Donna Jamison was brought in as assistant to Fred Camp, Computron’s chairman, who had the task of getting the company back into a sound financial position. Computron’s 2009 and 2010 balance sheets and income statements, together with projections for 2011, are shown in the following tables. The tables also show the 2009 and 2010 financial ratios, along with industry average data. The 2011 projected financial statement data represent Jamison’s and Campo’s best guess for 2011 results, assuming that some new financing is arranged to get the company “over the hump.”

a. Why are ratios useful? What three groups use ratio analysis and for what reasons?

Financial statement ratio analysis involves comparing a firm's performance with that of other firms in the same industry and evaluating trends in the firm's financial position over time. The three groups that use financial ratio analysis are managers, potential lenders, and stockholders. Managers use financial analysis to identify situations needing attention. Potential lenders use financial analysis to determine whether a company is creditworthy, and stockholders use financial analysis to help predict future earnings, dividends, and free cash flow (Ehrhardt, 2010).

Answer: Ratios facilitate comparison of (1) one company over time and (2) one company versus other companies. Ratios are used by managers to help improve the firm’s performance, by lenders to help evaluate the firm’s likelihood of repaying debts, and by stockholders to help forecast future earnings and cash flows.

b. Calculate the 2011 current and quick ratios based on the projected balance sheet and income statement data. What can you say about the company’s liquidity position in 2009, 2010, and as projected for 2011? We often think of ratios as being useful (1) to managers to help run the business, (2) to bankers for credit analysis, and (3)