Do No Harm: 23 11. The effect of transactions on ratios You've been asked to tutor Adaira, finance student who doesn't fed comfortable about her understanding ofthe relationship between company's business activities, its financial accounts, and the company's financial ratios. To better appreciate these relationships, you've created the following exercises for Adaira to complete. The purpose of these exercises is to help Adaira (1) understand the effect of business transactions on financial statement-such as balance sheet and income statement-accounts and (2) how these changes in the numerators and denominators of financial ratios affect the ratios values. However, before using these exercises in your tutoring session leter today, you'll went to run the calculations on the following bwo business transactions, to verify the accuracy of your answers To provide a consistent frame of reference for the company's financial statements and ratios, assume that the following balance sheet and income statement reflect the company's pretransaction condition and performance. Lancashire Railway Co.'s Pretransaction Statement of Financial Performance Statement of Financial Condition Cash Marketable securities Accounts receivable 15,000 Accounts payable $5,000,000 2,000,000 3,000,000 600,000 2,400,000 33,000 2,367,000 828,450 $1,538,550 20,000 10,000 Wages payable 470,000 Taxes payable 500,000 Notes payable Less: Cost of goods sold Gross proft Less: Operating expenses Operating profit (EBIT Less: Interest expense 0,000 Prepaid expenses 5,000 1,000,000 Long-term debt Total current liabilities 100,000 500,000 Total current assets Total liabilities 600,000Earnings before taxes (EBT 150,000 50,000 00,000 1,400,000 | $2,000,000 | Less: Tax expense Net income Gross plant and equipment1,500,000 Common stock 500,000 Capital paid in excess of per ,000,000 Retained earnings Net plant and equipment Total equity Cost of goods sold equals 40% of sales. 2|nterest expense equals 6% of the combined notes payable and long-term debt balances The average federal and state tax rate is 35%. Total assets 2,000,000 Total debt and equity Indicate if any of the listed financial statement accounts is affected by the following business transactions and whether the listed ratios will increase, decrease, or remain unchanged as a result of the transaction. (Hint: Assume that the business transaction occurs exactly as stated without interpreting it further. Do not consider any related transactions that may occur before or after the specified transaction.) Lancashire Railway Co. (Lancashire) purchases a new piece of equipment for $50,000, using a cash down payment of $5,000 and a note payable for the outstanding balance Check if the Account Is Affected by the Financial Ratio Ratio's Behavior Financial Account Gross plant and equipment Cost of goods sold Accounts payable Retained eamings Average collection period Debt ratio Fixed assets turnover Times interest earned Notes payable Business Transaction 2 Lancashire Railway Co. (Lancashire) switches from holding an available inventory to a just-in-time inventory system, thereby reducing its inventory by 80.00%. Check if the Account Is Affected by the Financial Ratio Ratio's Behavior Financial Account Return on assets Fixed assets turnover Total assets Prepaid expenses Accounts payable Common stock Debt ratic Average collection ash Phyer WIN 30,0,0154 33.341 2004. 2016 Arda Alinge, meved 013 Cenge Leaning escet as oed Al ights ered Continue swithout saving
