The balance sheet for December 31, 2002, income statement for the year ended December 31, 2002, and the statement of cash flows for the year ended December 31, 2002, of the Bernett Company are on the next two pages.

The president of the Bernett Company cannot understand why Bernett is having trouble paying current obligations. He notes that business has been very good, as sales have more than doubled, and the company achieved a profit of $69,000 in 2002.

Required

a. Comment on the statement of cash flows.

b. Compute the following liquidity ratios for 2002:

1. Current ratio 2. Acid-test ratio 3. Operating cash flow/current maturities of long-term debt and current notes payable 4. Cash ratio

c. Compute the following debt ratios for 2002:

1. Times interest earned 3. Operating cash flow/total debt 2. Debt ratio

d. Compute the following profitability ratios for 2002:

1. Return on assets (using average assets)

2. Return on common equity (using average common equity)

e. Compute the following investor ratio for 2002: Operating cash flow/cash dividends.

f. Give your opinion as to the liquidity of Bernett.

g. Give your opinion as to the debt position of Bernett.

h. Give your opinion as to the profitability of Bernett.

i. Give your opinion as to the investor ratio.

j. Give your opinion of the alternatives Bernett has in order to ensure that it can pay bills as they come due.

BERNETT COMPANY Balance Sheet December 31, 2002 and 2001 2002 2001 Assets Cash $ 5,000 $ 28,000 Accounts receivable, net 92,000 70,000 Inventory 130,000 85,000 Prepaid expenses 4,000 6,000 Land 30,000 10,000 Building 170,000 30,000 Accumulated depreciation (20,000) (10,000)

Total assets $411,000 $219,000 Liabilities and Stockholders’ Equity Accounts payable $ 49,000 $ 44,000 Income taxes payable 5,000 4,000 Accrued liabilities 6,000 5,000 Bonds payable (current $10,000 at 12/31/02) 175,000 20,000 Common stock 106,000 96,000 Retained earnings 70,000 50,000 Total liabilities and stockholders’ equity $411,000 $219,000 BERNETT COMPANY Income Statement For Year Ended December 31, 2002 Sales $500,000 Less expenses:

Cost of goods sold

(includes depreciation of $4,000) 310,000 Selling and administrative expenses

(includes depreciation of $6,000) 80,000 Interest expense 11,000 Total expenses 401,000 Income before taxes 99,000 Income tax expense 30,000 Net income $ 69,000 BERNETT COMPANY Statement of Cash Flows For the Year Ended December 31, 2002 Net cash flow from operating activities:

Net income $ 69,000 Noncash expenses, revenues, losses and gains included in income:

Depreciation 10,000 Increase in receivables (22,000)

Increase in inventory (45,000)

Decrease in prepaid expenses 2,000 Increase in accounts payable 5,000 Increase in income taxes payable 1,000 Increase in accrued liabilities 1,000 Net cash flow from operating activities $ 21,000 Cash flows from investing activities:

Increase in land $ (20,000)

Increase in buildings (140,000)

Net cash used by investing activities (160,000)

Cash flows from financing activities:

Bond payable increase $ 155,000 Common stock increase 10,000 Cash dividends paid (49,000)

Net cash provided by financing activities: 116,000 Net decrease in cash ($23,000)