Assignment Exercises 10-1, 10-2, and 10-3 on pages 476 through 479

CHAPTER 10

Practice Exercise 10–I: Components of Balance Sheet and Statement of Net Income

Financial statements for Doctors Smith and Brown are provided here. Use the doctors’ balance sheet, statement of revenue and expenses, and statement of capital for this assignment.

Required

Identify the following doctors’ balance sheet and statement of net income components. List the name of each component and its amount(s) from the appropriate financial statement.

· Current Liabilities

· Total Assets

· Income from Operations

· Accumulated Depreciation

· Total Operating Revenue

· Current Portion of Long-Term Debt

· Interest Income

· Inventories

Assignment Exercise 10–1: Components of Balance Sheet and Statement of Net Income

Refer to the Metropolis Health System (MHS) financial statements contained in Appendix 28-A . Use the MHS comparative balance sheet, statement of revenue and expenses, and statement of fund balance for this assignment.

Required

Identify the following MHS balance sheet components. List the name of each component and its amount(s) from the appropriate MHS financial statement.

· Current Liabilities

· Total Assets

· Income from Operations

· Accumulated Depreciation

· Total Operating Revenue

· Current Portion of Long-Term Debt

· Interest Income

· Inventories

Doctors Smith and Brown: Statement of Net Income for the Three Months Ended March 31, 2___

Revenue

Net patient service revenue

180,000

Other revenue

-0-

Total Operating Revenue

180,000

Expenses

Nursing/PA salaries

16,650

Clerical salaries

10,150

Payroll taxes/employee benefits

4,800

Medical supplies and drugs

15,000

Professional fees

3,000

Dues and publications

2,400

Janitorial service

1,200

Office supplies

1,500

Repairs and maintenance

1,200

Utilities and telephone

6,000

Depreciation

30,000

Interest

3,100

Other

5,000

Total Expenses

100,000

Income from Operations

80,000

Nonoperating Gains (Losses) Interest Income

-0-

Nonoperating Gains, Net

-0-

Net Income

80,000

Doctors Smith and Brown Balance Sheet March 31, 2___

Assets

Current Assets

Cash and cash equivalents

25,000

Patient accounts receivable

40,000

Inventories—supplies and drugs

5,000

Total Current Assets

70,000

Property, Plant, and Equipment

Buildings and Improvements

500,000

Equipment

800,000

Total

1,300,000

Less Accumulated Depreciation

(480,000)

Net Depreciable Assets

820,000

Land

100,000

Property, Plant, and Equipment, Net

920,000

Other Assets

10,000

Total Assets

1,000,000

Liabilities and Capital

Current Liabilities

Current maturities of long-term debt

10,000

Accounts payable and accrued expenses

20,000

Total Current Liabilities

30,000

Long-Term Debt

180,000

Less Current Portion of Long-Term Debt

(10,000)

Net Long-Term Debt

170,000

Total Liabilities

200,000

Capital

800,000

Total Liabilities and Capital

1,000,000

Doctors Smith and Brown Statement of Changes in Capital for the Three Months Ended March 31, 2___

Beginning Balance

$720,000

Net Income

80,000

Ending Balance

$800,000

The MHS Balance Sheet

Example 10A: Components of Balance Sheet and Income Statement

The “Accounts Receivable (net)” in Exhibit 10–1 means the accounts receivable figure of $250,000 on the balance sheet is net of the allowance for bad debts. If the allowance for bad debts is raised on the balance sheet, then bad debt expense (a.k.a. provision for doubtful accounts) on the income statement (a.k.a. statement of revenue and expense) also rises. Think of these two accounts as a pair.

Practice Exercise 10–II: Components of Balance Sheet and Income Statement

Refer to Doctors Smith and Brown’s balance sheet, where patient accounts receivable is stated at $40,000. Do you think this figure is net of an allowance for bad debts?

