EXERCISE 

1–6: Evaluating Risk and Capital Structure
Refer to the information in Exercises 1–3 and 1–5 about Mixon Company. Compare
the long-term risk and capital structure positions of the company at the end of 2006
and 2005 by computing the following ratios: (a) total debt ratio and (b) times
interest earned. Comment on these ratio results.

Solutions

b. Times interest earned:

2006: ($34,100 + $8,525 + $11,100)/$11,100 = 4.8 times
2005: ($31,375 + $7,845 + $12,300)/$12,300 = 4.2 times
Analysis and Interpretation: Mixon added debt to its capital structure during 2006, with
the
result that the debt ratio increased from 39.9% to 43.7%. However, the book value of
pledged assets is well above secured liabilities (2.8 to 1 in 2006 and 2.5 to 1 in 2005), and
the increased profitability of the company allowed it to increase the times interest earned
from 4.2 to 4.8 times. Apparently, the company is able to handle the increased debt.
However, we should note that the debt increase is entirely in current liabilities, which
places
a greater stress on short-term liquidity.

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