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Rationale:
Write off inventory: both net income and average total OE decrease but net income is
reduced by a greater percentage. The ratio decreases.
Sell goods costing $60 for $100: income and sales both increase but income increases by a
higher percentage than sales. The ratio increases.
Retire bonds: only liabilities are reduced; there is no effect on OE. Therefore the numerator
is reduced along with the ratio.
Purchase treasury stock: the number of outstanding shares is reduced, thus reducing the
denominator of EPS. There is no immediate impact on earnings. Thus, the ratio increases.
Using the information below, compute the following amounts and ratios for the Quant Corporation for
the current year. Assume that (1) the only effects on retained earnings are net income and cash
dividends for the year, and (2) only common stock dividends were declared (none for preferred stock).
Enter your amounts in the second column rounded to the nearest percent or nearest dollar, as
appropriate. For example, if your computation of a ratio is 249.38%, enter 2.49. Use the calculator
function available to you.
Rationale:
Times interest earned ratio = (net income + interest expense + income tax
expense)/interest expense = (420 + 100 + 180)/100 = 7
Return on total assets = (net income + after-tax interest expense)/average total assets =
[420 + .70(100)]/.5(2,400 + 2,800) = .19. The tax rate is .30 = (income tax
expense)/(income before tax)= 180/600.
Return on equity = net income/average OE = 420/.5(100 + 200 + 300 + 810 - 100 + 100 +
250 + 350 + 1080 - 120) = 420/1,485 = .28
Dividend payout ratio = common dividends/net income = 150/420 = .36. Retained earnings
increased 270 (1,080 - 810). 270 = 420 net income - dividends declared. Therefore
dividends declared are 150.