a)
To evaluate: Liquidity position of Company J compared to industry averages by considering current, quick ratio and networking capital and give suggestions.
a)
Explanation of Solution
Calculation of current ratio and quick ratio and net working capital:
Hence, the industry average current ratio is 2.5 as compared to Company J (1.88) which means that, the company maintains lower liquidity.
The quick ratio also indicates the same position. The problem is not sufficient liquidity to cover unforeseen situations wherein there may be a large
b)
To evaluate: Company J’s performance by examining key asset management ratios. Whether any problems seeming to this analysis.
b)
Explanation of Solution
Calculation of asset management ratios:
The average collection period of company J is 38.93 as compared to 35 days of industry showing that it takes longer period to collect receivables.
The inventory turnover is less and it is a good sign for company J and asset turnover is slightly lower than industry so it indicates a slight underperformance of company J.
c)
To evaluate: Company J’s financial risk by examining equity multiplier, times interest earned ratio as compared to industry averages.
c)
Explanation of Solution
Calculation of times interest earned and equity multiplier:
Hence, the times interest earned by company is lower than industry so it is a negative sign shows a higher interest payments and equity multiplier also indicates a higher debt.
d)
To evaluate: Profitability of Company J as compared to industry averages.
d)
Explanation of Solution
Calculation of profit margin:
Hence, the profitability of company J is 4.4% as compared to profitability of industry with 4% which is a positive and able to generate higher profits.
Hence, the current ratio and quick ratios are 2.67x and 2.0x, both ratios rise.
e)
To discuss: Overall performance of Company J.
e)
Explanation of Solution
An excessive inventory is being carried by company J and this results in a lesser asset turnover with a weak liquidity position. In all these areas a prospective development is required and the company has outperformed the average firm in the industry in doing this.
f)
To perform: DuPont analysis of Company J.
f)
Explanation of Solution
Calculation of
Hence, ROE is 17.8% and the main area for improvement is total asset turnover.
g)
To discuss: Factors most likely to account price earnings ratio of Company J compared to industry averages.
g)
Explanation of Solution
The main factor is the advanced amount of financial risk possessed by firm and also may be supposed as having a lower growth potential than the average firm, although there is no direct proof provided in the information to suggest this.
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Chapter 3 Solutions
EBK CONTEMPORARY FINANCIAL MANAGEMENT
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