The income statement for the OverUnder Company for the year ended December 31, 2

Question

The income statement for the OverUnder Company for the year ended December 31, 2007, appears below.


Sales

670,000
Costs of goods sold

390,000
Gross profit

280,000
Expenses

180,000*
Net income

$100,000


*Includes $25,000 of interest expense and $20,000 of income tax expense.

Additional information:
a. Common stock outstanding on January 1, 2007, was 50,000 shares. On July 1, 2007, 10,000 more shares were issued.
b. The market price of OverUnder's stock was $18 at the end of 2007.
c. Cash dividends of $35,000 were paid, $5,000 of which were paid to preferred stockholders.

Part 1:
Compute the following ratios for 2007 (show your work):
a. Earnings per share.
b. Price-earnings.
c. Times interest earned.

Part 2:

Please explain the meaning of these ratios and the results you have calculated.

Explanation / Answer

a. Earnings per share = (net income - preferred dividends)/weighted average number of common shares outstanding = (100,000 - 5,000)/55,000 = $1.73 (55,000 came from: shares from Jan - Jun: 50,000*6 months = 300,000 shares from July - Dec: 60,000*6 months = 360,000 300,000 + 360,000 = 660,000 Divide by 12 = 55,000) b. Price earnings = Price of common stock/earnings per share = 18/1.73 = 10.40 c. times interest earned = earnings before interest and taxes/interest expense = 100,00 + 25,00 + 20,000/25,000 = 5.8 2. EArnings per share is the amount of income per share of common stock and is a measure of profitability. Price earnings Shows what the market is willing to pay for a company's earnings; it is a measure of market value relative to earnings. Times interest earned measures the ability of hte company to pay the interest is owes. It is a measure of solvency.

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