PROBLEM NO.

BROWSTER COMPANY
BALANCE SHEET
As at December 31, 19x6

ASSETS
Cash $ 860
Accounts Receivable 3,210
Inventory 2,840
Total Current Assets 6,910
Plant and Equipment (Noncurrent Asset) 7,090
TOTAL ASSETS $ 14,000

LIABILITIES
Accounts Payable $ 975
Accrued Expenses 120
Taxes Payable 468
Total Current Liabilities 1,563
Bonds Payable, due 19X9 6,300
TOTAL LIABILITIES 7,863
EQUITY
Common Stock 4,287
Retained Earnings 1,850
TOTAL EQUITY 6,137
TOTAL LIABILITIES AND EQUITY $ 14,000

Checker if balanced -

Other Company given information:

Outstanding Common Shares (in no.of shares) 95,000
Earnings per Share (Net Income/Outstanding Shares) $ 11.72
Dividends per Share $ 5
Market Price per Share $ 120

Industry Average Ratios

Current Ratio 3.8 to 1
Quick Ratio 1.9 to 1
Acccounts Receivable Turnover 4.8 times
Inventory Turnover 3.6 times
Return on Sales 7.60%
Return on Asset 17.60%
Cash Flow to Total Debt 25.00%

Requirement 1 : Compute the ratios shown above the Brewster Company

Current Ratio (Current assets / Current liabilities) 4.42
Quick Ratio ( Cash + Receivables/ Current Liabilities) 2.60
Acccounts Receivable Turnover ( Net credit sales / Av 3.68x
Inventory Turnover (Cost of goods sold / Average inve 2.59x
Return on Sales (Net income / Total Sales) 9.43%
Return on Asset (Net income / Total Assets) 16.71%
Cash Flow to Total Debt (Cash Flow from Operations/T 29.76% 18.4

Requirement 2 : Prepare comments to the president indicating areas of apparent strength and weaknesses for Brews
industry
Financtial Ratio Company Industry Difference Interpre
Current Ratio 4.42 3.80 0.62 The company has a higher the ratio resu
a better liquidity and financial health th

Quick Ratio 2.60 1.90 0.70 The company has a current ratio of mor
industry then it is considered less risky b
assets more easily to pay down short-te

Acccounts Receivable Turnover
3.68x 4.80x -1.12x The company has a low accounts receiv
that the company’s collection process is
company extending credit terms to non
experience financial difficulties. Additio
company is extending its credit policy fo
seen in earnings management where m
to generate additional sales.

Inventory Turnover 2.59x 3.60x -1.01x The company has a low turnover rate w
inventories, which may be challenging f

Return on Sales 9.43% 7.70% 1.73% The company has a higher return on sal
growing more efficiently and possible m

Return on Asset 16.71% 17.60% -0.89% The company has a lower return on ass
productive and inefficient management
may also indicate that the company is c
value of fixed assets for operations.

Cash Flow to Total Debt 29.76% 25.00% 4.76% A high cash flow to debt ratio indicates
financial position and is able to accelera

Return on Equity 18.14% 17.50% 0.64% The company has a higher ROE which co
successful in generating profit internally
Price-earnings ratio 10.24 12.13 - 1.89 The companies has a lower Price Earnin
be value stocks. It means its is underval
lower relative to its fundamentals. This
will prompt investors to buy the stock b
when it does, investors make a profit as

Dividend Yield 4.17% 3.90% 0.27% The company has a higher dividend yiel
company is paying out in more dividend
share price. It's important for investors
yields do not always indicate attractive
dividend yield of a stock may be elevate
price.
Payout Ratio 42.66% 38.00% 4.66% The company has a higher ratio which m
less money back into its business, while
earnings in the form of dividends. It ten
prefer the assurance of a steady stream
growth in share price.

