Chapter 17, Problem 5PB

### Financial Accounting

15th Edition
Carl Warren + 2 others
ISBN: 9781337272124

Chapter
Section

### Financial Accounting

15th Edition
Carl Warren + 2 others
ISBN: 9781337272124
Textbook Problem
26 views

# Solvency and profitability trend analysisCrosby Company has provided the following comparative information:You have been asked to evaluate the historical performance of the company over the last five years.Selected industry ratios have remained relatively steady at the following levels for the last five years:Instructions 1. Prepare four line graphs with the ratio on the vertical axis and the years on theÂ horizontal axis for the following four ratios, rounding ratios and percentages to oneÂ decimal place: a. Return on total assets b. Return on stockholdersâ€™ equity c. Times interest earned d. Ratio of liabilities to stockholdersâ€™ equity Display both the company ratio and the industry benchmark on each graph. That is, each graph should have two lines.2. Prepare an analysis of the graphs in (1).

1.

To determine

Determine the following ratios for five years:

1. (a) Return on total assets
2. (b) Return on stockholders’ equity
3. (c) Times interest earned ratio
4. (d) Ratio of total liabilities to stockholders’ equity

Also, display the determined ratios in a graph.

Explanation

Financial Ratios: Financial ratios are the metrics used to evaluate the liquidity, capabilities, profitability, and overall performance of a company.

a. Return on total assets for five years (20Y4 to 20Y8)

RateÂ ofÂ returnÂ onÂ assets(20Y8)=Netâ€‰â€‰incomeÂ +Â InterestÂ expenseAverageÂ totalÂ assets=$6,623,780$25,988,665=25.5%

RateÂ ofÂ returnÂ onÂ assets(20Y7)=Netâ€‰â€‰incomeÂ +Â InterestÂ expenseAverageÂ totalÂ assets=$4,606,056$19,859,586=23.2%

RateÂ ofÂ returnÂ onÂ assets(20Y6)=Netâ€‰â€‰incomeÂ +Â InterestÂ expenseAverageÂ totalÂ assets=$3,540,600$14,854,406=23.8%

RateÂ ofÂ returnÂ onÂ assets(20Y5)=Netâ€‰â€‰incomeÂ +Â InterestÂ expenseAverageÂ totalÂ assets=$2,458,000$11,370,240=21.6%

RateÂ ofÂ returnÂ onÂ assets(20Y4)=Netâ€‰â€‰incomeÂ +Â InterestÂ expenseAverageÂ totalÂ assets=$1,900,000$8,676,000=21.9%

Description:

Return on assets determines the particular companyâ€™s overall earning power. It is determined by dividing sum of net income and interest expense and average total assets.

Formula:

RateÂ ofÂ returnÂ onÂ assets=Netâ€‰â€‰incomeÂ +Â InterestÂ expenseAverageÂ totalÂ assets

b.

Return on stockholdersâ€™ equity for five years.

Â RateÂ ofÂ returnÂ onÂ stockholders'Â equity(20Y8)}=Â NetÂ incomeÂ AverageÂ stockholderâ€™sÂ equity=â€‰$5,571,720$15,920,340=35.0%

RateÂ ofÂ returnÂ onÂ stockholders'Â equity(20Y7)}=Â NetÂ incomeÂ AverageÂ stockholderâ€™sÂ equity=â€‰$3,714,480$11,277,240=32.9RateÂ ofÂ returnÂ onÂ stockholders'Â equity(20Y6)}=Â NetÂ incomeÂ AverageÂ stockholderâ€™sÂ equity=â€‰$2,772,000$8,034,000=34.5%RateÂ ofÂ returnÂ onÂ stockholders'Â equity(20Y5)}=Â NetÂ incomeÂ AverageÂ stockholderâ€™sÂ equity=â€‰$1,848,000$5,724,000=32.3%

RateÂ ofÂ returnÂ onÂ stockholders'Â equity(20Y4)}=Â NetÂ incomeÂ AverageÂ stockholderâ€™sÂ equity=â€‰$1,400,000$4,100,000=34.1%

Description:

Rate of return on stockholdersâ€™ equity is used to determine the relationship between the net income and the average common equity that are invested in the company.

Formula: RateÂ ofÂ returnÂ onÂ stockholders'Â equtiyÂ =Â NetÂ incomeAverageÂ Â stockholderâ€™sÂ equityÂ

c.

Times interest earned ratio for five years

Times-interest-earnedÂ ratioÂ (20Y8)Â }=NetÂ Income+Incomeâ€‰taxâ€‰expense+InterestÂ expenseInterestÂ expense=$7,849,352$1,052,060=7

2.

To determine

Prepare analysis of graphs.

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