You have just been hired as a loan officer at Fairfield State Bank. Your supervisor has given you a file containing a request from Hedrick Company, a manufacturer of auto components, for a $1,000,000 five-year loan. Financial statement data on the company for the last two years are given below:
Comparative Balance Sheet
This Year Last Year
Cash $ 317,000 $ 419,000
Marketable securities 0 106,000
Accounts receivable, net 902,000 599,000
Inventory 1,340,000 740,000
Prepaid expenses 80,000 68,000
Total current assets 2,639,000 1,932,000
Plant and equipment, net 3,535,300 3,171,200
Total assets $ 6,174,300 $ 5,103,200
Liabilities and Stockholders Equity
Current liabilities $ 1,360,000 $ 840,000
Bonds payable, 10% 1,270,000 1,040,000
Total liabilities 2,630,000 1,880,000
Preferred stock, 8%, $30 par value 600,000 600,000
Common stock, $40 par value 2,000,000 2,000,000
Retained earnings 944,300 623,200
Total stockholders equity 3,544,300 3,223,200
Total liabilities and stockholders equity $ 6,174,300 $ 5,103,200
Comparative Income Statement and Reconciliation
This Year Last Year
Sales (all on account) $ 5,260,000 $ 4,330,000
Cost of goods sold 4,000,000 3,210,000
Gross margin 1,260,000 1,120,000
Selling and administrative expenses 520,000 510,000
Net operating income 740,000 610,000
Interest expense 127,000 104,000
Net income before taxes 613,000 506,000
Income taxes (30%) 183,900 151,800
Net income 429,100 354,200
Preferred stock 48,000 48,000
Common stock 60,000 30,000
Total dividends paid 108,000 78,000
Net income retained 321,100 276,200
Retained earnings, beginning of year 623,200 347,000
Retained earnings, end of year $ 944,300 $ 623,200
Marva Rossen, who just two years ago was appointed president of Hedrick Company, admits that the company has been “inconsistent” in its performance over the past several years. But Rossen argues that the company has its costs under control and is now experiencing strong sales growth, as evidenced by the more than 20% increase in sales over the last year. Rossen also argues that investors have recognized the improving situation at Hedrick Company, as shown by the jump in the price of its common stock from $37 per share last year to $53 per share this year. Rossen believes that with strong leadership and with the modernized equipment that the $1,000,000 loan will enable the company to buy, profits will be even stronger in the future.
Anxious to impress your supervisor, you decide to generate all the information you can about the company. You determine that the following ratios are typical of companies in Hedrick’sindustry:
Current ratio 2.3
Acid-test ratio 1.2
Average collection period 31.0 days
Average sale period 60.0 days
Return on assets 9.5 %
Debt-to-equity ratio 0.65
Times interest earned 5.7
Price-earnings ratio 10
1. You decide first to assess the rate of return that the company is generating. Compute the following for both this year and last year:
a. The return on total assets. (Total assets at the beginning of last year were $4,380,000.)
b. The return on common stockholders’ equity.
c. Is the company’s financial leverage positive or negative?
2. You decide next to assess the well-being of the common stockholders. For both this year and last year, compute:
a. The earnings per share.
b. The dividend yield ratio for common stock.
c. The dividend payout ratio for common stock.
d. The price-earnings ratio.
e. The book value per share of common stock.
f. The gross margin percentage.
3. You decide, finally, to assess creditor ratios to determine both short-term and long-term debt paying ability. For both this year and last year, compute:
a. Working capital.
b. The current ratio.
c. The acid-test ratio.
d. The average collection period.
e. The average sale period.
f. The debt-to-equity ratio.
g. The times interest earned.
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