Debt Ratio 56% 50% 6% A debt ratio less than 100% indicates th
debt. However, the company has a high
industry which indicates higher debt tha

Times Interest Earned 4.82x 6.00x -1.18x The company has a lower ratio which m
has less money available to dedicate to
BROWSTER COMPANY
INCOME STATEMENT
As of December 31, 19x6

Sales $ 11,800
Cost of Goods Sold 7,350
Gross Profit 4,450
Operating Expenses including depreciation 2,110
Operating Profit 2,340
Interest Expense 485
Income Before Taxes 1,855
Income Taxes at 40% 742
Net Income 1,113

Return on Equity 17.50%

Price-earnings ratio 12.3
Dividend Yield 3.90%
Payout Ratio 38.00%
Debt Ratio 50.00%
Times Interest Earned 6 times

Return on Equity (Net income / Shareholder’s equit 18.14%

Price-earnings ratio (Share price / Earnings per sha 10.24
 Dividend Yield ( Dividend per share / Share price) 4.17%
Payout Ratio (Total Dividends/Net Income) 42.66%
Debt Ratio (Total liabilities / Total assets) 56%
Times Interest Earned (Earnings before interest and 4.82x

arent strength and weaknesses for Brewster Company in relation to the

Interpretation
The company has a higher the ratio result which means that the company has
a better liquidity and financial health than the industry

The company has a current ratio of more than one and more than the
industry then it is considered less risky because it could liquidate its current
assets more easily to pay down short-term liabilities.

The company has a low accounts receivable turnover ratio which suggests
that the company’s collection process is poor. This can be due to the
company extending credit terms to non-creditworthy customers who
experience financial difficulties. Additionally, a low ratio can indicate that the
company is extending its credit policy for too long. This can sometimes be
seen in earnings management where managers offer a very long credit policy
to generate additional sales.

The company has a low turnover rate which indicates weak sales and excess
inventories, which may be challenging for the business.

The company has a higher return on sales which indicates that a company is
growing more efficiently and possible more efficient in cutting expenses.

The company has a lower return on asset which indicates the lesser
productive and inefficient management is in utilizing economic resources. It
may also indicate that the company is capital-intensive and requires a high
value of fixed assets for operations.

A high cash flow to debt ratio indicates that the company is in a strong
financial position and is able to accelerate its debt repayments if necessary.

The company has a higher ROE which could mean the company is more
successful in generating profit internally.
The companies has a lower Price Earnings Ratio which is often considered to
be value stocks. It means its is undervalued because its stock price trade
lower relative to its fundamentals. This mispricing will be a great bargain and
will prompt investors to buy the stock before the market corrects it. And
when it does, investors make a profit as a result of a higher stock price.

The company has a higher dividend yield which may indicate that the
company is paying out in more dividends each year in relation to its market
share price. It's important for investors to keep in mind that higher dividend
yields do not always indicate attractive investment opportunities because the
dividend yield of a stock may be elevated as the result of a declining stock
price.
 The company has a higher ratio which means that the company is reinvesting
less money back into its business, while paying out relatively more of its
earnings in the form of dividends. It tends to attract income investors who
prefer the assurance of a steady stream of income to a high potential for
growth in share price.

A debt ratio less than 100% indicates that a company has more assets than
debt. However, the company has a higher ratio as compared with the
industry which indicates higher debt that is funded by assets.

The company has a lower ratio which means higher chance of defaulting, as it
has less money available to dedicate to debt repayment.
 PROBLEM 2

As the chief investment officer of a large pension fund, you must make many investment decision and your assignm
prepared the following ratios for MBI Corporation, a large multinational manufacturer.

MBI Corporation
Ratios Industry Average
19x7 19x6 19x5 Average
1 Current Ratio 2.40 2.60 2.40 2.50 2.50
1 Quick Ratio 1.60 1.55 1.60 1.65 1.60
1 Receivable Turnover 8.10 7.50 7.90 8.30 7.90
1 Inventory Turnover 4.00 4.30 4.20 4.00 4.17
2 Debt Ratio 0.43 0.38 0.41 0.45 0.41
3 Return on Assets 0.18 0.19 0.19 0.20 0.19
3 Return on Equity 0.15 0.15 0.16 0.16 0.16
3 Price Earnings Ratio 14.30 13.50 13.30 13.40 13.40
2 Times Interest Earned 8.30 9.70 9.50 8.90 9.37
3 EPS Growth Rate 0.08 0.07 0.07 0.07 0.07

Requirements
1. Granting a short term loan to MBI
As the Chief Investment Officer, I will grant a short term loan to MBI since MBI is more liquid than the industry.
It has a higher ability to repay short term obligations based on the its quick ratio.

