ECO 605 Assignment 6.2: Ratio Analysis
ECO 605 Assignment 6.2: Ratio Analysis
Introduction
In this assignment, you will perform ratio analysis using the balance sheet for XYZ Hospital. Use the Assignment 6.2 Document (Word) to record your responses.
The current ratio is a liquidity ratio that measures a company’s ability to pay short-term obligations using its current assets. The quick ratio is a more stringent liquidity ratio that measures a company’s ability to pay short-term obligations using only its most liquid assets. The debt ratio is a leverage ratio that measures how much debt a company has relative to its total assets. The calculation of the current ratio, quick ratio, and debt ration are as follows:
Current Ratio = Current Assets / Current Liabilities (Kliestik et al., 2020)
Quick Ratio = (Liquid Assets – Inventory) / Current Liabilities
Debt Ratio = Total Debt / Total Assets
The purpose of this paper is to calculate current ration, quick ratio, and debt ratio and make the interpretation thereafter.
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- Review the following table:
| XYZ Hospital Balance Sheet December 31, 20xx |
||
| Description | Amount | |
| Current Assets | Cash and investments (savings/checking) | $80,000 |
| Patient revenue (money owed to hospital) | $472,000 | |
| Inventory (on the shelf) | $16,400 | |
| Subtotal | $568,400 | |
| Less | ||
| Bad debt | ($57,200) | |
| Charitable allowance | ($14,100) | |
| Contractual allowance | ($269,300) | |
| Subtotal | ($340,600) | |
| Total Current Assets | $227,800 | |
| Fixed Assets | Land | $29,000 |
| Buildings (plant) | $805,000 | |
| Equipment | $610,000 | |
| Construction in progress | $37,000 | |
| Total Fixed Assets | $1,481,000 | |
| Less accumulated depreciation | ($880,800) | |
| Net Fixed Assets | $600,200 | |
| Total Assets | $828,000 | |
| Current Liabilities | Accounts payable salaries, supplies, pharmaceutical | $36,560 |
| Accrued compensation and benefits | $10,900 | |
| Accrued liabilities (interest, physician contracts) | $10,870 | |
| Total Current Liabilities | $58,330 | |
| Debt | Long-term debt | $38,000 |
| Short-term debt | $2,100 | |
| Total Debt | $40,100 | |
| Total Liabilities (Total Current Liabilities + Debt) | $98,430 | |
| Net Worth (Assets − Liabilities) | $729,570 | |
| Total Liabilities and Net Worth | $828,000 | |
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- Use the Assignment 6.2 Document (Word) (Links to an external site.) to record your answers to the following prompts based on the information provided in the table:
- Calculate the current ratio, quick ratio, and debt ratio.
Current Ratio =
= 227,800/58,330
= 3.9
Quick Ratio =
= (227,800- 16,400)/58,330
= 211400/58330
= 3.6
Debt Ratio =
=
= 0.05
- What information do each of these ratios provide?
In a company balance sheet, the quick ratio is a measure of a company’s liquidity. It is calculated by dividing a company’s current assets by its current liabilities. A quick ratio of 3.6 means that a company has $3.60 in current assets for every $1 in current liabilities. This indicates that the company has enough short-term assets to cover its short-term liabilities.
A current ratio of 3.9 generally means that a company has $3.90 in assets for every $1 in liabilities. This indicates that the company is in a relatively healthy financial position and should be able to meet its short-term obligations without difficulty. However, it’s important to note that this ratio can vary depending on the industry and other factors. For example, companies that deal with inventory (such as retailers) will typically have a lower current ratio because they have more liabilities tied up in inventory. Conversely, companies that do not have much inventory (such as tech startups) will typically have a higher current ratio (Sari & Sedana, 2020). Current ratios are used to measure a company’s liquidity. For example, if the current ratio is below 1 then there could be problems meeting short term obligations whereas an opposite situation exists with high values above this number who have plenty of resources at their disposal for future endeavors.
