Question

1. The Nelson Company has $1,287,000 in current assets and $495,000 in current liabilities. Its initial inventory level is $340,000, and it will raise funds as additional notes payable and use them to increase inventory. How much can Nelson's short-term debt (notes payable) increase without pushing its current ratio below 1.8? Do not round intermediate calculations. Round your answer to the nearest dollar.

$  

What will be the firm's quick ratio after Nelson has raised the maximum amount of short-term funds? Do not round intermediate calculations. Round your answer to two decimal places.

$

2. The Morrit Corporation has $1,080,000 of debt outstanding, and it pays an interest rate of 8% annually. Morrit's annual sales are $6 million, its average tax rate is 25%, and its net profit margin on sales is 5%. If the company does not maintain a TIE ratio of at least 6 to 1, then its bank will refuse to renew the loan, and bankruptcy will result. What is Morrit's TIE ratio? Do not round intermediate calculations. Round your answer to two decimal places.

Answer 1

Let amount raised be x

Current ratio = Current Assets/Current Liabilities

1.8 = (1,287000+x)/(495000+x)

891000 + 1.8x = 1,287,000 + x

X = 495,000

Hence, can increase by $495,000

Quick ratio = (Current Assets – Inventory)/Current Liabilities

= (1,287,000-340,000)/(495,000+495,000)

= 0.9566

TIE = EBIT/Interest Expense

Net Income = 6,000,000*5% = $300,000

Income before tax = 300,000/(1-25%) = $400,000

Interest = 1,080,000*8% = $86,400

EBIT = $486,400

TIE = 486,400/86,400 = 5.63 times