2. Buying a long term bonds of MBI on the open market. The bond yield 7% which is slightly loss than the average fo
I will buy long term bonds of MBI on the open market since it has a higher Time Interest Earned.
A high TIE means that a company likely has a lower probability of defaulting on its loans, making it a safer investme

3. Buying MBI common stock

I will not buy MBI Common stocks since its price earnings ratio is below the industry.
While a low P/E ratio might indicate a cheap stock that has the potential for significant growth, it could also indicat
about to go under.
ent decision and your assignments has
.

Remarks Interpretation

Higher than the industry Favorable a

Equal to the industry Favorable a
Lower than the industry Unfavorable x
Higher than the industry Favorable a
Lower than the industry Favorable a
Higher than the industry Favorable a
Higher than the industry Favorable a
Lower than the industry Unfavorable x
Higher than the industry Favorable a
Lower than the industry Unfavorable x

liquid than the industry.

ghtly loss than the average for bonds in the industry

ns, making it a safer investment opportunity for debt providers.

t growth, it could also indicate a company that is floundering in the market and is
REFERENCE

Financial Ratio Type of Ratio

Quick Ratio Liquidity Ratio

Current Ratio Liquidity Ratio

Accounts Receivable Turnover Efficiency Ratios

Inventory Turnover Efficiency Ratios

Return on Sales Profitability Ratio

Return on Asset Profitability Ratio

Cash Flow to Total Debt Leverage Ratio

Return on Equity Profitability Ratio

Price-earnings ratio Profitability Ratio

Dividend Yield Profitability Ratio

Payout Ratio Profitability Ratio

Debt Ratio Leverage Ratio

Times Interest Earned Leverage Ratio
 Definition
The quick ratio is an indicator of a company’s short-
term liquidity position and measures a company’s ability to meet its
short-term obligations with its most liquid assets

The current ratio measures a company's ability to pay current, or

short-term, liabilities (debt and payables) with its current, or short-
term, assets (cash, inventory, and receivables).

Measures how efficiently a company is collecting revenue – and by

extension, how efficiently it is using its assets. The accounts
receivable turnover ratio measures the number of times over a
given period that a company collects its average accounts
receivable.

Inventory turnover, or the inventory turnover ratio, is the number of

times a business sells and replaces its stock of goods during a given
period. It considers the cost of goods sold, relative to its average
inventory for a year or in any a set period of time.

Return on sales, often called the operating profit margin, is a

financial ratio that calculates how efficiently a company is at
generating profits from its revenue. In other words, it measures a
company’s performance by analyzing what percentage of total
company revenues are actually converted into company profits.

Return on Assets (ROA) is a type of return on investment (ROI)

metric that measures the profitability of a business in relation to its
total assets. This ratio indicates how well a company is performing
by comparing the profit (net income) it’s generating to the capital
it’s invested in assets.
The cash flow to debt ratio is a coverage ratio that compares the
cash flow that a business generates to its total debt. The cash flow
most commonly used to calculate the ratio is the cash flow from
operations, although using unlevered free cash flow is also a viable
option

Return on Equity (ROE) is the measure of a company’s annual return

(net income) divided by the value of its total shareholders’ equity.
ROE provides a simple metric for evaluating investment returns. By
comparing a company’s ROE to the industry’s average, something
may be pinpointed about the company’s competitive advantage.
ROE may also provide insight into how the company management is
using financing from equity to grow the business

The Price Earnings Ratio (P/E Ratio) is the relationship between a

company’s stock price and earnings per share (EPS). It is a popular
ratio that gives investors a better sense of the value of the company.
The P/E ratio shows the expectations of the market and is the price
you must pay per unit of current earnings (or future earnings, as the
case may be).
The Dividend Yield is a financial ratio that measures the annual value
of dividends received relative to the market value per share of a
security. In other words, the dividend yield formula calculates the
percentage of a company’s market price of a share that is paid to
shareholders in the form of dividends

The Dividend Payout Ratio (DPR) is the amount of dividends paid to

shareholders in relation to the total amount of net income the
company generates. In other words, the dividend payout ratio
measures the percentage of net income that is distributed to
shareholders in the form of dividends

The Debt to Asset Ratio, also known as the debt ratio, is a leverage
ratio that indicates the percentage of assets that are being financed
with debt.
The Times Interest Earned (TIE) ratio measures a company’s ability
to meet its debt obligations on a periodic basis. This ratio can be
calculated by dividing a company’s EBIT by its periodic interest
expense. The ratio shows the number of times that a company
could, theoretically, pay its periodic interest expenses should it
devote all of its EBIT to debt repayment.

