Answer:
Year-end Information
a. Calculation of the debt ratio and the return on assets. (Round your debt ratios to 2 decimal places and return on assets to 3 decimal places.)
Case Debt Ratio ROA
Company 1 = 13.00% ($11,765/$90,500) 22.099% ($20,000/$90,500)
Company 2 = 73.00% ($46,720/$64,000) 5.938% ($3,800/$64,000)
Company 3 = 82.00% ($26,650/$32,500) 2.000% ($650/$32,500)
Company 4 = 38.00% ($55,860/$147,000) 14.286%($21,000/$147,000)
Company 5 = 34,00% ($31,280/$92,000) 8.174% ($7,520/$92,000)
Company 6 = 50.00% ($52,250/$104,500) 11.483%($12,000/$104,500)
b. Of the six companies, which business relies most heavily on creditor financing?
Company 3 relies most heavily on creditor financing, with a ratio of 82%.
c. Of the six companies, which business relies most heavily on equity financing?
Company 1 relies most heavily on equity financing, of about 87%.
d. Which two companies indicate the greatest risk?
Companies 2 and 3 indicate the greatest risk, with heavy reliance on debt financing and less than optimal performance.
e. Which two companies indicate the lowest risk?
Companies 1 and 4 indicate the lowest risk.
f. Which one company would investors likely prefer based on the risk
Company 1 has the lowest risk profile.
Explanation:
a) Schedule of Companies' Assets, Liabilities, Average Assets, & Net Income:
Case Assets Liabilities Average Assets Net Income
Company 1 $ 90,500 $ 11,765 $ 100,000 $ 20,000
Company 2 64,000 46,720 40,000 3,800
Company 3 32,500 26,650 50,000 650
Company 4 147,000 55,860 200,000 21,000
Company 5 92,000 31,280 40,000 7,520
Company 6 104,500 52,250 80,000 12,000
b) The debt ratio or the debt to asset ratio or the total debt to total assets ratio indicates the percentage of the total asset amounts (as reported on the balance sheet) that is owed to creditors and has the formula as total liabilities divided by total assets.
c) Total assets are liabilities plus equity on the balance sheet. To calculate ROA, use the following return on assets formula: ROA = Net Income / Total Assets. Return on assets (ROA) helps investors measure how management is using its assets or resources to generate more income.
