WORKINGCAPITALMANAGEMENT

ASSIGNMENT1
SYEDKASHIFSAEED

DUEDATE:JUNE19,2012

1.

2.

3.

4.

AbbottCorp.hasadebtratioof37.5%,adayssalesoutstandingratioof49,areturnonequity
of22.6%,acashturnoverof14%,dayssalesininventoryof83,atimesinterestearnedof1.5,
andadayspayablesoutstandingratioof36.WhatisAbbottscashconversioncycle?
Atlas Tire Irons, Inc. is considering borrowing $5,000 for a 90day period. The firm will repay
the$5,000principalamountplus$150ininterest.Whatistheeffectiveannualrateofinterest
(usea360dayyear)?
ThebalancesheetforPetersonManufacturingCompanyispresentedbelow.

PetersonMfg.Co.

BalanceSheet

December31,1995
Cash$12,000Currentliabilities$72,000
Accountsreceivable60,000Longtermliabilities48,000
Inventories48,000Commonequity120,000
Totalcurrentassets$120,000
Netfixedassets120,000
Total$240,000Total$240,000

During1995,thefirmearned$28,000aftertaxesbasedonnetsalesof$480,000.
a. CalculatePetersonscurrentratio,networkingcapital,andreturnontotalassets.
b. Peterson is considering a plan to enhance the firms liquidity. The plan involves raising
$24,000 in common equity and investing in marketable securities which will earn 8% before
taxesand4.8%aftertaxes.CalculatePetersonscurrentratio,networkingcapital,andreturn
ontotalassetsaftertheplanhasbeenimplemented.
c. Willtheplanproposedinquestion(b)enhancethefirmsliquidity?Explainyouranswer.
d. Whateffectdoestheplanproposedinquestion(b)haveonthefirmsprofitability?Explain
youranswer.
TheDecember31,1995balancesheetforSpitco,Inc.ispresentedbelow.

Spitco,Inc.BalanceSheet

December31,1995
Currentassets$40,000
Netfixedassets20,000
Total$60,000
Accountspayable11,000
Notespayable12,000
Total$23,000
Longtermdebt(10%)12,000
Commonequity25,000

Total$60,000

PartialIncomeStatementforDecember31,1995
Netoperatingincome$10,291
Less:interestincome1,200
Earningsbeforetaxes$9,091
Less:taxes(34%)3,091
Netincome$6,000

a. CalculateSpitcoscurrentratio,networkingcapital,andreturnontotalassets.
b. Spitcofeelsthatitscurrentratioistoofarbelowtheindustryaverageof2.40.Toimprove
theirliquidity,thetreasurerofSpitcohasdevisedaplantoissue$12,000inlongtermdebtat
12%andpayoffitsnotespayable.Thefundswouldbeinvestedinmarketablesecuritiesat7%
interestwhennotneededtofinancethefirmsseasonalassetneeds.Thenotespayablewould
remainoutstandingthroughtheyear.Assumethisplanhadbeenimplementedfor1993.The
netincomewas$5,500.Calculatewhatthefirmscurrentratio,networkingcapital,andreturn
ontotalassetswouldhavebeen.
c. DidSpitcoimprovetheirliquidity?Whatabouttheirprofitability?

5.

6.

Fybert Toy, Inc. is really making it big in Texas. Their sales predictions for next year are $9
million,andfixedassetswillgrowto$1,890,000.Projectedearningsbeforeinterestandtaxes
are 22% of sales with a 34% tax rate. Fyberts policies in the past have been carefully
monitored. They have maintained an interest rate of 11% on all short and longterm loans,
which totals 32% of all assets. Fybert is now struggling over how their investment in current
assetsisaffectingthereturnoncommonshareholdersequity.
a. Whatisthecompanysreturnonequitybaseduponaworkingcapitalstrategycallingfora
currentassettosalesratioof35%?
b. Assuming the same information, answer (a) based upon a currentassettosales ratio of
50%.
OnJune30,19X1,theAlexanderBoshCoffeeCo.sbalancesheetandincomestatementareas
follows:
BalanceSheet

IncomeStatement
June30,19X1

June30,19X1
Currentassets$800,000

Netoperatingincome$600,000

Less:interestexpense(108,000)
Netfixedassets700,000
Totalassets$1,500,000

Earningsbeforetaxes492,000
Accountspayable$300,000

Less:taxes(34%)(167,280)
STnotespayable(15%)500,000

Netincome$324,720
Totalcurrentliabilities$800,000
Longtermdebt(11%)$300,000
Commonequity400,000
Total$1,500,000

a. Calculate the current ratio, net working capital, return on total assets, and return on

commonequityratioforAlexanderBosh.
b. Recalculatetheratiosfrom(a)andassessthechangeinthefirmsliquidityifthefirmplans
toissue$500,000incommonstockandusetheproceedstoretirethefirmsnotespayable.

7.

Canopy Cannery, Inc. estimates that its current assets are about 30% of sales. The firms
currentbalancesheetispresentedbelow.
CanopyCannery,Inc.
BalanceSheet
December31,19X5
Currentassets$2.7mTradecreditandaccountspayable$1.35m
Fixedassets1.3mLongtermdebt1.65m
Total$4mCommonEquity1.0m
Total$4m

CanopyCannery,Inc.paysoutallofitsnetincomeincashdividendstoitsstockholders.Trade
credit and accounts payable equal 15% of the firms sales. Based on the following fiveyear
sales forecast, prepare five endofyear pro forma balance sheets that indicate additional
financingneededforeachyearasabalancingaccount.Fixedassetsareexpectedtoincreaseby
$.5millionperyear.
YearPredictedSales
19X611
19X713
19X812
19X910
19X014
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