Schweser: SS 7 pg. 332 question 1

How do they get the following equation when calculating the LT debt/equity ratio on the balance sheet? LT Debt/Equity: $85/108 = 78% If I had to guess, the $85 is adjusted upwards b/c you add back the $10 for the PV of the operating lease and the fact that the market value of the LT debt is $75 - but what happens to equity? Any help is appreciated!

Equity gets adjusted by 3 items - LIFO reserve adjustment, Goodwill adjustment and Long term debt FMV adjustement. For each of the adjustment to the original Equity of $120 you: LIFO Reserve: Add $5 million Goodwill: Deduct $2 million Long-Term Debt FMV: Deduct $15 Hence 120+5-2-15 = 108

Thanks mumukada. But why is $15 subtracted from Total Equity? Is that essentially marking to market the long term liabilities?

that’s what I feel too… probably because they marked the BV(LTD) = $60m to the FMV = $75m and hence the $15m difference got deducted from Equity … but if someone clarify the same?

yes…because your long term loan is marked UP $15m, you need to have an offsetting entry to keep your balance sheet balanced. Hence you reduce equity by $15m