Assignment Exercise 10–2: Components of Balance Sheet and Income Statement

Refer to the Metropolis Health System (MHS) balance sheet and statement of revenue and expense in Chapter 28 ’s MHS Case Study. Patient accounts receivable of $7,400,000 is shown as net of $1,300,000 allowance for bad debts (8,700,000 − 1,300,000 = 7,400,000). (1) What percentage of gross accounts receivable is the allowance for bad debts? (2) If the allowance for bad debts is raised to $1,500,000, where does the extra $200,000 go?

Example 10B: Components of Balance Sheet and Income Statement

Refer to Exhibit 10–1 and Exhibit 10–2 ’s Westside Clinic statements. The “Property, Plant, and Equipment (net)” total in Exhibit 10–1 means the property, plant, and equipment figure of $360,000 on the balance sheet is net of the reserve for depreciation. If the reserve for depreciation is raised on the balance sheet, then the depreciation expense on the income statement (a.k.a. statement of revenue and expense) also rises. Think of these two accounts as another pair.

Practice Exercise 10–III: Components of Balance Sheet and Income Statement

Refer to Doctors Smith and Brown’s balance sheet, where buildings and equipment are both stated as net (the $820,000 figure), but land is not. Do you recall why this is so?

Assignment Exercise 10–3: Components of Balance Sheet and Income Statement

Refer to the Metropolis Health System (MHS) balance sheet and statement of revenue and expense in Chapter 28 ’s MHS Case Study. Property, plant, and equipment of $19,300,000 is shown as “net,” meaning net of the reserve for depreciation. If the $19,300,000 is reduced by $200,000 (meaning the reserve for depreciation has risen), what happens on the income statement?

Assignment Exercises 11-1, 11-2, and 11-3 on pages 480 through 481

CHAPTER 11

Example 11A

To better understand how the information for the numerator and the denominator of each calculation is obtained, Figure 11–1 illustrates the process. This figure takes the balance sheet and the statement of revenue and expense that were discussed in the preceding chapter and illustrates the source of each figure in the four liquidity ratios. The multiple computations in days cash on hand and in days receivables are further broken out into a three-step process to better illustrate sources of information.

Practice Exercise 11–I: Liquidity Ratios

Two of the liquidity ratios are illustrated in this practice exercise. Refer to Doctors Smith and Brown’s financial statements presented in the preceding exercises for Chapter 10 .

Required

· 1. Set up a worksheet for the current ratio and the quick ratio.

· 2. Compute the ratios for Doctors Smith and Brown.

Assignment Exercise 11–1: Liquidity Ratios

Refer to the Metropolis Health System (MHS) case study in Chapter 28 .

Required

· 1. Set up a worksheet for the liquidity ratios.

· 2. Compute the four liquidity ratios using the Chapter 28 MHS financial statements.

Example 11B

To better understand how the information for the numerator and the denominator of each calculation is obtained, Figure 11–2 illustrates the process. This figure takes the balance sheet and the statement of revenue and expense that were discussed in the preceding chapter and illustrates the source of each figure in the two solvency ratios. Any multiple computations are further broken out to better explain sources of information.

Practice Exercise 11–II: Solvency Ratios

Refer to Doctors Smith and Brown’s financial statements presented in the preceding exercises for Chapter 10 .

Required

· 1. Set up a worksheet for the solvency ratios.

· 2. Compute these ratios for Doctors Smith and Brown. To do so, you will need one additional piece of information that is not present on the doctors’ statements: their maximum annual debt service is $22,200.

Assignment Exercise 11–2: Solvency Ratios

Refer to the Metropolis Health System (MHS) case study in Chapter 28 .

Required

· 1. Set up a worksheet for the liquidity ratios.

· 2. Compute the solvency ratios using the Chapter 28 MHS financial statements.

Example 11C

To better understand how the information for the numerator and the denominator of each calculation is obtained, study Figure 11–2 . This figure takes the balance sheet and the statement of revenue and expense that were discussed in the preceding chapter and illustrates the source of each figure in the two profitability ratios. Any multiple computations are further broken out to better explain sources of information.