A debt ratio of 0.05 means that a company’s liabilities are equal to 5% of its total assets. This is a relatively low debt ratio, and it suggests that the company is in good financial shape. A high debt ratio (over 0.5, for example) would indicate that the company is struggling financially and may be at risk of defaulting on its loans.
- For each of the three ratios, give one way each ratio could be positively impacted.
A high debt ratio can be positively impacted by increasing total liabilities or decreasing total assets. The debt ratio is the percentage of a company’s total debt to its total assets. The higher the debt ratio, the greater the risk for a company because it means that it has more liabilities relative to its assets. This can be problematic for a number of reasons:
- It can make it difficult for a company to secure additional financing if it needs it. This is because lenders are typically less likely to lend money to companies with high debt ratios, since they are seen as being more risky investments.
- A high debt ratio can lead to increased interest payments, which can impact a company’s profitability.
- If interest rates rise, or if the economy takes a turn for the worse.
A number of factors can impact a company’s current ratio, including its level of debt, the mix of its assets, and seasonal variations in sales. In order to positively impact the current ratio, a company can take steps to increase its liquidity (by increasing its level of current assets) or reduce its level of liabilities (by paying off debt or restructuring it into longer-term obligations).
A quick ratio can also be positively impacted in a company balance sheet by having a large equity cushion. This will show that the company has more assets than liabilities, and creditors will see this as a sign of financial stability. Furthermore, if the company is profitable, the interest payments on the debt will be less of a burden on the income statement. Finally, having debt also allows for tax deductions on the interest payments, which can lower the corporate tax rate.
- For each of the three ratios, give one way each ratio could be negatively impacted.
The debt ratio can be negatively impacted by increasing the company’s liabilities to outnumber the assets. However, this may prove to be a risky approach or risky sign because it may lead to bankruptcy (Effiong & Ejabu, 2020). Currently ratio can be negatively impacted by increasing short-term debts, reducing the current assets, or a combination of both. Finally, a quick ratio can also be negatively impacted in a company balance sheet by having a lower equity cushion.
- When assessing the results of these ratios, what advice would you have for this organization if it was considering securing financing for a major capital expense?
Your company is in a good position to secure financing for a major capital expense. Your current ratio of 3.9 indicates you have $3.90 in assets for every $1 in liabilities, indicating you would be able to pay off any short-term debts quickly. Additionally, your quick ratio of 3.6 shows you have $3.60 in cash and other quick assets for every $1 in liabilities, indicating you would be able to cover any unexpected expenses without issue. Finally, your debt ratio of 0.05 means you have only $0.05 in liabilities for every $1 in assets, indicating you’re relatively debt-free. All these factors suggest that lenders would be confident lending to your company.
Conclusion
The quick ratio is a measure of a company’s liquidity and measures the company’s ability to meet its short-term obligations. The debt ratio is a measure of how much debt a company has compared to its total assets. The current ratio is a measure of how liquid a company is and measures the company’s ability to meet its short-term obligations. All three ratios are important measures for lenders and investors to understand when assessing the risk associated with lending money to or investing in a particular company. A high quick ratio, low debt ratio, and high current ratio are all indicators that a company is healthy and has little risk of not being able to repay its debts as they come due. In the above case, the company is in a good position to secure financing for a major capital expense.
