The following yearend account balances belong to Semiha Corporation for 2017. Th
ID: 2549162 • Letter: T
Question
The following yearend account balances belong to Semiha Corporation for 2017. The company
closes its accounting books on 31 December each year, i.e. they operate on a 31 December year end.
Assume that this is the end of the third year of the company’s operations. The account balances are
as follows:
Retained earnings (beginning of year 3, i.e. 2017) $42,000
Retained earnings (beginning of year 2, i.e. 2016) 23,000
Accounts receivable 11,000
Insurance expense 3,400
Salaries and wages expense 33,000
Accumulated depreciation on the equipment 16,900
Utilities expense 4,000
Equipment 57,000
Accounts payable 16,700
Cash 34,700
Salaries and wages payable 4,500
Prepaid insurance 2,600
Maintenance and repairs expense 2,000
Depreciation expense 4,000
Common stock 15,000
Dividends 7,400
Service Revenue 72,000
Instructions:
a) What is the current ratio based on the above information? What does this number say about
the liquidity of the company?
b) Compute the debt to assets ratio based on the above information. What does it say about
the solvency of the company?
c) Would you invest in this company based on the above calculations? Why or why not? Write
a short paragraph.
Explanation / Answer
A) current ratio = current assets/current liablities
(Accounts receivable + cash + prepaid insurance)/(current liablities + salaries and wages payable)
Which is equal to 48300/21200
Hence current ration = 2.27%
B) Debt to asset ratio = total liablities/total assets
Liablities include accounts payable and salaries and wages payable
Where as assets consists of accounts receivable, cash and prepaid expenses
Hence 21200/48300
Which is equal to 0.43 or 43%
This means that 43% of companys assets are financed by debts.From a pure risk perspective lower ratio (50% or lower) is considered better debt ratio.Hence the companys position regarding solvency is favourable.
C) The current ratio is an indication of a firm’s market liquidity and ability to meet creditor’s demands. Acceptable current ratios vary from industry to industry and are generally between 1.5 and 3 for healthy businesses. If a company’s current ratio is in this range, then it generally indicates good short-term financial strength
The ideal current ratio is 2:1.In this situation the current ratio is more than 2.
Total debt to total assets is a measure of the company's assets that are financed by debt, rather than equity. This leverage ratio shows how a company has grown and acquired its assets over time. Investors use the ratio to not only evaluate whether the company has enough funds to meet its current debt obligations, but to also assess whether the company can pay a return on their investment.
Debt ratio less than 50% is considered better and in this situation its only 43%.
Taking into consideration these two ratios which we have worked out in this situation I would have invested in the company .
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