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Paul Sabin organized Sabin Electronics 10 years ago to produce and sell several electronic devices on which he had secured patents. Although the company has been fairly profitable, it is now experiencing a severe cash shortage. For this reason, it is requesting a $500,000 long-term loan from Gulfport State Bank, $100,000 of which will be used to bolster the Cash account and $400,000 of which will be used to modernize equipment. The company’s financial statements for the two most recent years follow:
| Sabin Electronics | ||||
| Comparative Balance Sheet | ||||
| This Year | Last Year | |||
| Assets | ||||
| Current assets: | ||||
| Cash | $ | 70,000 | $ | 150,000 |
| Marketable securities | 0 | 18,000 | ||
| Accounts receivable, net | 480,000 | 300,000 | ||
| Inventory | 950,000 | 600,000 | ||
| Prepaid expenses | 20,000 | 22,000 | ||
| Total current assets | 1,520,000 | 1,090,000 | ||
| Plant and equipment, net | 1,480,000 | 1,370,000 | ||
| Total assets | $ | 3,000,000 | $ | 2,460,000 |
| Liabilities and Stockholders Equity | ||||
| Liabilities: | ||||
| Current liabilities | $ | 800,000 | $ | 430,000 |
| Bonds payable, 12% | 600,000 | 600,000 | ||
| Total liabilities | 1,400,000 | 1,030,000 | ||
| Stockholders’ equity: | ||||
| Common stock, $15 par | 750,000 | 750,000 | ||
| Retained earnings | 850,000 | 680,000 | ||
| Total stockholders’ equity | 1,600,000 | 1,430,000 | ||
| Total liabilities and equity | $ | 3,000,000 | $ | 2,460,000 |
| Sabin Electronics | ||||
| Comparative Income Statement and Reconciliation | ||||
| This Year | Last Year | |||
| Sales | $ | 5,000,000 | $ | 4,350,000 |
| Cost of goods sold | 3,875,000 | 3,450,000 | ||
| Gross margin | 1,125,000 | 900,000 | ||
| Selling and administrative expenses | 653,000 | 548,000 | ||
| Net operating income | 472,000 | 352,000 | ||
| Interest expense | 72,000 | 72,000 | ||
| Net income before taxes | 400,000 | 280,000 | ||
| Income taxes (30%) | 120,000 | 84,000 | ||
| Net income | 280,000 | 196,000 | ||
| Common dividends | 110,000 | 95,000 | ||
| Net income retained | 170,000 | 101,000 | ||
| Beginning retained earnings | 680,000 | 579,000 | ||
| Ending retained earnings | $ | 850,000 | $ | 680,000 |
During the past year, the company introduced several new product lines and raised the selling prices on a number of old product lines in order to improve its profit margin. The company also hired a new sales manager, who has expanded sales into several new territories. Sales terms are 2/10, n/30. All sales are on account.
Assume Paul Sabin has asked you to assess his company’s profitability and stock market performance.
Required:
1. You decide first to assess the company’s stock market performance. For both this year and last year, compute:
a. The earnings per share. There has been no change in common stock over the last two years.
b. The dividend yield ratio. The company’s stock is currently selling for $40 per share; last year it sold for $36 per share.
c. The dividend payout ratio.
d. The price-earnings ratio. (Assume that the industry norm for the price-earnings ratio is 12.)
e. The book value per share of common stock.
2. You decide next to assess the company’s profitability. Compute the following for both this year and last year:
a. The gross margin percentage.
b. The net profit margin percentage.
c. The return on total assets. (Total assets at the beginning of last year were $2,420,000.)
d. The return on equity. (Stockholders’ equity at the beginning of last year was $1,420,000.)
e. Is the company’s financial leverage positive or negative?
Expert Answer