The TIE’s main purpose is to help quantify a company’s probability of

default. This, in turn, helps determine relevant debt parameters
such as the appropriate interest rate to be charged or the amount of
debt that a company can safely take on.
 General Interpretation
The higher the ratio result, the better a company's
liquidity and financial health; the lower the ratio, the
more likely the company will struggle with paying
debts.

If a company has a current ratio of less than one then

it has fewer current assets than current liabilities.
Creditors would consider the company a financial risk
because it might not be able to easily pay down its
short-term obligations.

If a company has a current ratio of more than one

then it is considered less of a risk because it could
liquidate its current assets more easily to pay down
short-term liabilities.

A high receivables turnover ratio can indicate that a

company's collection of accounts receivable is
efficient and that the company has a high proportion
of quality customers that pay their debts quickly. A
high receivables turnover ratio might also indicate
that a company operates on a cash basis

A high inventory turnover generally means that goods

are sold faster and a low turnover rate indicates weak
sales and excess inventories, which may be
challenging for a business.

Inventory turnover can be compared to historical

turnover ratios, planned ratios, and industry averages
to assess competitiveness and intra-industry
performance. Inventory turns can vary significantly by
industry.

An increasing ROS indicates that a company is growing

more efficiently, while a decreasing ROS could signal
impending financial troubles.

The higher the return, the more productive and

efficient management is in utilizing economic
resources.
A high cash flow to debt ratio indicates that the
business is in a strong financial position and is able to
accelerate its debt repayments if necessary.
Conversely, a low ratio means the business may be at
a greater risk of not making its interest payments, and
is on a comparably weaker financial footing.

A sustainable and increasing ROE over time can mean

a company is good at generating shareholder value
because it knows how to reinvest its earnings wisely,
so as to increase productivity and profits. In contrast,
a declining ROE can mean that management is making
poor decisions on reinvesting capital in unproductive
assets.

Companies with a high Price Earnings Ratio are often

considered to be growth stocks. This indicates a
positive future performance, and investors have
higher expectations for future earnings growth and
are willing to pay more for them. The downside to this
is that growth stocks are often higher in volatility and
this puts a lot of pressure on companies to do more to
justify their higher valuation. For this reason, investing
in growth stocks will more likely be seen as a risky
investment. Stocks with high P/E ratios can also be
considered overvalued.
The dividend yield formula is used to determine the
cash flows attributed to an investor from owning
stocks or shares in a company. Therefore, the ratio
shows the percentage of dividends for every dollar of
stock.
A high or low yield depends on factors such as the
industry and the business life cycle of the company.
For example, it may be in the best interest of a fast-
growing company to not pay any dividends. The
money might be better used by reinvesting into the
company to grow the business.

On the other hand, a mature company may report a

high yield due to a relative lack of future high growth
potential. Therefore, the yield ratio does not
necessarily indicate a good or bad company. Rather,
the ratio is used by investors to determine which
stocks align with their investment strategy.

A high DPR means that the company is reinvesting less

money back into its business, while paying out
relatively more of its earnings in the form of
dividends. Such companies tend to attract income
investors who prefer the assurance of a steady stream
of income to a high potential for growth in share
price.
A low DPR means that the company is reinvesting
more money back into expanding its business. By
virtue of investing in business growth, the company
will likely be able to generate higher levels of capital
gains for investors in the future. Therefore, these
types of companies tend to attract growth investors
who are more interested in potential profits from a
significant rise in share price, and less interested in
dividend income.

The higher the ratio, the greater the degree of

leverage and financial risk.
A high TIE means that a company likely has a lower
probability of defaulting on its loans, making it a safer
investment opportunity for debt providers.
Conversely, a low TIE indicates that a company has a
higher chance of defaulting, as it has less money
available to dedicate to debt repayment.