Be sure to focus on working capital, current ratio, short-term and long-term debt. End with a bulleted summary addressing the CFOs concerns as related to these areas.
The balance sheet of Superior Living gives a clear idea of the…
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difference between the current assets and the current liabilities, in other words, the assets set aside by the company in order to run the day to day operations (Samuels et al, 2000). The working capitals for the three years are computed as follows:
The working capital of the firm is sufficiently higher than the current liabilities and it has remained almost steady for the three years, with a slight decrease in 2003. In case Superior Living is planning on entering new projects and investments, it will be essential to increase the current level of working capital.
The current ratio of the company is the ratio of the current assets to the current liabilities. It indicates the liquidity position of the firm and its ability to cover the current liabilities with the liquid assets. The quick ratio is computed as the ratio of the ready cash assets (current assets – inventories – prepaid expenses) to the current liabilities. The liquidity ratios for Superior Living are computed as follows:
It is evident that the current ratio is around 2 for the three years, indicating the strong liquidity position of the company. It is interesting to note that the inventories form a large portion of the current assets and they cannot be readily liquefied. The quick ratio is around 0.55 which is much lower than the ideal 1:1, indicating that the short term cash needs in case of solvency will not be met (Burks and Wilks, 2007). Hence the company needs to improve the cash assets.
The short-term (due within a year) and long-term debts (due in more than one year) of the Superior Living are listed in the table below. The debt to equity or the gearing ratio is computed as the ratio of the long-term debt to the equity (Samuels et al, 2000). The values are tabulated below:
The gearing ratio of the company is very low (2% - 3%) over the three years. Though the long-term debt has increased by $400,000 over the three years, the debt to equity ratio has not increased. The company is not
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