Custom «Cardinal Health» Essay Paper

1. Compute the debt ratio of your company (total liabilities divided by the total liabilities plus equity) and the debt to equity ratio, (total liabilities divided by total equity).  Also, show these two ratios for short-term liabilities only and for long-term liabilities only (instead of total liabilities use just short-term liabilities and long-term liabilities).  Show all of your work and calculations. 

All figures are based on the last quarter of 2010:

Total liabilities + equity > 17.4B + 14.5B = 31.9B

DEBT RATIO (see formula in question 1) > .546

Total equity (Total assets - total liabilities) > 22.85B - 17.43B = 5.42B

DEBT to EQUITY RATIO (see formula in question 1) > 3.215

*** Total current or short term liabilities > 13.63B ***

Total current or short term liabilities + equity > 13.63B + 14.5B = 28.13B

DEBT RATIO (see formula in question 1) > .4845

DEBT to EQUITY RATIO (see formula in question 1) > 2.51

*** Total long term liabilities > 3.80B ***

Total long term liabilities + equity > 3.80B + 14.5B = 18.3B

DEBT RATIO (see formula in question 1) > .1191

DEBT to EQUITY RATIO (see formula in question 1) > 3.376

2. Give your recommendation as to whether or not you consider these ratios to be too small or too large.  Should your SLP company increase its debt or take steps to pay off its debt? When a company has a debt to equity ratio of 4.0 to 5.0, this is where it needs to be more cautious to make sure there are no liquidity problems (Kennon). All of Cardinal Health's debt to equity ratio is within the 2.0 to 3.5 range which appear to be safe numbers to acquire debt to boost company capital. However, if the company were to pay off its debts first, this would further lower their debt to equity ratio. This lower ratio would in turn indicate that the company has more  leverage to work with. What these numbers do not indicate is whether or not the business can earn a higher rate of return than the interest rate at which it borrows. This is the vital information for determining whether or not it will be profitable to borrow (Kennon). 

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3. Compute the debt to equity ratios to two other companies in the same industry as your SLP company. Which of these three companies has the highest debt to equity ratio, and why do you think it chose to have a relatively high ratio?  Which of these three companies has the lowest debt to equity ratio, and why do you think it chose to have a relatively lower ratio?

All figures are based on the last quarter of 2010:

TOTAL LIABILITIES > 11.17B

TOTAL EQUITY (Total assets - Total liabilities) > 14.13B - 11.17B > 2.96

DEBT TO EQUITY RATIO (Total liabilities/ total equity) > 11.17B - 2.96 > 3.77

TOTAL LIABILITIES > 23.32B

TOTAL EQUITY (Total assets - Total liabilities) > 30.40B - 23.32B > 7.08

DEBT TO EQUITY RATIO (Total liabilities/ total equity) > 3.29

Among the 3 companies, AmerisourceBergen has the highest debt to equity ratio at 3.77, while Cardinal Health has the lowest at 3.215. What the above results indicate is that AmerisourceBergen has taken the road of financing their growth primarily via debt. This is a risky situation since more debt means more interest which the company will have to finance. AmerisourceBergen may have taken this decision either because they expect their company earnings to exceed their debt costs, or they were able to acquire their debts at very low interest rates to guarantee that the debt costs do not exceed company profits. Whether or not AmerisourceBergen will actually profit from their debts all depend on what they actually do with the debt which these numbers cannot determine.

In comparison, Cardinal Health has decided to take a more cautious road by keeping their debt to equity ratio low. Cardinal Health's numbers indicate that the company has decided to tone down on exploring more possibilities for the company. This means that the company is in a less risky, but not necessarily more safe, situation than AmerisourceBergen. This is because while Cardinal Health may not be burdened with debt costs, neither does it take the chance to increase its gains. With regard to stockholder investments, AmerisourceBergen may have taken this decision to entice stockholders who are willing to take the risk in earning big while Cardinal Health does not want to invite any stockholders who are expecting too much too soon.