.7%. However,
the book value of pledged assets is well above secured liabilities (2.8 to 1 in 2006
and 2.5 to 1 in 2005), and the increased profitability of the company allowed it to
increase the times interest earned from 4.2 to 4.8 times. Apparently, the company
is able to handle the increased debt. However, we should note that the debt
increase is entirely in current liabilities, which places a greater stress on shortterm liquidity.

Exercise 1-7
a. Net profit margin:
2006: $34,100/$672,500 = 5.1%
2005: $31,375/$530,000 = 5.9%
b. Total asset turnover:
2006:
2005:

$672,500
($518,000 +
$445,000)/2
$530,000
($445,000 +
$372,500)/2

= 1.4 times
= 1.3 times

c. Return on total assets (using a 35% statutory tax rate):


2006:
2005:

$34,100 +
$8,525*(1-.35)
($518,000 +
$31,375 + $7,845 *
(1-.35)
($445,000 +

= 8.23%
= 8.92%

Analysis and Interpretation: Mixon's operating efficiency appears to be declining


because the return on total assets decreased from 8.92% to 8.23%. While the
total asset turnover favorably increased slightly from 2005 to 2006, the profit
margin unfavorably decreased from 5.9% to 5.1%. The decline in profit margin
indicates that Mixon's ability to generate net income from sales has declined.

Exercise 1-8
a. Return on common stockholders' equity:
2006:

$34,100
= 12.2%
($291,600 + $267,250)/2

2005:

$31,375
= 12.4%
($267,250 + $240,750)/2

b. Price earnings ratio, December 31:


2006: $15/$2.10 = 7.1
2005: $14/$1.93 = 7.3
c. Dividend yield:
2006: $.60/$15 = 4.0%
2005: $.30/$14 = 2.1%