Tom and Jerry commenced operations on 1 July 2015. Assume that the companies are identical in all respects except their accounting policies. Tom revalues its property, plant and equipment; whereas Jerry values its property, plant and equipment at historical cost. Furthermore, Tom uses straight-line depreciation compared to Jerry, which uses the reducing balance method of depreciation. The statements of financial position and statements of financial performance for the entities are presented below:
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Statement of financial performance
for the year ended 30 June 2015
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Tom
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Jerry
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Revenue
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$300 000
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$300 000
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Less Cost of sales
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$160 000
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$160 000
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Gross profit
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$140 000
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$140 000
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Depreciation expense
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$ 30 000
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$ 20 000
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Interest expense
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$ 10 000
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$ 10 000
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Other expenses
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$ 45 000
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$ 45 000
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Profit
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$ 55 000
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$ 65 000
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Statement of financial position
As at 30 June 2015
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Tom
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Jerry
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Cash
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$ 20 000
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$ 20 000
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Account receivables
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$ 50 000
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$ 50 000
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Inventories
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$ 40 000
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$ 40 000
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Current assets
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$110 000
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$110 000
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Property, plant and equipment
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$300 000
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$200 000
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Non-current assets
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$300 000
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$200 000
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Total assets
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$410 000
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$310 000
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Current liabilities
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$ 30 000
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$ 30 000
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Non-current liabilities
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$ 50 000
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$ 50 000
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Total liabilities
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$ 80 000
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$ 80 000
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Equity
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$330 000
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$230 000
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Total liabilities and equity
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$410 000
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$310 000
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Required:
a) Calculate the following ratios for Tom and Jerry ensuring you show your formula:
i. Return on assets
ii. Return on equity
iii. Profit margin
iv. Current ratio
v. Asset turnover
vi. Debt ratio
b) Write a report commenting of the performance and position of Tom and Jerry. Include a summary table of the results you have used in your discussion.
c) With reference to your ratio calculations, comment on the importance of identifying accounting policy choices when comparing ratios for entities, or when comparing ratios for a single entity over time.