Question

Your company had the following balance sheet and income statement information for 2002:

Balance Sheet:

Cash $ 20

A/R 1,000

Inventories 5,000

Total current assets $6,020

Debt $4,000

Net fixed assets 2,980

Equity 5,000

Total assets $9,000

Total claims $9,000

Income Statement:

Sales $10,000

Cost of goods sold 9,200

EBIT $ 800

Interest (10%) 400

EBT $ 400

Taxes (40%) 160

Net income $ 240 \

The industry average inventory turnover is 5. You think you can change your inventory control system so as to cause your turnover to equal the industry average, and this change is expected to have no effect on either sales or cost of goods sold. The cash generated from reducing inventories will be used to buy tax-exempt securities that have a 7 percent rate of return. What will your profit margin be after the change in inventories is reflected in the income statement?

a. 2.1%

b. 2.4%

c. 4.5%

d. 5.3%

e. 6.7%

(The following information applies to the next two problems.)

Miller Technologies recently reported the following balance sheet in its annual report (all numbers are in millions of dollars):

Cash $ 100

Accounts payable $ 300

Accounts receivable 300

Notes payable 500

Inventory 500

Total current liabilities $ 800

Total current assets $ 900

Long-term debt 1,500

Total debt $2,300

Common stock 500

Retained earnings 400

Net fixed assets 2,300

Total common equity $ 900

Total assets $3,200

Total liabilities and equity $3,200

Miller also reported sales revenues of $4.5 billion and a 20 percent ROE for this same year.

Answer 1

	Average turnover ratio
Particulars	Given=Sales/ Inventory= 10000/5000=2	5	2.1	2.4	4.5	5.3	6.7
Balance sheet
Cash	20	20	20	20	20	20	20
A/R	1000	1000	1000	1000	1000	1000	1000
Inventory (Note :1)	5000	2000	4762	4167	2222	1887	1493
Investment (Balancing figure)	0	3000	238	833	2778	3113	3507
Total current assets	6020	6020	6020	6020	6020	6020	6020
Net fixed assets	2980	2980	2980	2980	2980	2980	2980
Total assets	9000	9000	9000	9000	9000	9000	9000
Debt	4000	4000	4000	4000	4000	4000	4000
Equity	5000	5000	5000	5000	5000	5000	5000
Total claim	9000	9000	9000	9000	9000	9000	9000
Income statement
Sales	10000	10000	10000	10000	10000	10000	10000
Less:Cost of goods sold	9200	9200	9200	9200	9200	9200	9200
EBIT	800	800	800	800	800	800	800
Less:Interest (10%)	400	400	400	400	400	400	400
EBT	400	400	400	400	400	400	400
Less: Taxes(40%)	160	160	160	160	160	160	160
Net income	240	240	240	240	240	240	240
Add: Interest on investment (tax free) at 7%	0	210	17	58	194	218	246
Net profit	240	450	257	298	434	458	486
Profit margin (Net profit/Sales)	2.40%	4.50%	2.57%	2.98%	4.34%	4.58%	4.86%
Note 1: Inventory = Sales/Average inventory turnover