Arrowbell Company is a growing company. Two years ago, it decided to expand in o
ID: 2612846 • Letter: A
Question
Arrowbell Company is a growing company. Two years ago, it decided to expand in order to increase its production capacity. The company anticipates that the expansion program can be completed in another two years. Financial information for Arrowbell is as follows. ARROWBELL COMPANY Sales and Net Income Comment on the short-term debt position, including computations of current ratio, acid-test ratio, cash ratio, and operating cash flow/current maturities of long-term debt and current notes payable. If you were a supplier to this company, what would you be concerned about? Comment on the long-term debt position, including computations of the debt ratio, debt/equity, debt to tangible net worth, and operating cash flow/total debt. Review the statement of operating cash flows. If you were a banker, what would you be concerned about if this company approached you for a long-term loan to continue its expansion program? What should management consider doing at this point with regard to the company's expansion program?Explanation / Answer
Answer:
A.
2011 Current Ratio : Current Assets / Current Liabilities = 1,755,303 / 2,075,291 = .85:1
2012 Current Ratio : Current Assets / Current Liabilities = 1,599,193 / 1,401,235 = 1.14:1
B.
Acid Test Ratio := Cash + Marketable Securities + Net Receivable / Current Liabilities
2011 = 250,480 + 760,950 / 2,075,291 = 49 :1
2012 = 260,155 + 690,550 / 1,401235 = 68:1
C.
Cash Ratio = Cash & Cash Equivalent + Marketable Securities / Current Liabilities
2011 = 250,480 + 0 / 2,075,291 = .12:1
2012 = 260,155 + 0 / 1,401,235 = .19:1
D.Notes Payable = Operating Cash Flow / Current Maturities of long term debt & Current Notes Payable
2011 = 429,491 / 915,180 = 47%
2012 = 177,658 / 550,155 = 32%
Comment AnswerA :
A. The usual guidlines for the current ratio is 2:1
B. Arrowbell company had a 1.14tp 1 ratio in 2011 and a .85 to 1 ratio in 2012.
C.The usual guidlines for the acid test ratio is one to one. Arrowbell company had a .68 to 1 ratio in 2011 and a .49 to 1 ratio in 2012.
D. The cash ratio dropped from.19 in 2011 to .12 in 2012. The working capital in2011 was $ 197,958 and 2012 it had declined to a negative $ 319,988
E. the short term debt position appears to be very poor.
Answer b. Supplier Concern
1. Suppliers will be concerened that Arrowbell company will not be able to pay its creditors and if payment is made, it will be later than the credit terms.
2.The short term creditors are financing the expansion programme.
Answer C.
1. Debt Ratio = Total Debt / Total Assets
2011 = 2,625,291 / 4,316,598 = 61:1
2012 = 2,176,894 / 3,776,711 = .58
2. Debt/ Equity = Total Debt / Shareholder Equity
2011 = 262,529 / 1, 691,307 = 1.55
2012 = 217,689 / 1,599,817 = 1.36
3. Debt to Tangible net worth = Total Liabilities / Sahreholder equity - Intangible Assets
2011 = 2,625,291 / 1,691,307 - 0 = 155.22%
2012 = 2,176,894 / 1,599,817 - 0 = 136.07%
4. Operating Cash Flow / Total Debt
2011 = 429,491 / 2,625,291 = 16.36%
2012 = 177.658 / 2,176,894 = 8.16%
C. Comments
1. The debt ratio has increased in 2012 to .61 from .58 in 2011.
2. The debt / equity ratio has increased in 2012 to 1.55 from 1.36 in 2011.
3. There was an improvment in the operating cash flow / Total debt , but this ratio remains very low.
4. This Indicates that a substantia amount of funds are coming from creditors.
5. Not enough information is avialable to calculate the times interst earned but we acn estimates this is to be between 2 and 3 , based on the earning and the debt
6. The review of the statement of cash flows indiacates that long term creditors are going to be concerened by the use of debt to expand , plant and equipment.
7. They also are going to be concerned by the payment of a dividend while the working capital is in poor condition.
D. Bank Concern:
1.The Banker would be specially concerened about the short term debt situation.
2.This could lead to bankruptcy, even though the firm is profitable.
3. A banker would be particularly concerend why management had used short term credit to finance long term expansion.
E.Management Consideration :
1. Management should consider the following below
Discontinue the expansion programme at this time and get the short term debt situation in order.Tighten Control of accounts receivable and inventory, along with using funds from operations to reduce short term debt.
Issue additional stock to improve the short term liquidity problem and long term debt situtation. Because of poor profit record and the way that management has financed past expansion additional stock will probably not be well accepted in the market place at this time
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