Question

In the Altman Z calculation   one of the ratios was retained earnings/total assets. What is the impact on the numerical value of the ratio if

a)       Accounts receivable are collected?   Briefly explain.

b)       The firm breaks even but maintains its dividend? Briefly explain.

Answer 1

A)

As the accounts receivable has been received therefore it will reduce the balance of account receivable and will increase the Balance of cash in hand. Therefore total assets will remain the same.

Therefore there will be no change in the ratio.

B)

As the company is in breakeven point it means that there is no extra income from which the dividend can be paid. And the company has still paid the dividend which means that the dividend will be paid from retained earnings and hence Balance of retained earnings will decrease .

As the balance of retained earnings will decrease the ratio will also decrease.

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