AC499: Bachelors Capstone In Accounting | Unit 4 ✓ Solved

AC499: Bachelors Capstone in Accounting | Unit 4 Unit 4

AC499: Bachelors Capstone in Accounting | Unit 4 Unit 4 Practice Activity: Financial Report Analysis – Rainbow Paint Co. Note: This is a practice activity to be performed before completing the assignment for this unit. The solutions for the Unit 4 practice activity are located here. Rainbow Paint Co.'s comparative financial statements for the years ending December 31, 2013 and 2012 are as follows. The market price of Rainbow Paint Co.'s common stock was $30 on December 31, 1999 and $25 on December 31, 2013. Rainbow Paint Co. Comparative Income Statement For the Years Ended December 31, 2013 and 2012: Sales $ 5,125,000 $ 3,257,600 Sales returns and allowances 125,000 57,600 Net sales $ 5,000,000 $ 3,200,000 Cost of goods sold 3,400,000 2,080,000 Gross profit $ 1,600,000 $ 1,120,000 Selling expenses 650,000 Administrative expenses 325,000 Total operating expenses $ 975,000 $ 688,000 Income from operations $ 625,000 $ 432,000 Other income 25,000 19,200 Income before interest & taxes $ 650,000 $ 451,200 Other expense (interest) 105,000 64,000 Income before income tax $ 545,000 $ 387,200 Income tax expense 300,000 Net income $ 245,000 $ 211,200. AC499: Bachelors Capstone in Accounting | Unit 4 Rainbow Paint Co. Comparative Retained Earnings Statement For the Years Ended December 31, 2013 and 2012: Retained earnings, January 1 $ 723,000 $ 581,800 Add net income for year 245,200 Total $ 968,000 $ 793,000 Deduct dividends: Preferred stock $ 40,000 $ 40,000 Common stock Total $ 85,000 $ 70,000 Retained earnings, December 31 $ 883,000 $ 723,000 Rainbow Paint Co. Comparative Balance Sheet December 31, 2013 and 2012: Assets Current assets: Cash $ 175,000 $ 125,000 Marketable securities 150,000 50,000 Accounts receivable (net) 425,000 Inventories 720,000 Prepaid expenses 30,000 20,000 Total current assets $ 1,500,000 $ 1,000,000 Long-term investments 250,000 Property, plant, and equipment (net) 2,093,000 1,948,000 Total assets $ 3,843,000 $ 3,173,000 Liabilities Current liabilities $ 750,000 $ 650,000 Long-term liabilities: Mortgage note payable, 10%, due 2016 $ 410,000 - Bonds payable, 8%, due 2023 $ 800,000 Total long-term liabilities $ 1,210,000 $ 800,000 Total liabilities $ 1,960,000 $ 1,450,000 Stockholders' Equity Preferred 8% stock, $100 par $ 500,000 $ 500,000 Common stock, $10 par $ 500,000 Retained earnings 883,000 Total stockholders' equity $ 1,883,000 $ 1,723,000 Total liabilities and stockholders' equity $ 3,843,000 $ 3,173,000.

Instructions: Determine the following measures for 2013: 1. Working capital 2. Current ratio 3. Quick ratio 4. Accounts receivable turnover 5. Number of days' sales in receivables 6. Inventory turnover 7. Number of days' sales in inventory 8. Ratio of fixed assets to long-term liabilities 9. Ratio of liabilities to stockholders' equity 10. Number of times interest charges earned 11. Number of times preferred dividends earned 12. Ratio of net sales to assets 13. Rate earned on total assets 14. Rate earned on stockholders' equity 15. Rate earned on common stockholders' equity 16. Earnings per share on common stock 17. Price-earnings ratio 18. Dividends per share of common stock 19. Dividend yield.

Paper For Above Instructions

The financial analysis of Rainbow Paint Co. based on its comparative financial statements for the years ending December 31, 2013, and 2012, provides insights into the company's operational efficiency, liquidity, and profitability. This paper will calculate key financial ratios and metrics based on the provided data for the year 2013 to conduct a comprehensive financial report analysis.

1. Working Capital

Working capital is calculated by subtracting current liabilities from current assets. For Rainbow Paint Co., this is computed as follows:

Working Capital = Current Assets - Current Liabilities

= $1,500,000 - $750,000

= $750,000

This indicates that the company has sufficient short-term assets to cover its short-term liabilities, which is a positive sign of liquidity.

2. Current Ratio

The current ratio is a measure of a company's ability to pay its short-term obligations and is calculated as:

Current Ratio = Current Assets / Current Liabilities

= $1,500,000 / $750,000

= 2.0

A current ratio of 2.0 signifies that Rainbow Paint Co. has two dollars in current assets for every dollar in current liabilities, indicating good liquidity.

3. Quick Ratio

The quick ratio, also known as the acid-test ratio, provides a more stringent measure of liquidity by excluding inventories from current assets:

Quick Ratio = (Current Assets - Inventories) / Current Liabilities

= ($1,500,000 - $720,000) / $750,000

= $780,000 / $750,000

= 1.04

A quick ratio of 1.04 means that Rainbow Paint Co. has sufficient liquid assets to meet its short-term liabilities.

