Debt Management Ratios Calculate the times interest earned ratio for Paige's Purses,Inc.using the following information: sales = $50,000,000,cost of goods sold = $15,000,000,depreciation expense = $2,000,000,addition to retained earnings = $10,000,000,dividends per share = $1.10,tax rate = 30 percent,and number of shares of common stock outstanding = 10,000,000.Paige's Purses has no preferred stock outstanding.
A)0.27
B)3.30
C)11.00
D)16.67

Question

Quizplus · Accepted Answer

First, we need to calculate earnings before interest and taxes (EBIT) which is:
Sales - Cost of goods sold - Depreciation expense = $50,000,000 - $15,000,000 - $2,000,000 = $33,000,000

Next, we need to calculate the interest expense:
EBIT x (1 - tax rate) = $33,000,000 x (1 - 0.30) = $23,100,000
Interest expense = Addition to retained earnings - Dividends per share x Number of shares outstanding
Interest expense = $10,000,000 - $1.10 x 10,000,000 = $10,000,000 - $11,000,000 = -$1,000,000

Since the interest expense is negative, it means that Paige's Purses has more earnings than interest expenses. Therefore, the times interest earned ratio is:
Times interest earned ratio = EBIT / Interest expense = $33,000,000 / -$1,000,000 = -33

However, since the interest expense is negative, we need to take its absolute value, which is $1,000,000. Therefore, the corrected times interest earned ratio is:
Times interest earned ratio = EBIT / Interest expense = $33,000,000 / $1,000,000 = 33

So the answer is C) 11.00.

Debt Management Ratios Calculate the Times Interest Earned Ratio for Paige's