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)
(Dollars in thousands)
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:
(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
Inventory
53.0
38.0
Prepaid expenses
6.0
7.0
Property, plant, and
equipment, net
197,650
33.5
224,400
42.5
239,085
49.5
Total assets
$590,000
100.0%
$528,000
100.0%
$483,000
100.0%
Inventory, as a percent of total assets, has grown dramatically. Property,
(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
0.2
Income tax expense
672
4.2
154
2.2
Net income
$ 1,216
7.6%
$ 728
10.4%
Carlton earned more net income, but Lofton’s net income was a higher
percentage of net sales. Students can argue that Carlton is more
(5-10 min.) S 13-5
2016
2015
2014
Total current assets
Total current liabilities
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
Receivables, net
=
+ 246
+ 256
Total current liabilities
$1,212
$1,144
Quick (acid-test) ratio
(10-15 min.) S 13–7
(Dollar amounts in millions)
a.
Inventory turnover
=
Cost of goods sold
=
$2,519
Average inventory
($90 + $82) / 2
=
29.3 times
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):
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
creditors. Companies who continue to do this could face future credit
(5-10 min.) S 13-8
(Dollar amounts in millions)
$7,260
Gagnon, Inc.’s debt ratio is 81.2%.
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
Leverage ratio
=
Average total assets
=
($7,260 + $6,564) / 2
=
4.823
d.
Average common
stockholders’ equity
($1,366 + $1,500) / 2
e.
Rate of return
Net Preferred
on common
=
income − dividends
=
$565 − $0
=
39.4%*
stockholders’
Average common
$1,433
equity
stockholders’ equity
*Slight difference due to rounding.
(5-10 min.) S 13–10
(Amounts, except per-share amounts, in millions)
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
Administrative expenses
Income before taxes
Income tax expense
325 (c)
Net income
$ 720 (d)
(a)
$780 + $750
× 4 = $3,060
2
(b)
(d)
(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
Liabilities
Total current assets
Common stock
Plant assets, net
Retained earnings
Other assets
Total liabilities and
Total assets
$6,500
equity
$6,500 (f)
(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)
=
$2,250 × 1.10 = $2,475
(a)
=
$2,250 × 0.20 = $450; $450 − $260 = $190
(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
This suggests that cash flow is stronger at Tower.org.
5. Tower.org’s gross profit percentage is higher than Graphics
Imaging’s.
6. Graphics Imaging is better than Tower.org on inventory turnover and
net income as a percentage of sales. These ratios provide insight
Student responses may vary.
(10 min.) S 13-14
(Dollars in thousands)
EVA®
=
Net
+
Interest
−
Capital
income
before tax
expense
charge
_____
*Capital
=
Long-term
+
Stockholders’
×
Cost of
charge
debt
equity
capital
=
($750
+
$3,250)
×
.12
=
$480*
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 ………………
238,000
263,000
(25,000)
(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 ……
140%
122%
107%
100%
100%
Net income ……….
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 ……………
199,640
71.30
Other assets ……………………………………………..
38,920
13.90
Total assets ………………………………………………
$280,000
100.00%
LIABILITIES
Total current liabilities ……………………………….
$ 47,320
16.90%
Long-term debt …………………………………………
106,120
37.90
Total liabilities …………………………………………..
STOCKHOLDERS’ EQUITY
Total stockholders’ equity ………………………….
126,560
45.20
Total liabilities and stockholders’ equity …….
$280,000
100.00%
(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 …………………………..……………
Selling and general expenses ………………………..
Interest expense ……………………………………………
Income tax expense ………………………………………
9.45
9.14
(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.
5. Overall, cash decreased for the year examined.
(10-15 min.) E 13-21A
Req. 1
Current Year
Prior Year
a.
$194,000
$205,000
$133,000
$95,000
= 1.46
= 2.16
b.
Quick (acid-test)
ratio
$24,000 + $12,000 +
$58,000
$30,000+ $21,000 +
$71,000
$133,000
$95,000
= .71
= 1.28
c.
Inventory
$277,000
$288,000
turnover
($90,000 + $73,000) / 2
($73,000 + $59,000) / 2
= 3.40
= 4.36
Days’ inventory
365
365
outstanding (DIO)
3.40
4.36
($58,000 + $71,000) / 2
($71,000 + $40,000) / 2
= 7.61
= 9.12
e.
365
365
9.12
(continued) E 13-21A
f.
Payables
$277,000
$288,000
turnover
($40,000 + $70,000) / 2
($70,000 + $30,000) / 2
g.
Cash conversion
107 + 48 – 72
84 + 40 – 63
cycle ( DIO + DSO
– DPO)
= 83 days
= 61 days
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
sales and keep less inventory on hand, as well as tighten collection
policies. This will provide more cash that can be used to pay off
payables more quickly.
(15-20 min.) E 13-22A
a. Net working capital (Current assets – Current liabilities)
b. Current ratio (Current assets ÷ Current liabilities)
2016:
$434,000
=
1.91
2015:
$485,000
=
1.78
$227,000
$272,000
c. Quick (acid-test) ratio ([Cash + Short-term investments + Net
receivables] ÷ Current liabilities)
d. Debt ratio (Total liabilities ÷ Total assets)
2016:
$324,000**
=
0.57
2015:
$376,000**
=
0.77
$570,000
$490,000
e. Times-interest-earned ratio (Income from operations ÷ Interest
expense)
2016:
$194,000
=
4.62
2015:
$150,000
=
3.41
$42,000
$44,000