Page 305 - AFM Integrated Workbook STUDENT S18-J19

Corporate failure and reconstruction

The liquidity position of Zed has worsened between 20X7 and 20X8. Both
inventory holding period and debtor days have increased, indicating perhaps a
lack of control over working capital levels. At the same time, the creditor days
figure has fallen, indicating that Zed is being pushed by its creditors to pay
sooner. This may indicate that creditors are becoming worried about the ability
of Zed to meet its obligations.

Gearing ratios

SOFP: Debt/Equity

20X7: 74/399 = 19%

20X8: 94/448 = 21%

Statement of profit or loss: Interest cover = Profit before interest/Interest

20X7: 100/6 = 16.7 times

20X8: 57/8 = 7.1 times

Gearing is not a problem at the moment for Zed. The gearing ratio is low and
relatively stable, while the interest cover is high. Even with the drop in
profitability in 20X8, Zed's profit is still large enough to cover the low level of
debt interest payable.

Market ratios

Share price

20X7: $1.60

20X8: $0.80

P/E ratio = Share price/Earnings per share

NB: Zed has 100m/0.50 = 200m shares

20X7: 1.60/(49/200m) = 6.5

20X8: 0.80/(26/200m) = 6.2

The share price has halved between 20X7 and 20X8, and the P/E ratio has
also fallen. This is a worrying trend. The market seems to be losing confidence
in Zed.

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