Chapter 13
Financial Statement Analysis
Ethics Check
(5-10 min.) EC 13-1
a. Integrity
b. Due care
c. Objectivity and independence
d. Integrity
Short Exercises
(5-10 min.) S 13-1
Increase (Decrease)
2016
2015
2016
2015
2013
Amount
Percent
Amount
Percent
Revenues
$20,289
$20,045
$18,449
$244
1.2%
$1,596
8.7%
Expenses
Net income
(5-10 min.) S 13-2
Trend percentages:
2016
2015
2014
2013
Net income ………
(10-15 min.) S 13–3
2016
2015
2014
Amount
Percent
Amount
Percent
Amount
Percent
Cash
$ 14,750
2.5%
$ 7,920
1.5%
$ 7,245
1.5%
Receivables, net
29,500
5.0
15,840
3.0
19,320
4.0
Inventory
312,700
53.0
237,600
45.0
183,540
38.0
Prepaid expenses
35,400
6.0
42,240
8.0
33,810
7.0
equipment, net
42.5
(10 min.) S 13-4
Carlton
Lofton
(Amounts in millions)
Amount
Percent
Amount
Percent
Net sales
$16,000
100.0%
$7,000
100.0%
Cost of goods sold
9,536
59.6
4,648
66.4
Selling and administrative
expenses
4,448
27.8
1,414
20.2
Interest expense
96
0.6
14
0.2
Other expense
32
0.2
42
0.6
Income tax expense
672
Net income
$ 1,216
10.4%
(5-10 min.) S 13-5
2016
2015
2014
Total current assets
=
$646
$596
$434
Total current liabilities
$380
$400
$350
Current ratio
(5-10 min.) S 13-6
1.
(Dollar amounts in millions)
2016
2015
Cash and cash equivalents +
$1,202
$ 902
Short-term investments +
+ 8
+ 84
$1,212
$1,144
Quick (acid-test) ratio
2. Gagnon’s 2016 quick (acid-test) ratio looks strong both because it is
slightly above 1.0 and it is higher than the ratios of the other three
(10-15 min.) S 13–7
(Dollar amounts in millions)
a.
Inventory turnover
=
Cost of goods sold
=
$2,519
Average inventory
($90 + $82) / 2
=
$2,519
=
29.3 times
$86
Days’ inventory
=
365
=
365
=
12 days
outstanding (DIO)
Inventory turnover
29.3
b.
Days’ sales outstanding (DSO):
365
____
*($246 + $256) / 2 = $251
c. Days’ payables outstanding:
365
365
(continued) S 13-7
d. Cash conversion cycle (in days):
Cash conversion
=
DIO + DSO – DPO
=
12 + 10 – 135
=
– 113
cycle
Inventory turnover and DSO look strong. Turning over inventory about
30 times per year (every 12 days) is fast, and collecting average
receivables in only 10 days is also very fast. However, the company is
taking 135 days to pay off its accounts payable. This is quite slow,
indicative of a company that is having difficulty paying its trade
(5-10 min.) S 13-8
(Dollar amounts in millions)
1.
Debt ratio
=
Total liabilities
=
$5,894
=
0.812
Total assets
$7,260
2.
Times-interest-
=
Income from operations
=
$952 + $194
=
5.9
earned ratio
Interest expense
$194
(10 min.) S 13-9
(Dollar amounts in millions)
a.
Rate of return on sales
=
Net income
=
$565
=
5.94%
Net sales
$9,505
=
=
b.
($7,260 + $6,564) / 2
c.
Rate of return
Rate of return
on sales
x
Asset
turnover
on total assets
=
5.94%
x
1.375
(ROA)
=
8.17%
Leverage ratio
=
Average total assets
=
($7,260 + $6,564) / 2
=
4.823
d.
Average common
stockholders’ equity
($1,366 + $1,500) / 2
stockholders’
Average common
stockholders’ equity
(5-10 min.) S 13–10
(Amounts, except per-share amounts, in millions)
1.
EPS
=
Net income − Preferred dividends
Number of shares of common
=
$1,200 − $10*
700
stock outstanding
=
$1.70
Market price per share
of common stock
Price/earnings
ratio
=
=
$19.98
=
11.75
EPS
$1.70
(10-15 min.) S 13–11
Income Statement
Thousands
Net sales
$7,200
Cost of goods sold
3,060 (a)
Selling expenses
1,516
Administrative expenses
1,334
Income before taxes
Income tax expense
Net income
(a)
$780 + $750
× 4 = $3,060
2
(b)
$7,200 − $3,060 − $1,516 − $1,334 − $153 − $1,045 = $92
(d)
$7,200 × 0.10 = $720
(c)
$1,045 − $720 = $325
(15-20 min.) S 13–12
Balance Sheet
(Dollars in thousands)
Cash
$ 260
Total current liabilities
$2,250
Receivables
190 (a)
Long-term debt
540 (e)
Inventories
750
Other long-term
Prepaid expenses
1,275 (b)
Liabilities
980
Total current assets
2,475 (c)
Common stock
Plant assets, net
Retained earnings
Other assets
Total assets
equity
(f)
=
$6,500 (same as total assets)
(e)
=
$6,500 × 0.58 = $3,770
$3,770 − $2,250 − $980 = $540
Or
$6,500 − $2,570 − $160 − $980 − $2,250 = $540
(c)
=
(a)
=
(d)
=
$6,500 − $2,475 − $2,450 = $1,575
(15-20 min.) S 13–13
TO: Cole Binder Investment Committee
FROM: Student Name
SUBJECT: Investment Recommendation
I recommend that we invest in Tower.org for the following reasons:
1. Tower.org’s. return on equity (ROE) is 5% higher than Graphics
Imaging’s. An investment in Tower.org should therefore produce a
higher return than an investment in Graphics Imaging’s stock.
