1.
Calculate earnings per share, dividend yield, dividend payout ratio, price earnings ratio, return on assets, return on stockholders’ equity.
1.
Explanation of Solution
Profitability Ratio:
These ratios evaluate a firm’s ability to earn profits. They help the stakeholders of the company to measure the degree to which funds invested by them are efficiently used. Some of the ratios calculated return on sales, total assets and
(a)
Use the following formula to calculate the value of earnings per share of Company MC:
Substitute $2,640,000 for net income, $300,000 for preference dividend and 1,000,000 for average common shares in the above formula.
Therefore, the value of earnings per share is $2.34 per share.
Use the following formula to calculate the value of earnings per share of Company FA:
Substitute $2,640,000 for net income, $100,000 for preference dividend and 1,200,000 for average common shares in the above formula.
Therefore, the value of earnings per share is $2.12 per share.
(b)
Use the following formula to calculate the value of dividend yield of Company MC:
Substitute $0.54 for dividend per common shares, and $5.00 for market price per common share in the above formula.
Therefore, the value of dividend yield is 0.11.
Use the following formula to calculate the value of dividend yield of Company FA:
Substitute $0.78 for dividend per common shares, and $9.80 for market price per common share in the above formula.
Therefore, the value of dividend yield is 0.08.
(c)
Use the following formula to calculate the value of dividend payout ratio of Company MC:
Substitute $540,000 for common dividend, $2,640,000 for net income and $300,000 for preference dividend in the above formula.
Therefore, the value of dividend payout ratio is 0.23.
Use the following formula to calculate the value of dividend payout ratio of Company FA:
Substitute $940,000 for common dividend, $2,640,000 for net income and $100,000 for preference dividend in the above formula.
Therefore, the value of dividend payout ratio is 0.37.
(d)
Use the following formula to calculate the price-earnings ratio of Company MC:
Substitute $5.00 for market price per share and $2.34 (this amount is calculated in part a) for earnings per share in the above formula.
Therefore, the value of price-earnings ratio is 2.14.
Use the following formula to calculate the price-earnings ratio of Company FA:
Substitute $9.80 for market price per share and $2.12 (this amount is calculated in part a) for earnings per share in the above formula.
Therefore, the value of price-earnings ratio is 4.62.
(e)
Use the following formula to calculate the value of return on assets of Company MC:
Substitute $2,640,000 for net income, $1,000,000 for interest expense, 34% for tax rate and $20,000,000 for average total assets in the above formula.
Therefore, the value of return on assets is 0.17.
Use the following formula to calculate the value of return on assets of Company FA:
Substitute $2,640,000 for net income, $3,000,000 for interest expense, 34% for tax rate and $22,000,000 for average total assets in the above formula.
Therefore, the value of return on assets is 0.21.
(f)
Use the following formula to calculate the value of return on stockholder’s equity of Company MC:
Substitute $2,640,000 for net income, $300,000 for preference dividend and $10,000,000 for average common stockholder’s equity in the above formula.
Therefore, the value of return on stockholder’s equity is 0.23.
Use the following formula to calculate the value of return on stockholder’s equity of Company FA:
Substitute $2,640,000 for net income, $100,000 for preference dividend and $13,000,000 for average common stockholder’s equity in the above formula.
Therefore, the value of return on stockholder’s equity is 0.2.
Working Note:
1. Calculation of dividend per common share of Company MC:
2. Calculation of dividend per common share of Company FA:
2.
Identify the best company for investors. Also, explain the reason.
2.
Explanation of Solution
The profitability ratios show that Company FA is a better option for investors because Company FA has control on all the ratios except earnings per share, dividend yield ratio and return on equity. Therefore, investors should invest in Company FA.
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Chapter 15 Solutions
Managerial Accounting
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