Practice Exercise 11–III: Profitability Ratios

Refer to Doctors Smith and Brown’s financial statements presented in the preceding exercises for Chapter 10 .

Required

· 1. Set up a worksheet for the profitability ratios.

· 2. Compute these ratios for Doctors Smith and Brown. All the necessary information is present on the doctors’ statements. [Hint: “Operating Income (Loss)” is also known as “Income from Operations.”]

Assignment Exercise 11–3: Profitability Ratios

Refer to the Metropolis Health System (MHS) case study in Chapter 28 .

Required

· 1. Set up a worksheet for the liquidity ratios.

· 2. Compute the profitability ratios using the Chapter 28 MHS financial statements.

Assignment Exercises 12-1, 12-2, 12-3, 12-4, and 12-5 on pages 482 through 485

CHAPTER 12

Example 12A: Unadjusted Rate of Return

Assumptions

· • Average annual net income = $100,000

· • Original investment amount = $1,000,000

· • Unrecovered asset cost at the end of useful life (salvage value) = $100,000 Calculation using original investment amount: Calculation using average investment amount: Step 1: Compute average investment amount for total unrecovered asset cost. Divided by 2 = $550,000 average investment amount Step 2: Calculate unadjusted rate of return.

Practice Exercise 12–I: Unadjusted Rate of Return

Assumptions

· • Average annual net income = $100,000

· • Original investment amount = $500,000

· • Unrecovered asset cost at the end of useful life (salvage value) = $50,000

Required

· 1. Compute the unadjusted rate of return using the original investment amount.

· 2. Compute the unadjusted rate of return using the average investment method.

Assignment Exercise 12–1: Unadjusted Rate of Return

Metropolis Health Systems’ Laboratory Director expects to purchase a new piece of equipment. The assumptions for the transaction are as follows:

· • Average annual net income = $70,000

· • Original investment amount = $410,000

· • Unrecovered asset cost at the end of useful life (salvage value) = $41,000

Required

· 1. Compute the unadjusted rate of return using the original investment amount.

· 2. Compute the unadjusted rate of return using the average investment method.

Example 12B: Finding the Future Value (with a Compound Interest Table)

Betty Dylan is Director of Nurses at Metropolis Health System. Her oldest son will be entering college in five years. Today Betty is trying to figure what his college fund will amount to in five more years. (Hint: Compound interest means interest is not only earned on the principal, but also is earned on the previous interest earnings that have been left in the account. Interest is thus compounded.)

The college fund savings account presently has a balance of $9,000 and any interest earned over the next five years will be left in the account. Betty assumes the annual interest rate will be 6%. How much money will be in the account at the end of five more years?

Solution to Example

· Step 1. Refer to the Compound Interest Table found in Appendix 12-B at the back of this chapter. Reading across, or horizontally, find the 6% column. Reading down, or vertically, find Year 5. Trace across the Year 5 line item to the 6% column. The factor is 1.338.

· Step 2. Multiply the current savings account balance of $9,000 times the factor of 1.338 to find the future value of $12,042. In five years at compound interest of 6% the college fund will have a balance of $12,042.

Practice Exercise 12–II: Finding the Future Value (with a Compound Interest Table)

Assume the college savings fund in the preceding example presently has a balance of $11,000 and any interest earned will be left in the account. Assume the annual interest rate will be 7%.

Required

Compute how much money will be in the account at the end of six more years. (Use the compound interest table in Appendix 12-B .)

Assignment Exercise 12–2: Finding the Future Value (with a Compound Interest Table)

John Whitten is one of the physicians on staff at Metropolis Health System. His practice is six years old. He has set up an office savings account to accumulate the funds to replace equipment in his practice. Today John is trying to figure what his equipment fund will amount to in four more years.

The equipment fund savings account presently has a balance of $63,500 and any interest earned over the next four years will be left in the account. John assumes the annual interest rate will be 5%. How much money will be in the account at the end of four more years?

