P13-4A The following financial information is for Inca Company.
INCA COMPANY
Balance Sheets
December 31
Assets 2007 2006
Cash $ 70,000 $ 65,000
Short-term investments 55,000 40,000
Receivables 104,000 90,000
Inventories 230,000 125,000
Prepaid expenses 25,000 23,000
Land 130,000 130,000
Building and equipment (net) 260,000 175,000
Total assets $874,000 $648,000
Liabilities and Stockholders’ Equity
Notes payable $170,000 $100,000
Accounts payable 65,000 42,000
Accrued liabilities 40,000 40,000
Bonds payable, due 2009 250,000 150,000
Common stock, $10 par 200,000 200,000
Retained earnings 149,000 116,000
Total liabilities and stockholders’ equity $874,000 $648,000
INCA COMPANY
Income Statements
For the Years Ended December 31
2007 2006
Sales $880,000 $790,000
Cost of goods sold 640,000 575,000
Gross profit 240,000 215,000
Operating expenses 192,000 170,000
Net income $ 48,000 $ 45,000
Additional information:
1. Inventory at the beginning of 2006 was $115,000.
2. Receivables (net) at the beginning of 2006 were $88,000.
3. Total assets at the beginning of 2006 were $630,000.
4. No common stock transactions occurred during 2006 or 2007.
5. All sales were on account.
Instructions
(a) Indicate, by using ratios, the change in liquidity and profitability of Inca Company from 2006 to 2007. (Note: Not all profitability ratios can be computed nor can cashbasis ratios be computed.)
(b) Given below are three independent situations and a ratio that may be affected. For each situation, compute the affected ratio (1) as of December 31, 2007, and (2) as of December 31, 2008, after giving effect to the situation. Net income for 2008 was $40,000. Total assets on December 31, 2008, were $900,000.
Situation Ratio
1. 18,000 shares of common stock were Return on common stockholders’
sold at par on July 1, 2008. equity
2. All of the notes payable were paid in 2008. Debt to total assets
3. The market price of common stock was Price-earnings
$9 and $12 on December 31, 2007 and 2008, respectively.
To analyze the change in liquidity and profitability of Inca Company from 2006 to 2007, we can calculate and compare several financial ratios. Here's how you can calculate these ratios:
1. Current Ratio: This measures the ability of the company to pay its short-term liabilities with its short-term assets. It is calculated by dividing current assets by current liabilities.
- Current Ratio 2007 = Current Assets 2007 / Current Liabilities 2007
- Current Ratio 2006 = Current Assets 2006 / Current Liabilities 2006
2. Quick Ratio: This measures the company's ability to pay its short-term liabilities with its most liquid assets. It is calculated by subtracting inventories from current assets and then dividing the result by current liabilities.
- Quick Ratio 2007 = (Current Assets 2007 - Inventories 2007) / Current Liabilities 2007
- Quick Ratio 2006 = (Current Assets 2006 - Inventories 2006) / Current Liabilities 2006
3. Gross Profit Margin: This shows the percentage of profit generated from each dollar of sales after deducting the cost of goods sold. It is calculated by dividing gross profit by sales.
- Gross Profit Margin 2007 = Gross Profit 2007 / Sales 2007
- Gross Profit Margin 2006 = Gross Profit 2006 / Sales 2006
4. Net Profit Margin: This indicates the percentage of profit generated from each dollar of sales after deducting all expenses, including taxes. It is calculated by dividing net income by sales.
- Net Profit Margin 2007 = Net Income 2007 / Sales 2007
- Net Profit Margin 2006 = Net Income 2006 / Sales 2006
Now, to calculate the affected ratios for the given situations:
Situation 1: 18,000 shares of common stock were sold at par on July 1, 2008.
To calculate the Return on Common Stockholders' Equity:
- Return on Common Stockholders' Equity 2007 = Net Income 2007 / Common Stock 2007
- Return on Common Stockholders' Equity 2008 = Net Income 2008 / (Common Stock 2007 + Common Stock Sold in 2008)
Situation 2: All of the notes payable were paid in 2008.
To calculate the Debt to Total Assets ratio:
- Debt to Total Assets 2007 = Total Liabilities 2007 / Total Assets 2007
- Debt to Total Assets 2008 = Total Liabilities 2008 / Total Assets 2008
Situation 3: The market price of common stock was $9 and $12 on December 31, 2007, and 2008, respectively.
To calculate the Price-Earnings ratio:
- Price-Earnings 2007 = Market Price per Share 2007 / Earnings per Share 2007
- Price-Earnings 2008 = Market Price per Share 2008 / Earnings per Share 2008
Please note that specific values like market price per share and earnings per share are not provided in the given information. You would need these values to calculate the affected ratios.