4. Accounts Receivable Turnover

This ratio measures how efficiently a company collects its receivables. It is calculated as:

Accounts Receivable Turnover = Net Sales / Average Accounts Receivable

For simplicity, we will assume that accounts receivable at the end of 2012 was zero. Therefore, Average Accounts Receivable for 2013 can be taken as:

Average Accounts Receivable = (Accounts Receivable at End of 2012 + Accounts Receivable at End of 2013) / 2

= (0 + $425,000) / 2

= $212,500

Accounts Receivable Turnover = $5,000,000 / $212,500 = 23.53

This indicates that Rainbow Paint Co. collects its receivables more than 23 times a year, demonstrating efficient collection practices.

5. Number of Days' Sales in Receivables

This metric calculates the average number of days it takes to collect receivables:

Days' Sales in Receivables = 365 / Accounts Receivable Turnover

= 365 / 23.53 ≈ 15.5 days

6. Inventory Turnover

This ratio measures how many times a company's inventory is sold and replaced over a period:

Inventory Turnover = Cost of Goods Sold / Average Inventory

Assuming beginning inventory was zero, Average Inventory = $720,000 / 2 = $720,000

= $3,400,000 / $720,000 = 4.72

7. Number of Days' Sales in Inventory

This indicates how long inventory is held before it's sold:

Days' Sales in Inventory = 365 / Inventory Turnover

= 365 / 4.72 ≈ 77.4 days

8. Ratio of Fixed Assets to Long-Term Liabilities

This ratio indicates the proportion of a company's fixed assets financed by long-term debt:

Fixed Assets = Total Assets - Current Assets = $3,843,000 - $1,500,000 = $2,343,000

Ratio = Fixed Assets / Long-Term Liabilities = $2,343,000 / $1,210,000 = 1.94

9. Ratio of Liabilities to Stockholders' Equity

This ratio shows the amount of leverage used by the company:

Ratio = Total Liabilities / Total Stockholders' Equity = $1,960,000 / $1,883,000 = 1.04

10. Number of Times Interest Charges Earned

This ratio measures a company's ability to meet its interest obligations:

Times Interest Earned = Income Before Interest and Taxes / Interest Expense

= $650,000 / $105,000 = 6.19

11. Number of Times Preferred Dividends Earned

This indicates how easily a company can pay dividends on preferred stock:

Preferred Dividends = $40,000

Ratio = Net Income / Preferred Dividends = $245,000 / $40,000 = 6.13

12. Ratio of Net Sales to Assets

This measures how effectively a company uses its assets to generate sales:

Ratio = Net Sales / Total Assets = $5,000,000 / $3,843,000 = 1.30

13. Rate Earned on Total Assets

This indicates the return generated on total assets:

Rate = Net Income / Total Assets = $245,000 / $3,843,000 = 6.37%

14. Rate Earned on Stockholders' Equity

This shows the return on investment for shareholders:

Rate = Net Income / Stockholders' Equity = $245,000 / $1,883,000 = 13.00%

15. Rate Earned on Common Stockholders' Equity

This ratio measures the return on equity for common shareholders:

Common Stockholders Equity = Total Stockholders' Equity - Preferred Stock = $1,883,000 - $500,000 = $1,383,000

Rate = Net Income / Common Stockholders' Equity = $245,000 / 1,383,000 = 17.70%

16. Earnings per Share on Common Stock

EPS indicates profitability on a per-share basis:

EPS = Net Income / Total Common Shares = $245,000 / (500,000 / 10) = $4.90

17. Price-Earnings Ratio

This ratio compares a company's current share price to its earnings per share:

P/E = Market Price per Share / Earnings per Share = $25 / $4.90 = 5.10

18. Dividends per Share of Common Stock

Dividends per common share determine cash distribution:

DPS = Dividends on Common Stock / Total Common Shares = $45,000 / (500,000 / 10) = $0.90

19. Dividend Yield

The dividend yield measures the dividends received relative to the share price:

Dividend Yield = Dividends per Share / Market Price per Share = $0.90 / $25 = 0.036 or 3.6%

References

  • Brigham, E. F. & Ehrhardt, M. C. (2016). Financial Management: Theory & Practice. Cengage Learning.
  • Khan, M. Y. & Jain, P. K. (2017). Financial Management. Tata McGraw-Hill Education.
  • Fraser, L. & Ormiston, A. (2018). Understanding Financial Statements. Pearson.
  • Shapiro, A. C., & Balbirer, S. D. (2015). Modern Corporate Finance: Theory and Practice. Pearson.
  • Damodaran, A. (2015). Applied Corporate Finance. Wiley.
  • Ross, S., Westerfield, R. & Jaffe, J. (2016). Corporate Finance. McGraw Hill.
  • Higgins, R. C. (2012). Analysis for Financial Management. McGraw-Hill.
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