CHAPTER 5 Profitability Analysis

# CHAPTER 5 Profitability Analysis - Income Measurement and...

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Income Measurement and Profitability Analysis PROFITABILITY ANALYSIS The following financial statements for Spencer Company will be used to demonstrate the calculation of the various ratios in profitability analysis. 2005 2004 Current Assets: Cash \$210,000 \$60,000 Receivables (net) 230,000 150,000 Inventories 190,000 170,000 Total current assets 630,000 380,000 Property, Plant and Equipment: Land 100,000 100,000 Buildings 600,000 400,000 Equipment 150,000 56,000 Accumulated depreciation (130,000) (96,000) Total property, plant and equipment 720,000 460,000 Total assets \$1,350,000 \$840,000 Current Liabilities: Accounts payable \$120,000 \$80,000 Dividends payable 0 20,000 Total current liabilities 120,000 100,000 Long-Term Debt: Bonds payable 200,000 0 Total liabilities 320,000 100,000 Stockholders' equity: Common stock, \$10 par 760,000 600,000 Retained earnings 270,000 140,000 Total stockholders' equity 1,030,000 740,000 Total liabilities and stockholders' equity \$1,350,000 \$840,000 Spencer Company Comparative Balance Sheets December 31, E:\Teaching\3321\web\module2\c5\tnotes\c5b.doc 1/31/2007 1

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Income Measurement and Profitability Analysis Sales \$1,200,000 Cost of goods sold 800,000 Gross profit 400,000 Administrative and selling expense 162,000 Operating income 238,000 Interest expense 50,500 Income before income taxes 187,500 Income taxes 37,500 Net income \$150,000 Condensed Income Statement For the Year Ended December 31, 2005 Spencer Company Activity Ratios Activity ratios measure how efficiently the company manages its assets. The higher the activity ratio the less cash required to support the asset and the revenue stream. 1. Receivables Turnover An important activity ratio that is used to analyze the liquidity of an entities accounts receivable is the “receivables turnover ratio.” This is calculated as follows: Net Sales Average Trade Receivables (net) Accounts Receivable Turnover = In our example the receivables turnover ratio would be calculated as follows:
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CHAPTER 5 Profitability Analysis - Income Measurement and...

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