Question

Lloyd Inc. has sales of $750,000, a net income of $67,500, and the following balance sheet: Cash $168,000 Accounts payable $171,000 Receivables 261,000 Notes payable to bank 45,000 Inventories 855,000 Total current liabilities $216,000 Total current assets $1,284,000 Long-term debt 249,000 Net fixed assets 216,000 Common equity 1,035,000 Total assets $1,500,000 Total liabilities and equity $1,500,000 The new owner thinks that inventories are excessive and can be lowered to the point where the current ratio is equal to the industry average, 2.25x, without affecting sales or net income. If inventories are sold and not replaced (thus reducing the current ratio to 2.25x); if the funds generated are used to reduce common equity (stock can be repurchased at book value); and if no other changes occur, by how much will the ROE change? Do not round intermediate calculations. Round your answer to two decimal places. What will be the firm's new quick ratio? Do not round intermediate calculations. Round your answer to two decimal places.

Answer 1

1)	Calculate change in return on equity
	ROE= net income/ shareholders equity
	67500/1035000
		6.52%
	Current liabilities*2.25 industry standard (2.25*216000)	486000
	Current assets	1284000
	reduction in current assets by reducing inventory (1284000-486000)	798000
	New common equity after repurchase of shares
	Common equity (1035000-798000)	237000
	New ROE (67500/237000)	28%
	Change in ROE= 28%-6.52%	21.96%
2)	Quick ratio = ( cash+ receivable)/ current liabilities
	(168000+261000)/216000	1.99