Question

The accounting department of your company has just delivered a draft of the current year's financial statements to you. The summary is as follows: Beginning of the Year End of the Year Total Assets $550.000 $628.000 Total Liabilities 210,000 209,000 Total Equity 340,000 419,000 Net Income for the Year 105,600 Common Shares Outstanding 21,000 21,000 You discovered that they have not adjusted for estimated bad debt expenses of $7,200. For each of the following ratios, calculate: 1. The ratio that would have resulted had the error not been discovered (ie the incorrect ratio) 2. The correct ratio. A B Incorrect 1 C с Correct E 2 3 ROA ROE Debt Ratio EPS 4 ON 8 9 10

Answer 1

Answer

1.Incorrect Ratio

(a).Return on Assets (ROA) = Net Income/Average Total Assets

= $105,600/[($550,000+$628,000)/2]

= $105,600/$589,000

= 17.9286

= 17.93% [rounded to 2 decimal places]

(b).Return on Equity(ROE) = Net Income/Average Total Equity

= $105,600/[($340,000+$419,000)/2]

  = $105,600/$379,500

= 27.8260

= 27.83% [rounded to 2 decimal places]

(c).Debt Ratio = Total Liabilities/Total Assets

= $209,000/$628,000

= 33.28% [expressed in percentages]

(d).EPS = (Net Income-Preferred dividends)/Average Common Shares Outstanding

= ($105,600-$0)/[(21,000+21,000)/2]

  = $105,600/$21,000

= $5.0285

= $5.03 [rounded to 2 decimal]

Particulars	Answer
Return on Assets	17.93%
Return on Equity	27.83%
Debt Ratio	33.28%
EPS (Earnings Per Share)	$5.03

2.Correct Ratio [after adjustment of estimated bad debt expenses of $7,200]

So,correct Net Income for the year = $105,600-$7,200 = $98,400

correct Total equity at the end of the year = $419,000-$7,200 = $411,800

correct Total asset at the end of the year = $620,800-$7,200 = $620,800

(a).Return on Assets (ROA) = Net Income/Average Total Assets

= $98,400/[($550,000+$620,800)/2]

  = $98,400/$585,400

= 16.8090

= 16.81% [rounded to 2 decimals]

(b). Return on Equity (ROE) = Net Income/Average Total Equity

= $98,400/[($340,000+$411,800)/2]

  = $98,400/$375,900

= 26.1771

= 26.18%

(c).Debt Ratio = Total Liabilities/Total Assets

= $210,000/$620,800

= 33.8273

= 33.83% [rounded to 2 decimal places] expressed in percentage

(d).EPS (Earnings Per Share) = (Net Income-Preferred Dividend)/Average common shares outstanding

= ($98,400-$0)/[(21,000+21,000)/2]

= $98,400/21,000

= 4.6857

= $4.69

Particulars	Answer
Return on Assets	16.81%
Return on Equity	26.18%
Debt Ratio	33.83%
EPS	$4.69