References
Kliestik, T., Valaskova, K., Lazaroiu, G., Kovacova, M., & Vrbka, J. (2020). Remaining financially healthy and competitive: The role of financial predictors. Journal of Competitiveness, 12(1), 74. https://www.cjournal.cz/files/356.pdf
Effiong, S. A., & Ejabu, F. E. (2020). Liquidity risk management and financial performance: are consumer goods companies involved. International Journal of Recent Technology and Engineering, 9(1), 580-589. https://www.researchgate.net/profile/Sunday-Effiong/publication/341134267_Liquidity_Risk_Management_and_Financial_Performance_Are_Consumer_Goods_Companies_Involved/links/5eb06136299bf18b9594f8a5/Liquidity-Risk-Management-and-Financial-Performance-Are-Consumer-Goods-Companies-Involved.pdf
Sari, I. A. G. D. M., & Sedana, I. B. P. (2020). Profitability and liquidity on firm value and capital structure as intervening variable. International research journal of management, IT and Social Sciences, 7(1), 116-127. https://pdfs.semanticscholar.org/bf85/59e8e712953aad19ce6b08d3415602005989.pdf
Assignment Guidelines
Instructions
-
- Review the following table:
Description Amount Current Assets Cash and investments (savings/checking) $80,000 Patient revenue (money owed to hospital) $472,000 Inventory (on the shelf) $16,400 Subtotal $568,400 Less Bad debt ($57,200) Charitable allowance ($14,100) Contractual allowance ($269,300) Subtotal ($340,600) Total Current Assets $227,800 Fixed Assets Land $29,000 Buildings (plant) $805,000 Equipment $610,000 Construction in progress $37,000 Total Fixed Assets $1,481,000 Less accumulated depreciation ($880,800) Net Fixed Assets $600,200 Total Assets $828,000 Current Liabilities Accounts payable salaries, supplies, pharmaceutical $36,560 Accrued compensation and benefits $10,900 Accrued liabilities (interest, physician contracts) $10,870 Total Current Liabilities $58,330 Debt Long-term debt $38,000 Short-term debt $2,100 Total Debt $40,100 Total Liabilities (Total Current Liabilities + Debt) $98,430 Net Worth (Assets − Liabilities) $729,570 Total Liabilities and Net Worth $828,000 - Use the Assignment 6.2 Document (Word) to record your answers to the following prompts based on the information provided in the table:
- Calculate the current ratio, quick ratio, and debt ratio.
- What information do each of these ratios provide?
- For each of the three ratios, give one way each ratio could be positively impacted.
- For each of the three ratios, give one way each ratio could be negatively impacted.
- When assessing the results of these ratios, what advice would you have for this organization if it was considering securing financing for a major capital expense?
- Review the following table:
Submission
Upload your responses. Your document should be named using the following convention: Last name_First name_Assignment_6.2.
Submit your assignment and review full grading criteria on the Assignment 6.2: Ratio Analysis page.
Discussion 6.1
What are the underlying reasons driving this increase?
Address three to four reasons and make sure to explain the causes of these driving forces.
There are many underlying reasons driving the increase in assets. Some of them are because of the large increases in construction in progress, patient revenue, and inventory. The balance sheet shows the hospital is currently in the process of new construction which is greatly adding to their assets. Patient revenue could be increased do an increase in patient treatments, which causes the hospital to be collecting more revenue from the additional patients. Due to the increase in the patient population, there is also an increase in inventory needed to provide for the additional patients. Inventories are provisions of care that include medication, dressing supplies, linens, etc. (Waxman, 2017).
References
Waxman, K.T. (2017). Financial and business management for the doctor of nursing practice (2nd ed.). Springer Publishing Company. Retrieved from https://reader.yuzu.com/#/books/9780826122094/
Week 6: Financial Statements and Ratios
In the first lesson of this week, the various financial statements needed to ascertain the business health of an organization will be described. These three statements are the statement of financial position or balance sheet, statement of comprehensive income or profit and loss statement, and statement of cash flow. The balance sheet describes the financial position of an organization at a single point in time. The profit and loss statement summarizes the revenues and expenses of an organization or department. The cash flow statement is concerned with the flow of cash into and out of an organization.
In the second lesson, another technique to analyze the financial performance of an organization will be described. This is called financial ratio analysis. The concept of variance will be analyzed where a variance is the difference between a target budget and the actual performance of a budget. Lastly, a number of key performance indicators of an organization will be identified.
Review a list of all items due this week in your course’s syllabus.
Lesson 1: Financial Statement
This lesson will describe three financial statements needed to ascertain the business health of an organization. These three statements are the statement of financial position or balance sheet, statement of comprehensive income or profit and loss statement, and statement of cash flow. The balance sheet describes the financial position of an organization at a single point in time. The profit and loss statement summarizes the revenues and expenses of an organization or department. The cash flow statement is concerned with the flow of cash into and out of an organization.