Chapter 11: Q24E (page 610)

The following financial information was obtained from the year ended 2018 income statements for Cash Automotive and Pennington Automotive:
Cash Pennington
Net income $ 26,070 $ 74,188
Income tax expense 9,270 27,080
Interest expense 300 2,900
Requirements
1. Compute the times-interest-earned ratio for each company. Round to two decimals.
2. Which company was better able to cover its interest expense?

Short Answer

Expert verified

Times Interest Earned Ratio

For Cash Automotive: 119 times

For Pennington Automotive: 35.92 times

Step by step solution

Computation of times interest earned ratio

$For cash Automative Co . = \frac{Net Income + Income Tax Expense + Interest Expense}{Interest Expense} = \frac{$ 26, 070 + $ 9, 270 + $ 300}{$ 300} = 119 times For Peninngton Automative Co . = \frac{Net Income + Income Tax Expense + Interest Expense}{Interest Expense} = \frac{$ 74, 188 + $ 27, 080 + $ 2, 900}{$ 2, 900} = 35.92 times$

Conclusion

Based on the above-computed ratio, Cash Automotive is better enough to cover its interest expense as the income before interest and tax is 119 times more than the Pennington Automotive.

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Earnings			Withholdings
Beginning Cumulative Earnings	Current Period Earnings	Ending Cumulative Earnings	OASDI	Medicare	Income tax	Health Insurance	United way	Total Withholding	Net pay	Check No.	Salaries and Wages Expense
\( 77,000	\) 4,500				\( 900	\) 90	\(15			801
112,000	7,200				1,200	144	35			802
48,000	3,300				600	66	0			803
61,000	3,300				850	66	20			804
0	4,500				1,100	90	0			805
\)298,000	\(22,800				\)4,650	\(456	\)70

Nov.21	Made sales of \(52,000. McNight estimates that warranty expense is 6% of sales.(Record only the warranty expense.)
30	Paid \)1,600 to satisfy warranty claims.
Dec.31	Estimated vacation benefits expense to be \(6,000
31	McNight expected to pay its employees a 3% bonus on net income after deducting the bonus. Net income for the year is \)52,000

Short Answer

Step by step solution

Computation of times interest earned ratio

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