Question

Case Study: John & Jon (J&J) Financial Statement Preparation & Analysis

You are recently hired as a senior financial analyst for John & Jon (J&J) and you are in charge of preparing the financial statements and presenting an annual analysis on the board meeting.

Overview of John & Jon’s Balance Sheet

The assets of John & Jon (J&J) in 2017 has both current assets and net plant and equipment. It has total assets of $ 7.5 million and net plan and equipment equals $5 million. J&J only finances with $2.5 million long-term debt, $500,000 notes payable and total common equity of $3.5 million. The firm does have $400,000 accounts payable and $600,000 accruals on its balance sheet. Now assume the firm’s current assets consist entirely of cash and cash equivalence, account receivables and inventories. If it has 1.5 million cash and cash equivalents and $400,000 account receivables.

John & Jon’s Income Statement in 2017 (dollars are in millions)

Sales     $15

Operating costs excluding depreciation and amortization              $5

EBITDA $10

Depreciation & Amortization      $0.6

EBIT      $9.4

Interest $0.4

EBT       $9

Taxes (40%)      $3.6

Net Income $5.4

Cash Dividends $2.0

17. What is the ratio we generally use to estimate a firm’s ability to meet its annual interest payments? And calculate that ratio for John and Jon (1%)

18. What are the fixed assets turnover ratio and the total asset turnover ratio? (1%)

19. What is the ratio of total debt to total capital? (1%)

20. What is the ratio of return on common equity? (1%)

21. Assume between 2016 and 2017, net operating working capital has increased by $500,000, calculate John & Jon’s free cash flow. (Hint: use this formula. FCF = [EBIT (1-T) +Depreciation & Amortization] – [Capital Expenditures + Change on Net Operating Working Capital]) (5%)

22. Now after you present your analysis on the meeting, the CEO would like to see higher sales and a forecasted net income of $10.8 million. Assume that operating costs (excluding depreciation and amortization) are still one third of sales and that depreciation and amortization and interest expenses will increase by 10%. The tax rate which is 40%, will remain the same. What level of sales would generate $10.8 million in net income? (5%)

Answer 1

17) The ratio which is used is used as Interest Coverage ratio. Higher Interest coverage ratio indiocates a better ability of firm to pay its debt.

Interest coverage ratio= EBIT/ Interest

= 9.4/0.4

=23.5

The company has a healthy interest coverage ratio of 23.5 times which means the company can easily pay off its interest.

18) Fixed asset turnover ratio= Net Sales/ Fixed Asset

= 15/5

=3 times

Total asset turnover ratio= Net sales/ Total Assets

=15/7.5

=2 times