P10-6A Suppose you have been presented with selected information taken from the
ID: 2590258 • Letter: P
Question
P10-6A Suppose you have been presented with selected information taken from the finan- cial statements of Southwest Airlines Co., shown on the next page. Instructions (a) Calculate each of the following ratios for 2017 and 2016. Calculate and comment on ratios. LO 4), AN (1) Current ratio. (2) Free cash flow. (3) Debt to assets ratio. (4) Times interest earned. (b) Comment on the trend in ratios. (c) Read the company's note on leases. If the operating leases had instead been accounted for like a purchase, assets and liabilities would increase by approximately $1,600 mil- lion. Recalculate the debt to assets ratio for 2017 in light of this information, and discuss the implications for analysis.Explanation / Answer
(a) Calculation of Ratios for 2017 and 2016:
(b) Current Ratio has increased form 2016 to 2017 which shows that the liquidity position of the company has improved. However the free cash flow has shown a decline which means that a company is not able to generate enough cash after spending the money required to maintain or expand its asset base. Debt to assets ratio has shown an increase which is an indicator of financial leverage. It tells us that the percenatge of total assets that were financed by current liabilities and long term liabilities have increased. However the times interest earned has decreased which shows that a company's ability to honor its debt obligations have declined.
(c) New total assets for 2017 = $14,308 + $1,600 = $15,908
New debt to assets ratio = (9,355 / 15,908) * 100 = 58.80%
Thus, if the operating leases had been accounted for like a purchase, then the debt to assets ratio would have decreased essentially showing a fall in the percentage of total assets financed by current liabilities and long term liabilities.
RATIOS FORMULA 2017 2016 Current Ratio Current assets / Current Liabilities 2,893 / 2,806 =1.03:1 4,443 / 4,836 = 0.91:1 Free Cash flow Cash provided by operations - Capital expenditures (1,521) - 923 = (2,444) 2,845 - 1,331 = 1,514 Debt to assets Ratio (Total Debt / Total assets) * 100 (9,355 / 14,308) * 100 = 65.38% (9,831 / 16,772) * 100 = 58.61% Times interest earned EBIT / Total interest 408 / 130 = 4.08 times 1,177 / 119 = 9.89 timesRelated Questions
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