Merchandising Operations and the Accounting Cycle - Pearson

HEIGHTS PHARMACY LTD.
Balance Sheet
December 31, 2003
Assets
Current assets:
Cash ................................................................................................................. $ 5,320
Accounts receivable....................................................................................... 10,710
Inventory......................................................................................................... 30,100
Supplies........................................................................................................... 2,800
Store fixtures................................................................................................... 63,000
Total current assets ....................................................................................
Other asset:
111,930
Dividends........................................................................................................ 45,000
Total assets....................................................................................................... $156,930
Liabilities
Current liabilities:
Accumulated amortization—store fixtures................................................ $ 6,300
Accounts payable........................................................................................... 9,560
Salary payable ................................................................................................ 900
Total current liabilities ..............................................................................
Other liability:
16,760
Note payable due in 90 days........................................................................ 50,000
Total liabilities ................................................................................................. 66,760
Shareholders’ Equity
Common stock ................................................................................................ 20,000
Retained earnings ........................................................................................... 70,170
Total liabilities and shareholders’ equity .................................................... $156,930
David Garner recently read in an industry trade journal that a successful pharmacy
meets all of these criteria:
a. Gross margin is at least 50 percent.
b. Current ratio is at least 2.0.
c. Debt ratio is no higher than 0.50.
d. Inventory turnover is at least 3.40 times per year. (Heights Pharmacy Ltd.’s inventory
at December 31, 2003, was $19,200.)
Basing his opinion on the entity’s financial statement data, David Garner believes
the business meets all four criteria. He plans to go ahead with the expansion plan,
and asks your advice on preparing the pharmacy’s financial statements in accordance
with generally accepted accounting principles. He assures you that all
amounts are correct.
Required
1. Compute the four ratios based on the Heights Pharmacy Ltd. financial statements
prepared by Garner’s bookkeeper. Does the business appear to be ready
for expansion?
2. Prepare a correct multi-step income statement, a statement of retained earnings,
and a classified balance sheet in report format.
3. On the basis of the corrected financial statements, compute correct measures of
the four criteria listed in the trade journal.
4. Make a recommendation about whether to undertake the expansion at this time.
Chapter Five Merchandising Operations and the Accounting Cycle 277