Cepeda Company manufactures backpacks. During 2014, Cepeda issued bonds at 10% interest and used the cash proceeds to purchase treasury stock. The following financial information is available for Cepeda Company for the years 2014 and 2013.

2014 2013 Sales revenue $ 9,000,000 $ 9,000,000 Net income 2,240,000 2,500,000 Interest expense 500,000 140,000 Tax expense 670,000 750,000 Dividends paid on common stock 890,000 1,026,000 Dividends paid on preferred stock 300,000 300,000 Total assets (year-end) 14,500,000 16,875,000 Average total assets 15,687,500 17,763,000 Total liabilities (year-end) 6,000,000 3,000,000 Avg. total common stockholders’ equity 9,400,000 14,100,000 Instructions

(a) Use the information above to calculate the following ratios for both years: (i) return on assets, (ii) return on common stockholders’ equity, (iii) payout ratio, (iv) debt to assets ratio, and (v) times interest earned.

(b) Referring to your findings in part (a), discuss the changes in the company’s profitability from 2013 to 2014.

(c) Referring to your findings in part (a), discuss the changes in the company’s solvency from 2013 to 2014.

(d) Based on your findings in (b), was the decision to issue debt to purchase common stock a wise one?

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