Renbud Computer Services Co. (RCS) specializes in customized software development for the broadcast and telecommunications industries. The company was started by three people in 1973 to develop software primarily for a national network to be used in broadcasting national election results. After sustained and manageable growth for many years, the company has grown very fast over the last three years, doubling in size.
This growth has placed the company in a challenging financial position. Within thirty days, RCS will need to renew its $300,000 loan with the Third State Bank of San Marcos. This loan is classified as a current liability on RCS's balance sheet. Harvey Renbud, president of RCS, is concerned about renewing the loan. The bank has requested RCS's most recent financial statements, which appear below, including balance sheets for this year and last year. The bank has also requested four ratios relating to operating performance and liquidity.
Renbud Computer Services Co.
Income Statement
For the Year Ended December 31
(in thousands)
Sales $2,500
Expenses:
Cost of services provided $1,500
Selling and administrative 300
Depreciation and amortization 200
Interest 60
Income taxes 150
Total expenses 2,210
Net income $290
Renbud Computer Services Co.
Balance Sheet
December 31
(in thousands)
Assets This Year Last Year
Cash………………………………………. $50 $50
Accounts receivable, net……………… 350 250
Other current assets…………………… 70 160
Equipment, net…………………………… 1,100 800
Furniture and fixtures, net…………… 120 100
Other noncurrent assets…………………240 200
Total assets…………………………… $1,930 $1,560
Liabilities and stockholders’ equity
Accounts payable…………………………. $150 $130
Taxes payable…………………………….. 140 120
Note payable (Third State Bank)………….300 200
Bonds payable (due in seven years)……400 400
Total liabilities…………………………… 990 850
Capital stock (1,000 shares)……………100 100
Retained earnings……………………… 840 610
Total stockholders’ equity……………….. 940 710
Total liabilities and stockholders’ equity… $1,930 $1,560
Required:
a. Explain why the Third State Bank of San Marcos would be interested in reviewing Renbud Computer Services Co.'s comparative financial statements and its financial ratios before renewing the loan.
b. Calculate the following financial ratios for Renbud Computer Services Co.:
1. The current ratio for both this year and last year.
2. Accounts receivable turnover for this year.
3. Return on common stockholders' equity for this year.
4. The debt-to-equity ratio for both this year and last year.
c. Discuss briefly the limitations and difficulties that can be encountered in using ratio analysis.