Lloyd Inc. has sales of $200,000, a net income of $14,000, and the following bal

Question

Lloyd Inc. has sales of $200,000, a net income of $14,000, and the following balance sheet:

The new owner thinks that inventories are excessive and can be lowered to the point where the current ratio is equal to the industry average, 2.5x, without affecting sales or net income. If inventories are sold and not replaced (thus reducing the current ratio to 2.5x), if the funds generated are used to reduce common equity (stock can be repurchased at book value), and if no other changes occur, by how much will the ROE change? Round your answer to two decimal places. What will be the firm's new quick ratio? Round your answer to two decimal places.

Cash $27,840 Accounts payable $31,360 Receivables 55,040 Other current liabilities 9,600 Inventories 131,200 Long-term debt 61,120 Net fixed assets 105,920 Common equity 217,920 Total assets $320,000 Total liabilities and equity $320,000

Explanation / Answer

ANSWER

Since inventory is not included in the Quick Ratio, selling the inventory will have no effect on it.


Current ROE = 15,000/200,000
Expected ROE = 15,000/50,000

Current current ratio = 210,000/50,000
Expected current ratio = 60,000/50,000

Current quick ratio = 60,000/50,000
Expected quick ratio = 60,000/50,000

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