978-1337614689 Chapter 4 Part 2

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4.24 Calculating and Interpreting Profitability Ratios (amounts in millions).

Royalty Expense/Sales:

$2,998/[0.5($200 + $207)] = 14.7

b. Hasbro’s ROA increased significantly between Year 2 and Year 3 and increased

slightly more between Year 3 and Year 4. The changes in ROA result from sim-

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Cost of Goods Sold/Sales: The cost of goods sold to sales percentage increased

Advertising Expense/Sales: This expense also increased continually during the

Research and Development Expense/Sales: This expense declined sharply in

Royalty Expense/Sales: This expense declined during the three years, particu-

Other Selling and Administrative Expense/Sales: The fixed cost reduction

c. ROCE follows the same path as ROA, increasing significantly in Year 3 and in-

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4.25 Calculating and Interpreting Profitability Ratios (amounts in millions).

a. Profit Margin for ROA:

[$216 + (1 – 0.35)($63)]/$2,021 = 12.7%

Assets Turnover:

Accounts Receivable Turnover:

$2,021/[0.5($7 + $26)] = 122.5

b. The ROA of Abercrombie & Fitch declined continually during the three-year

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Fitch. The decreasing cost of goods sold to sales percentage coupled with the

43.1 (30,200/700) in fiscal Year 4, and 61.5 (48,500/788) in fiscal Year 5. One

explanation consistent with the change in the cost of goods sold to sales

percentage and the selling and administrative expense to sales percentage is that

the firm provides a higher service level to customers with more employees and

4.26 Analyzing the Profitability of a Service Firm. The ROA of Kelly Services

(Kelly) is very low to start with (around 2%), but it dipped to just above breakeven

in Year 3. A decline in the profit margin for ROA is the principal driver. An

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profitable segment. The fixed asset turnover increased slightly between Year 2 and

4.27 Analyzing the Profitability of Two Hotels. Starwood realized either limited sales

growth or declining sales growth. In contrast, Choice realized double-digit sales

reflect a downward cycle in the travel and leisure industry. Nevertheless, both com-

panies have increased assets turnover during the three-year period. The large dis-

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properties are owned by franchisees; hence, these assets do not appear on Choice’s

4.28 Analyzing the Profitability of Two Rental Car Companies.

Computed ratios are as follows:

Avis Budget

Group

Hertz Global

Holdings

2012 2012

The ROA of the two companies is very similar, just above 3.0%. ROA measures

the overall profitability of the company’s operations, regardless of financial

structure. Given the competitiveness of the rental car industry, it is not surpris-

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4.29 Analyzing the Profitability of Two Restaurant Chains.

a. The ROA of Brinker steadily declined during the three-year period, primarily

expense to sales percentage. Brinker experienced a decline in the growth rate in

6.5%)] in Year 4. ROCE follows the same path as ROA except that a reduction

because the retention of earnings more than offsets increases in long-term debt

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restaurants are larger and more costly than McDonald’s restaurants, but Brinker

Case 4.1: Profitability and Risk Analysis of Walmart Stores (Part A)

a. Return on Assets (ROA)

Studying the changes in ROA and its components, one is struck with the overall

2015 2014 2013

3.47%. Obviously, the increases in SG&A exceeded the decreases in COGS.

Cost of Goods Sold/Sales: The decreasing cost of goods sold to sales percentage

might be due to the following:

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• The Walmart U.S. segment yields higher gross profit margins than

Walmart International or Sam’s Club segments. The largest growth in

number of stores is in the Walmart U.S. segment (as shown in Exhibit

4.43). Thus, there appears to be a shift in sales mix toward higher-margin

products through non-Sam’s Club stores. The sales mix figures in Exhibit

4.44 indicate a decrease in Walmart International sales as a percentage of

total sales.

• More favorable purchase prices are a result of Walmart’s increased size

and bargaining power with suppliers. Walmart credits worldwide sourcing

through its distribution centers as part of the reason for the decreased cost

of goods sold to sales percentage.

Operating, Selling, General, and Administrative Expense to Sales: The operat-

ing, selling, general, and administrative expense to sales percentage increased

Segment Data: Exhibit 4.44 indicates that the sales mix shifted away from Walmart

International toward Walmart Stores and Sam’s Clubs. The mix shift away from

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Income Taxes: Income tax expense (excluding the tax effects of interest expense)

as a percentage of sales has dropped somewhat from 1.87% in 2013 to 1.55% in

Thus, the average income tax rate declined from 36.1% in 2013 to 34.4% in 2015.

Note, however, that this decrease is masked in common-size income statements

Total Assets Turnover: The total assets turnover increased slightly from 2.34 in

2013 to 2.38 in 2014 and 2.39 in 2015.

b. Return on Common Shareholders’ Equity (ROCE)

ROCE was stable between 2013 and 2014 at 21.00% and 20.76%, respectively, but

fell to 18.15% in 2015. This trend reflects the stable but slightly increasing total

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c. Short-Term Liquidity Risk

Walmart’s short-term liquidity ratios suggest fluctuations but little change over the

d. Long-Term Solvency Risk

Walmart’s total liabilities to total assets ratio decreased slightly between 2013 and

Case 4.1: Profitability and Risk Analysis for Walmart Stores (Part B)

Target’s Higher Profit Margin for ROA: Target’s higher profit margin is con-

sistent with Target’s business model of providing higher brand-name products,

Other Revenues to Sales Percentage: Walmart receives membership fees in con-

Cost of Goods Sold to Sales Percentage: Walmart’s higher cost of goods sold as

1. Target places greater emphasis on selling trendy, brand-name products, which

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favorable purchase terms from suppliers because of its size, it chooses to pass

along the purchase price advantage to customers by way of a lower price.

2. Target offers a more pleasant shopping experience, which should increase cus-

tomers’ willingness to pay higher prices.

3. Target has a smaller proportion of food products in the sales mix that are more

commodity-like in nature and, therefore, has a lower cost of goods sold to sales

percentage.

Selling and Administrative Expense Percentage: Target’s higher selling and

administrative expense to sales percentage likely results from three factors:

Walmart’s Higher Assets Turnover: Walmart’s higher asset turnover results

from higher asset turnovers for accounts receivable, inventories, and fixed assets.

Accounts Receivable Turnover: Walmart’s faster accounts receivable turnover

results from its business model where customers pay with cash or by credit card,

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two companies are similar, so Walmart’s advantage on the fixed asset turnover is

in the numerator.

b. Walmart’s higher ROA over Carrefour results from higher profit margins for ROA

and a faster assets turnover. (Note: Variation in the value of the euro relative to the

Selling and Administrative Expense Percentage: Carrefour and Walmart exhibit

similar selling and administrative expense relative to sales. Additionally, both

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Other Asset Turnover: Because Carrefour has lower total assets turnover com-

c. One would expect Walmart, with its higher ROA, to have a greater capacity to take

advantage of financial leverage. The higher ROA would likely provide it with a

d. Carrefour has the most short-term liquidity risk. Its current ratio is considerably

less than 1.0, and its cash flow from operations is much less than the 40% found

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Profitability Analysis