Consider the balance sheet shown below for the Starburst Corporation: ASSETS Cash: 20 Marketable Securities: 10 Accts Receivable: 40 Inventory: 80 Total Current: 150 Net PP&E: 230 Intangle Assets: 20 Total Assets: 400 ----------------------------------- LIABILITIES Notes Payable: 30 Accts Payable: 10 Current Liabilities: 40 Long Term Debt: 120 Common Stock: 40 Retained earnings: 200 Total Stockholder’s Equity: 240 Total Liabilities: 400 Footnotes to Starburst’s financial statements include the following information: * Inventories are valued at cost as determined by the last in, first out (LIFO) method. The LIFO reserve is $10 million. * Additional operating facilities and equipment are financed with operating leases that have a present value of $20 million. * Intangible assets represent $4 million of goodwill from previous acquisitions. * Due to a decrease in interest rates, Starburst’s long-term debt has a current market value of $150 million. Which of the following is closest to Starburst’s total debt-to-equity ratio after making the necessary balance sheet adjustments? A) 0.64 B) 0.45 C) 0.97
Debt: Current: 120 -> 150 because of the interest rates Total debt: 150+80=230 Equity: 240+10 (Inv) + 20 (Leases) -4 (Goodwill from previous) - 30 (LTDebt) = 236 230/236 = 0.97 Choice C
C ?
cpk123 Wrote: ------------------------------------------------------- > Debt: Current: 120 -> 150 because of the interest > rates > > Equity: 240+10 (Inv) + 20 (Leases) -4 (Goodwill > from previous) - 30 (LTDebt) = 236 > > 150/236 = 0.64 > > Choice A. Treatment of leases here is incorrect I think that debt should be increased not equity. I also added accounts payable and notes payable to my total debt but am unclear if that is correct or not.
cpk123 Wrote: ------------------------------------------------------- > Debt: Current: 120 -> 150 because of the interest > rates > Total debt: 150+80=230 > Equity: 240+10 (Inv) + 20 (Leases) -4 (Goodwill > from previous) - 30 (LTDebt) = 236 > > 230/236 = 0.97 > > Choice C A = A + PV(OL) L = L + PV(OL) Equity should not be increased.
Total Debt to Equity is total interest bearing short term and long term debt. I think they forgot to add the short term note payable in their answer. But ignoring that aspect A is the correct answer.
so what is the right answer and what exactly is the calc?
A = 400+10+20-4 = 426 L = 160+20+30 = 200 E = 240+10-4-30 = 216 210/216 = 0.972222222 = C?
Cash 20 Marketable 10 A/R 40 INV 80+10 = 90 PPE 230 Intangible 20-=16 Operating Lease 20 Total Assets 426 Notes Payable 30 Accounts Payable 10 Long Term Debt = 120+30 = 150 Operating Lease 20 Total Liabilities 210 Equity = 426-210 = 236 Total Debt = 150 +30 = 180 Total Debt to Equity = 180/236 = 0.76 But the question must really want LONG TERM debt to equity. Assuming that: Long Term Debt = 150 Equity = 236 150/236 = 0.64 So answer A
Yes. Look at Page 4 on Financial Reporting and Analysis of your CFAI Book. Total debt equals “The total of interest bearing debt short term and long term debt, excluding liabilities such as Accrued expenses and accounts payable” So the answer is 0.76. That’s a bad question. Make sure you catch that error.
I apologize profusely for forgetting about this. Here is the answer as given by Qbank. As CLT2 writes above, they’ve made an error. They should NOT include accounts payable. Also, is the liability created from adjusting for an operating lease seen as DEBT? ___________________________________________________________________ Asset adjustments: Inventory = 80 + 10 = $90 million (LIFO reserve) Net P,P&E = 230 + 20 = $250 million (PV of the operating lease) Intangible assets = 20 - 4 = $16 million (goodwill from past acquisitions) Debt adjustments: Long term debt = $150 million (revaluation due to increased rates) + $20 million leases = $170 million total long term debt Equity adjustment = $10 LIFO reserve - $4 goodwill - $30 debt increase due to interest rates = -$24.0 Adjusted total debt ratio = total debt / total assets = (40 + 170) / 426 = 0.4930
Did the question ask for debt ratio, or debt-to equity? If the latter, than it should be (40 + 170) / 216 = 0.972222, so C is correct? Cubemonkey Wrote: ------------------------------------------------------- > I apologize profusely for forgetting about this. > Here is the answer as given by Qbank. As CLT2 > writes above, they’ve made an error. They should > NOT include accounts payable. > > Also, is the liability created from adjusting for > an operating lease seen as DEBT? > > __________________________________________________ > _________________ > > Asset adjustments: > > Inventory = 80 + 10 = $90 million (LIFO reserve) > > Net P,P&E = 230 + 20 = $250 million (PV of the > operating lease) > > Intangible assets = 20 - 4 = $16 million (goodwill > from past acquisitions) > > Debt adjustments: > > Long term debt = $150 million (revaluation due to > increased rates) + $20 million leases = $170 > million total long term debt > > > > Equity adjustment = $10 LIFO reserve - $4 goodwill > - $30 debt increase due to interest rates = -$24.0 > > > > Adjusted total debt ratio = total debt / total > assets = (40 + 170) / 426 = 0.4930
Cubemonkey Wrote: ------------------------------------------------------- > I apologize profusely for forgetting about this. > Here is the answer as given by Qbank. As CLT2 > writes above, they’ve made an error. They should > NOT include accounts payable. > > Also, is the liability created from adjusting for > an operating lease seen as DEBT? > > __________________________________________________ > _________________ > > Asset adjustments: > > Inventory = 80 + 10 = $90 million (LIFO reserve) > > Net P,P&E = 230 + 20 = $250 million (PV of the > operating lease) > > Intangible assets = 20 - 4 = $16 million (goodwill > from past acquisitions) > > Debt adjustments: > > Long term debt = $150 million (revaluation due to > increased rates) + $20 million leases = $170 > million total long term debt > > > > Equity adjustment = $10 LIFO reserve - $4 goodwill > - $30 debt increase due to interest rates = -$24.0 > > > > Adjusted total debt ratio = total debt / total > assets = (40 + 170) / 426 = 0.4930 Y es you have to add the operating lease on as both an asset and a liability. Also don’t forget that short term note payable in your total debt calculation. Total debt includes both short and long term interest bearing debt.
CLT2 Wrote: > Y > es you have to add the operating lease on as both > an asset and a liability. > > Also don’t forget that short term note payable in > your total debt calculation. Total debt includes > both short and long term interest bearing debt. Yes, I do know that the lease is adjusted into a matching asset and liability pair. However, a liability is not the same as DEBT (a bond you issue and pay interest on). Are you supposed to treat the liability as DEBT, or just as a liability?
Good Question. You have me thinking now. lol Its a liability I believe. However, on interest coverage ratios, etc. particularly in the fixed income chapter I noticed they put interest plus lease payments. For the total debt to equity ratio I would use the definition CFAI gave us which was “Interest Bearing” debt. That makes the most sense to me. Can someone else confirm this?
CLT2, I found our answer. Schweser Book 5, page 15. Above the blue box at lower right: “Operating leases represent a long term obligation that should be considered a long-term debt.” There we go.
So the “correct answer” is (20+150+30)/(236) = 0.85