Required

Compute how much money will be in the account at the end of four more years. (Use the compound interest table found in Appendix 12-B .)

Example 12C: Finding the Present Value (with a Present-Value Table)

Betty Dylan is taking an adult education night course in personal finance at the community college. The class is presently studying retirement planning. Each student is to estimate the amount of funds (in addition to pension plans and social security) they believe will be needed at retirement. Then they are to make a retirement plan.

Betty has estimated she would need $100,000 fifteen years from now. In order to complete her assignment she needs to know the present value of the $100,000. Betty further assumes an interest rate of 6%.

Solution to Example

· Step 1. Refer to the Present-Value Table found in Appendix 12-A at the back of this chapter. Reading across, or horizontally, find the 6% column. Reading down, or vertically, find Year 15. Trace across the Year 15 line item to the 6% column. The factor is 0.4173.

· Step 2. Multiply $100,000 times the factor of 0.4173 to find the present value of $41,730.

Practice Exercise 12–III: Finding the Present Value (with a Present-Value Table)

Betty isn’t finished with her assignment. Now she wants to find the present value of $150,000 accumulated fifteen years from now. She further assumes a better interest rate of 7%.

Required

Compute the present value of $150,000 accumulated fifteen years from now. Assume an interest rate of 7%. (Use the Present-Value Table found in Appendix 12-A at the back of this chapter.)

Assignment Exercise 12–3: Finding the Present Value (with a Present-Value Table)

Part 1—Dr. John Whitten is still figuring out his equipment fund. According to his calculations he needs $250,000 to be accumulated six years from now. John is now trying to find the present value of the $250,000. He continues to assume an interest rate of 5%.

Required

Compute the present value of $250,000 accumulated fifteen years from now. Assume an interest rate of 5%. (Use the Present-Value Table found in Appendix 12-A at the back of this chapter.)

Part 2—John doesn’t like the answer he gets. What if he can raise the interest rate to 7%? How much difference would that make?

Required

Compute the present value of $250,000 accumulated fifteen years from now assuming an interest rate of 7%. Compare the difference between this amount and the present value at 5%.

Example 12D: Internal Rate of Return

Review the chapter text to follow the steps set out to compute the internal rate of return.

Practice Exercise 12–IV: Internal Rate of Return

Metropolis Health System (MHS) is considering purchasing a tractor to mow the grounds. It would cost $16,950 and have a 10-year useful life. It will have zero salvage value at the end of 10 years. The head of the MHS grounds crew estimates it would save $3,000 per year. He figures this savings because just one of the present maintenance crew would be driving the tractor, replacing the labor of several men now using small household-type lawn mowers. Compute the internal rate of return for this proposed acquisition.

Assignment Exercise 12–4: Computing an Internal Rate of Return

Dr. Whitten has decided to purchase equipment that has a cost of $60,000 and will produce a pretax net cash inflow of $30,000 per year over its estimated useful life of six years. The equipment will have no salvage value and will be depreciated by the straight-line method. The tax rate is 50%. Determine Dr. Whitten’s approximate after-tax internal rate of return.

Example 12E: Payback Period

Review the chapter text and follow the Doctor Green detailed example of payback period computation.

Practice Exercise 12–V: Payback

The MHS Chief Financial Officer is considering a request by the Emergency Room department for purchase of new equipment. It will cost $500,000. There is no trade-in. Its useful life would be 10 years. This type of machine is new to the department but it is estimated that it will result in $84,000 annual revenue and operating costs would be one-quarter of that amount. The CFO wants to find the payback period for this piece of equipment.

Assignment Exercise 12–5: Payback Period

The MHS Chief Financial Officer is considering alternate proposals for the hospital Radiology department. The Director of Radiology has suggested purchasing one of two pieces of equipment. Machine A costs $15,000 and Machine B costs $12,000. Both machines are estimated to reduce radiology operating costs by $5,000 per year.

Required

Which machine should be purchased? Make your payback calculations to provide the answer.