The following information was available for the year ended December 31, 2016: Ea
ID: 2519094 • Letter: T
Question
The following information was available for the year ended December 31, 2016: Earnings before interest and taxes (operating income) $ 97,500 Interest expense 15,000 Income tax expense 22,500 Net income 60,000 Total assets at year-end 288,000 Total liabilities at year-end 216,000
Required: show all work
(a.) Calculate the debt ratio at December 31, 2016.
(b.) Calculate the debt/equity ratio at December 31, 2016.
(c.) Calculate the times interest earned for the year ended December 31, 2016.
The ngormatsvabie for th er enged Deceer st 2015 Earnings before interest and taxes (operating income Interest expense Income tax expense Net income Total assets at year-end Total liabilities at year-end s 97.500 15,000 22,500 60,000 288,000 216,000Explanation / Answer
1. Debt Ratio = Total Liabilities divided by Total Assets = 216,000/288,000 = 75%.
This is the measure of leverage used by the company. The lower the ratio, the less leverage is being used by company and stronger the equity position. At 75% it means that for every dollar of asset the company has 75 cents of liabilities.
2. Debt/Equity Ratio - Total Liabilities/Total Shareholder's Equity
Now in the given question Total Assets is 288,000 and Total Liabilities(other than shareholder's equity) is 216,000
Hence Shareholder's Equity = 288,000-216,000 = 72,000
Debt/Equity Ratio = 216,000/72,000 = 300%
(To add for more understanding think from balance sheet point of view Total Asset side should be equal to Liabilities side. We know total assets and we know liability hence difference is Shareholder's equity)
3. Time Interest Earned = Income Before Interest and Taxes (EBIT) / Interest Expense
97,500/15,000 = 6.5.
This ratio indicates how many times a company can pay the interest expense with EBIT. Hence higher the better.
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