The financial statements for Castile Products, Inc., are given below: Castile Products, Inc. Balance Sheet December 31 Assets

Current assets:
Cash $21,000
Accounts receivable, net 230,000
Merchandise inventory 350,000
Prepaid expenses 11,000
Total current assets 612,000
Property and equipment, net 870,000
Total assets $1,482,000

Liabilities and Stockholders' Equity Liabilities:
Current liabilities $300,000
Bonds payable, 10% 350,000
Total liabilities 650,000
Stockholders’ equity:
Common stock, $5 par value $180,000
Retained earnings 652,000
Total stockholders’ equity 832,000
Total liabilities and stockholders’ equity $1,482,000

Castile Products, Inc.
Income Statement
For the Year Ended December 31
Sales $2,800,000
Cost of goods sold 1,612,500
Gross margin 1,187,500
Selling and administrative expenses 640,000
Net operating income 547,500
Interest expense 33,000
Net income before taxes 514,500
Income taxes (30%) 154,350
Net income $360,150

Account balances at the beginning of the year were: accounts receivable, $170,000 and inventory, $360,000. All sales were on account.

Required:

Compute the following financial ratios:

1. Working capital
2. Current ratio
3. Acid-test ratio
4. Debt-to-equity ratio
5. Times interest earned ratio
6. Average collection period. (Use 365 days in a year.)
7. Average sales period. (Use 365 days in a year.)
8. Operating cycle

Answer and Explanation:

The formula and the computations are shown below:

1. Working capital is

Working capital = Currents assets - current liabilities

= $612,000 - $300,000

= $312,000

2. The current ratio is

Current ratio = Current assets ÷ Current liabilities

= $612,000 ÷ $300,000

= 2.04 times

3. Acid test ratio is

Acid test ratio = Quick assets ÷ Current liabilities

where,

Quick assets = Cash + account receivable

                      = $21,000 + $230,000

                      = $251,000

And, the current liabilities is $300,000

So, the acid test ratio is

= $251,000 ÷ $300,000

= 0.84 times

4. Debt to equity ratio

= Total liabilities ÷ Total stockholder equity

= $650,000 ÷ $832,000

= 0.78 times

5. Time interest earned ratio is

= Earning before interest and taxes ÷ interest expenses

= ($514,500 + $33,000) ÷ ($33,000)

= 16.59 times

6. Average collection period is

= Total number of days in a year ÷ account receivable turnover ratio

where,

Account receivable turnover ratio is

Net credit sales ÷ Average accounts receivable  

where,  

Net credit sales is $2,800,000

And, the Average accounts receivable would be

= (Accounts receivable, beginning of year + Accounts receivable, end of year) ÷ 2

= ($170,000 + $230,000) ÷ 2

= $200,000

So, the accounts receivable turnover ratio would be

= $2,800,000 ÷ $200,000

= 14 times

So, average collection period is

= 365 days ÷ 14

= 26.07 days

7. Average sales period =

= Total number of days in a year ÷ inventory turnover ratio

where,

Inventory turnover ratio is

= cost of good sold  ÷ Average inventory

where,  

Cost of goods sold is $1,612,500

And, the Average inventory would be

= (Inventory, beginning of year + Inventory, end of year) ÷ 2

= ($360,000 + $350,000) ÷ 2

= $355,000

So, the invnetory turnover ratio would be

= $1,612,500 ÷ $355,000

= 4.54 times

So, average sales  period is

= 365 days ÷ 4.54

= 80.40 days

8. Operating cycle is

The operating cycle = Days inventory outstanding + days sale outstanding

= 80.40 days + 26.07 days

= 106.47 days

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