Q8SE - Horngren'S Financial And Managerial Accounting

Question

Measuring ability to pay liabilities

Requirements

1. Compute the debt ratio and the debt-to-equity ratio at May 31, 2018, for Accel’s

Companies.

2. Is Accel’s ability to pay its liabilities strong or weak? Explain your reasoning.

Step-by-Step Solution

Answer

Answers

The debt ratio is under control

Step 1: Calculations

Requirement: 1

Debt ratio = Total liabilities/Total assets

                 = 41,900/82,800

                 = 0.51

Debt to Equity Ratio = Total liabilities/Equity

                                   = 41,900/40,900

                                   = 1.02

Step 2: Explanations

Requirement 2.

The debt ratio is 0.45 which indicates the total liabilities. are 51% of total assets i.e., for every $51 liabilities, there are $100 of assets. The debt ratio of 0.51 clearly shows that debt is quite manageable and under control.

The debt-to-equity ratio is 1.02 which means that total liabilities are 102% of stockholders' equity i.e., for every $102 of total liabilities, stockholders' equity is $100. Own funds are more than funds provided by lenders.

Both the Debt ratio and Debt to Equity ratio show that Accel's ability to pay off its liabilities is strong. It will not default in payment of its liabilities.