Question

Sheffield Company manufactures backpacks. During 2022, Sheffield issued bonds at 12% interest and used the cash proceeds to purchase treasury stock. The following financial information is available for Sheffield Company for the years 2022 and 2021.
2022 2021
Sales revenue $19,350,000 $19,350,000
Net income 4,816,000 5,375,000
Interest expense 625,000 175,000
Tax expense 1,440,500 1,612,500
Dividends paid on common stock 1,112,500 1,282,500
Dividends paid on preferred stock 375,000 375,000
Total assets (year-end) 31,175,000 36,281,250
Average total assets 19,609,375 22,203,750
Total liabilities (year-end) 7,500,000 3,750,000
Avg. total common stockholders' equity 11,750,000 17,625,000

Required:
Use the information above to calculate the following ratios for both years: (Round answers to 1 decimal place, eg, 12.5% or 12.5.) 2017 2016
1) Return on assets
2) Return on common stockholders' equity
3) Payout ratio
4) Debt to assets ratio
5) Times interest earned

Answer 1

Answer:

1) Return on assets  

In 2022: 15.4%

In 2021: 14.8%

2) Return on common stockholders' equity  

In 2022: 41.0%

In 2021: 30.5%

3) Payout ratio  

In 2022:  30.9%

In 2021: 30.8%

4) Debt to assets ratio    

In 2022: 24.1%

In 2021: 10.3%

5) Times interest earned  

In 2022: 11.0 times

In 2021: 40.9  times

Explanation:

These are calculated as follows:

1) Return on assets

Return on assets = Net income ÷ Total assets  

2022 Return on asset = 4,816,000 ÷ 31,175,000 = 15.5%  

2021 Return on asset = 5,375,000 ÷ 36,281,250 = 14.8%

2) Return on common stockholders' equity

Return on common stockholders' equity = Net income ÷ Avg. total common stockholders' equity  

2022 Return on common stockholders' equity = 4,816,000 ÷ 11,750,000 = 41.0%  

2021 Return on common stockholders' equity = 5,375,000 ÷ 17,625,000 = 30.5%

3) Payout ratio

Payout ratio = Total dividends ÷ Net income

2022 Payout ratio = (1,112,500) + 375,000 ÷ 4,816,000 = 30.9%

2021 Payout ratio = (1,282,500 + 375,000) ÷ 5,375,000 = 30.8%

4) Debt to assets ratio  

Debt to assets ratio = Total liabilities ÷ Total Assets

2022 Debt to assets ratio = 7,500,000 ÷ 31,175,000 = 24.1%

2021 Debt to assets ratio = 3,750,000÷ 36,281,250 = 10.3%

5) Times interest earned

Times interest earned = Earnings before interest and tax ÷ Total interest expenses

2022 Times interest earned = (4,816,000 + 625,000 + 1,440,500) ÷ 625,000 = 11.0 times

2021 Times interest earned = (5,375,000 + 175,000 + 1,612,500) ÷ 175,000 = 40.9 times

Answer 2

1) Return on assets: 15.5% for 2022 and 14.8% for 2021

2) Return on common stockholders' equity: 41.0% for 2022 and 30.5% for 2021

3) Payout ratio: 30.9% for 2022 and 30.8% for 2021

4) Debt to assets ratio: 24.1% for 2022 and 30.5% for 2021

5) Times interest earned: 11.0 times for 2022 and 40.9 times for 2021

Computation:

1) Return on assets:

$\begin{aligned}\text{Return on Assets}&=\dfrac{\text{Net Income}}{\text{Total Assets}}\\2021&=\dfrac{\ 5,375,000}{\ 36,281,250}\\&=14.8\%\\\\2022&=\dfrac{\ 4,816,000}{\ 31,175,000}\\&=15.5\%\end{aligned}$

2) Return on common stockholders' equity:

$\begin{aligned}\text{Return on common stockholders' equity} = \dfrac{\text{Net income}}{\text{Avg. total common stockholders' equity}} \end{aligned}$  $2021&=\dfrac{\ 5,375,000}{17,625,000}\\&=30.5\%\\2022=\dfrac{\ 4,816,000}{11,750,000}\\=41.0\%$

3) Payout ratio:

$\begin{aligned}\text{Payout Ratio}&=\dfrac{\text{Total Dividends}}{\text{Net Income}}\\2022&=\dfrac{\ 1,112,500+\ 375,000}{\ 4,816,000}\\&=30.9\%\\\\2021&=\dfrac{\ 1,282,500+\ 375,000}{\ 5,375,000}\\&=30.8\%\end{aligned}$

4) Debt to assets ratio:

$\begin{aligned}\text{Debt to asset ratio}&=\dfrac{\text{Total liabilities}}{\text{Total Assets}}\\2021&=\dfrac{\ 3,750,000}{\ 36,281,250}\\&=10.3\%\\\\2022&=\dfrac{\ 7,500,000}{\ 31,175,000}\\&=24.1\%\end{aligned}$

5) Times interest earned:

$\text{Times interest earned} =\dfrac{ \text{Earnings before interest and tax}}{\text{Total interest expenses}}\\2021=\dfrac{\ 5,375,000+\ 175,000+\ 1,612,500}{\ 175,000}\\=40.9\;\text{times}\\\\2022=\dfrac{\ 4,816,000+\ 625,000+\ 1,440,500}{\ 625,000}\\=11.0\;\text{times}$

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