Answer: improved because both ratios have strengthened.

## Explanation To determine whether solvency has improved or deteriorated, we need to calculate the Year 2 ratios and compare them with Year 1 ratios. **Step 1: Calculate Year 2 Debt to Capital ratio** Debt to Capital = Total Debt / (Total Debt + Total Shareholders' Equity) Year 2: - Total Debt = ¥2,300 million - Total Shareholders' Equity = ¥17,000 million - Total Capital = ¥2,300 + ¥17,000 = ¥19,300 million Debt to Capital = 2,300 / 19,300 = 0.1192 or 11.92% **Step 2: Calculate Year 2 Interest Coverage ratio** Interest Coverage = (Net Income + Interest Expense + Taxes) / Interest Expense Year 2: - Net Income = ¥375 million - Interest Expense = ¥200 million - Taxes = ¥125 million EBIT = Net Income + Interest Expense + Taxes = 375 + 200 + 125 = ¥700 million Interest Coverage = 700 / 200 = 3.5 **Step 3: Compare Year 2 ratios with Year 1 ratios** Year 1 Ratios: - Debt to Capital = 12.7% - Interest Coverage = 2.9 Year 2 Ratios: - Debt to Capital = 11.92% - Interest Coverage = 3.5 **Analysis:** 1. **Debt to Capital**: Decreased from 12.7% to 11.92% → **Improved** (lower debt ratio is better) 2. **Interest Coverage**: Increased from 2.9 to 3.5 → **Improved** (higher coverage is better) Both solvency ratios have strengthened in Year 2 compared to Year 1: - Lower debt ratio indicates less financial leverage - Higher interest coverage indicates better ability to service debt Therefore, the company's solvency has **improved**.

Author: LeetQuiz .