2. Tower.org’s ROE exceeds its return on assets by a wider margin than
does Graphics Imaging’s. This means that Tower.org is earning more
with its borrowed funds than Graphics Imaging is earning.
3. Tower.org can cover its interest expense with operating income 19
times compared to 13 times for Graphics Imaging.
(10 min.) S 13-14
(Dollars in thousands)
EVA®
=
Net
+
Interest
−
Capital
income
before tax
expense
charge
=
$730
+
$403
−
$480*
=
$653
Exercises
(5-15 min.) E 13-15A
2016
2015
2014
Total current assets
$643,260
$299,000
$300,000
Total current liabilities
The continued increase in 2016 net working capital is favorable.
(10-15 min.) E 13-16A
Connor Music Co.
Horizontal Analysis of Comparative Income Statements
Years Ended December 31, 2016 and 2015
INCREASE (DECREASE)
2016
2015
AMOUNT
PERCENT
Total revenue ………………
$836,000
$938,000
$(102,000)
(10.9)%
Expenses:
Cost of goods sold ……
$408,000
$409,350
$ (1,350)
(0.3)
Selling and general
expenses ………………
(9.5)
Interest expense ……….
Income tax expense ….
Total expenses …………
(5-10 min.) E 13-17A
Trend percentages:
Year 4
Year 3
Year 2
Year 1
Year 0
Total revenue ……
Net income ……….
100
140%
122%
107%
100%
100%
(10-15 min.) E 13-18A
Curtis Golf Company
Vertical Analysis of Balance Sheet
December 31, 2016
AMOUNT
PERCENT
ASSETS
Total current assets …………………………………..
$ 41,440
14.80%
Property, plant, and equipment, net ……………
Other assets ……………………………………………..
38,920
Total assets ………………………………………………
LIABILITIES
Total current liabilities ……………………………….
$ 47,320
16.90%
Long-term debt …………………………………………
106,120
37.90
Total liabilities …………………………………………..
153,440
54.80
STOCKHOLDERS’ EQUITY
126,560
45.20
(10-15 min.) E 13-19A
Connor Music Co.
Comparative Common-Size Income Statements
Years Ended December 31, 2016 and 2015
2016
2015
Total revenue ……………………………………………………
100.00%
100.00%
Expenses:
Cost of goods sold …………………………..……………
48.80
43.64
Selling and general expenses ………………………..
28.47
28.04
Interest expense ……………………………………………
Income tax expense ………………………………………
(10-15 min.) E 13-20A
1. Operations provided very little cash. The company is selling fixed
assets to generate cash.
2. Selling fixed assets and purchasing no new fixed assets suggests
financial weakness.
3. Beckwith Orchards paid dividends which were a large percentage of
its net income. The business can’t grow by paying such high
dividends.
(10-15 min.) E 13-21A
Req. 1
Current Year
Prior Year
a.
Current ratio
$194,000
$205,000
$133,000
$95,000
= 1.46
= 2.16
$71,000
$133,000
$95,000
= 1.28
c.
$277,000
$288,000
($90,000 + $73,000) / 2
($73,000 + $59,000) / 2
= 3.40
= 4.36
Days’ inventory
365
365
outstanding (DIO)
3.40
4.36
= 107 days
= 84 days
d.
Receivables
$491,000
$506,000
turnover
($58,000 + $71,000) / 2
($71,000 + $40,000) / 2
= 7.61
= 9.12
e.
365
365
9.12
= 40 days
(continued) E 13-21A
f.
Payables
$277,000
$288,000
turnover
($40,000 + $70,000) / 2
($70,000 + $30,000) / 2
= 5.04
= 5.76
Days’ payables
365
365
outstanding (DPO)
5.04
5.76
= 72 days
= 63 days
g.
Cash conversion
Req. 2
a. deteriorated
b. deteriorated
c. deteriorated
Req. 3
The factors that need the most improvement are inventory turnover and
collection of accounts receivable. The company needs to make more
(15-20 min.) E 13-22A
a. Net working capital (Current assets – Current liabilities)
2016:
$434,000* – $227,000 = $207,000
2015:
$485,000* – $272,000 = $213,000
c. Quick (acid-test) ratio ([Cash + Short-term investments + Net
receivables] ÷ Current liabilities)
2016:
$22,000 + $34,000 + $121,000
=
0.78
$227,000
2015:
$51,000 + $23,000 + $131,000
=
0.75
$272,000
_____
* Current assets 2016 = $22,000 + $34,000 + $121,000 + $238,000 + $19,000 = $434,000
Current assets 2015 = $51,000 + $23,000 + $131,000 + $273,000 + $7,000 = $485,000
** Total liabilities 2016 = $227,000 + $97,000 = $324,000
Total liabilities 2015 = $272,000 + $104,000 = $376,000
The company’s ability to pay current liabilities improved as evidenced
by the improvement in items b. – d. The company’s ability to cover
interest expense improved as evidenced by item e.