You have just been hired as a loan officer at Slippery Rock State Bank. Your supervisor has given you a file containing a request from Lydex Company, a manufacturer of safety helmets. For a $3,000,000, five-year loan. Financial statement data on the company for the last two years Follow:

Helen McGuire, who just a year ago was appointed president of Lydex Company, argues that although the company has had a “spotty” record in the past, it has “turned the corner;’ as evidenced by a 25% jump in sales and by a greatly improved earnings picture between last year and this year. McGuire also points out that investors generally have recognized the improving situation at Lydex, as shown by the increase in market value of the company’s common stock, which is currently selling for $72 per share (up from $40 per share last year). McGuire feels that with her leadership and with the modernized equipment that the $3,000,000 loan will permit the company to buy, profits will be even stronger in the future. McGuire has a reputation in the industry for being a good manager who runs a “tight” ship. Not wanting to botch your first assignment, you decide to generate all the information that you can about the company. You determine that the following ratios are typical of companies in Lydex Company’s industry:

Required:

1. You decide first to assess the rate of return that the company is generating. Compute the following for both this year and last year:

a. The return on total assets. (Total assets at the beginning of last year were $12,960,000.)

b. The return on common stockholders’ equity. (Stockholders’ equity at the beginning of last year totaled $9,048,000. There has been no change in preferred or common stock over the last two years.)

c. Is the company’s financial leverage positive or negative? Explain.

2. You decide next to assess the well-being of the common stockholders. For both this year and last year, compute:

a. The earnings per share.

b. The dividend yield ratio for common stock.

c. The dividend payout ratio for common stock.

d. The price-earnings ratio. How do investors regard Lydex Company as compared to other companies in the industry? Explain.

e. The book value per share of common stock. Does the difference between market value per share and book value per share suggest that the stock at its current price is a bargain? Explain.

f. The gross margin percentage.

3. You decide, finally, to assess creditor ratios to determine both short-term and long-term debt paying ability. For both this year and last year, compute:

a. Working capital.

b. The current ratio.

c. The acid-test ratio.

d. The average collection period. (The accounts receivable at the beginning of last year totaled $1,560,000.)

e. The average sale period. (The inventory at the beginning of last year totaled $1,920,000.)

f. The debt-to-equity ratio.

g. The times interest earned ratio.

4. Make a recommendation to your supervisor as to whether the loan should be approved.

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Lydex Company Comparative Balance Sheet Assets This year Last year Current assets: $ 960,000 $1,260,000 Cash Marketable securities 300,000 Accounts receivable, net 2,700,000 1800,000 3,900,000 Inventory Prepaid expenses Total current assets 2,400,000 240,000 180,000 5,940,000 7,800,000 Plant and equipment, net 9.300,000 8,940,000 Total assets $14,880,000 $17.100,000 Liabilities and Stockholders' Equity Liabilities: Current liabilities $3,900,000 $2,760,000 3,600,000 7,500,000 3,000,000 5,760,000 Note payable, 12% Total liabilities Stockholders' equity: Preferred stock, 8%, S30 par value Common stock, $80 par value Retained eamings Total stockholders' equity Total liabilities and equity 1,800,000 1,800,000 6,000,000 6,000,000 1,800,000 1,320,000 9,600,000 S17,100,000 9,120,000 S14,880,000