Documente Academic
Documente Profesional
Documente Cultură
com
Chapter 16
How Well Am I Doing?
Financial Statement Analysis
Solutions to Questions
16-1 Horizontal analysis examines how a particular item on a financial statement such as
sales or cost of goods sold behaves over time.
Vertical analysis involves analysis of items on an
income statement or balance sheet for a single
period. In vertical analysis of the income statement, all items are typically stated as a percentage of sales. In vertical analysis of the balance
sheet, all items are typically stated as a percentage of total assets.
16-2 By looking at trends, an analyst hopes
to get some idea of whether a situation is improving, remaining the same, or deteriorating.
Such analyses can provide insight into what is
likely to happen in the future. Rather than looking at trends, an analyst may compare one
company to another or to industry averages using common-size financial statements.
16-3 Price-earnings ratios reflect investors
expectations concerning future earnings. The
higher the price-earnings ratio, the greater the
growth in earnings investors expect. For this
reason, two companies might have the same
current earnings and yet have quite different
price-earnings ratios. By definition, a stock with
current earnings of $4 and a price-earnings ratio
of 20 would be selling for $80 per share.
16-4 A rapidly growing tech company would
probably have many opportunities to make investments at a rate of return higher than stockholders could earn in other investments. It
would be better for the company to invest in
such opportunities than to pay out dividends
and thus one would expect the company to have
a low dividend payout ratio.
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
909
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
Sales.....................................................
Cost of goods sold .................................
Gross margin .........................................
Selling and administrative expenses:
Selling expenses .................................
Administrative expenses ......................
Total selling and administrative expenses
Net operating income.............................
Interest expense ...................................
Net income before taxes ........................
100.0%
58.6
41.4
18.5
8.9
27.4
10.3
1.2
9.1 %
18.2
10.3
28.5
12.9
1.4
11.5%
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
Price-earnings ratio =
911
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
$3,540 - $120
= 10.9%
$31,270
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
$25,080
10,400
$14,680
Current ratio =
$ 9,100
12,300
$10,700
Sales on account
Accounts receivable =
turnover
Average accounts receivable balance
$79,000
=
= 7.4
$10,700
913
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
$8,200
9,700
$8,950
Inventory turnover =
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
$6,500
= 10.8
$600
Debt-to-equity ratio =
915
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
120.0
115.0
110.0
100.0
Current assets:
Cash .............................. 60.0
Accounts receivable ........ 190.0
Inventory ....................... 125.0
Total current assets ........... 142.1
80.0
170.0
120.0
133.7
96.0
135.0
115.0
120.3
130.0
115.0
110.0
112.6
100.0
100.0
100.0
100.0
145.0
130.0
110.0
100.0
2. Sales:
Assets:
The most noticeable thing about the assets is that the accounts receivable have been increasing at a rapid rate
far outstripping the increase in sales. This disproportionate increase in receivables is probably the chief cause of
the decrease in cash over the five-year period. The inventory seems to be growing at a well-balanced rate in comparison with sales.
Liabilities:
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
$322,000
= 9.8% (rounded)
$3,300,000
$2,300,000
900,000
$1,400,000
$280,000 - $72,000
=14.9% (rounded)
$1, 400,000
917
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
2. Current ratio:
Current assets
$115,000
=
= 2.3
Current liabilities
$50,000
3. Acid-test ratio:
Quick assets
$41,500
=
= 0.83
Current liabilities
$50,000
4. Debt-to-equity ratio:
Total liabilities
$130,000
=
= 0.76 (rounded)
Total stockholders' equity
$170,000
Sales on account
Average accounts receivable
$420,000
= 14
($25,000 + $35,000)/2
365 days
Accounts receivable turnover
365 days
= 26.1 days (rounded)
14
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
$38,000
= 4.75
$8,000
919
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
4. Price-earnings ratio:
Market price per share
$42.00
=
= 12
Earnings per share
$3.50
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
$26,600
= 9.2% (rounded)
$290,000
$21,000
1/2 ($161,600+$170,000)
$21,000
= 12.7% (rounded)
$165,800
3. Financial leverage was positive because the rate of return to the common stockholders (12.7%) was greater than the rate of return on total
assets (9.2%). This positive leverage is traceable in part to the companys current liabilities, which may have no interest cost, and in part, to
the bonds payable, which have an after-tax interest cost of only 7%.
10% interest rate (1 0.30) = 7%
921
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
Kr850,000
340,000
Kr510,000
2. Acid-test
Cash + Marketable securities + Accounts receivable
=
ratio
Current liabilities
=
Kr810,000
300,000
Kr510,000
Current assets
Current liabilities
Kr810,000
= 2.7
Kr300,000
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
150,000
30,000
20,000
200,000
923
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
(a)
(b)
(c)
(d)
(e)
(f)
(g)
(h)
(i)
(j)
(k)
(l)
Transaction
The Effect on
Working Current Acid-Test
Capital
Ratio
Ratio
Increase
Increase
None
Decrease
None
None
Decrease
None
None
Decrease
Decrease
None
Increase
Increase
None
Decrease
Increase
Decrease
Decrease
Decrease
Increase
Decrease
Decrease
None
Increase
Increase
None
Decrease
Increase
Decrease
Increase
Decrease
Increase
Decrease
Decrease
None
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
This Year
Last Year
$550,000
$800,000
0.69
$468,000
$430,000
1.09
$4,350,000
$275,000
15.8
28.5 days
23.1 days
73.0 days
57.9 days
$472,000
$72,000
6.6
$352,000
$72,000
4.9
925
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
Sabin Electronics
Common-Size Balance Sheets
Current assets:
Cash ......................................................
2.3 %
Marketable securities ..............................
0.0
Accounts receivable, net ......................... 16.0
Inventory ............................................... 31.7
Prepaid expenses ...................................
0.7
Total current assets ................................... 50.7
Plant and equipment, net .......................... 49.3
Total assets .............................................. 100.0 %
Current liabilities ....................................... 26.7 %
Bonds payable, 12% ................................. 20.0
Total liabilities ........................................ 46.7
Stockholders equity:
Preferred stock, $25 par, 8% ...................
8.3
Common stock, $10 par .......................... 16.7
Retained earnings .................................. 28.3
Total stockholders equity .......................... 53.3
Total liabilities and equity .......................... 100.0 %
6.1 %
0.7
12.2
24.4
0.9
44.3
55.7
100.0 %
17.5 %
24.4
41.9
10.2
20.3
27.6
58.1
100.0 %
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
Sabin Electronics
Common-Size Income Statements
100.0 %
79.3
20.7
12.6
8.1
1.7
6.4
1.9
4.5 %
3. The following points can be made from the analytical work in parts (1)
and (2) above:
a. The company has improved its profit margin from last year. This is attributable primarily to an increase in gross margin, which is offset
somewhat by a small increase in operating expenses. Overall, the
companys income statement looks very good.
b. The companys current position has deteriorated significantly since
last year. Both the current ratio and the acid-test ratio are well below
the industry average and are trending downward. At the present rate,
it will soon be impossible for the company to pay its bills as they
come due.
c. The drain on the cash account seems to be a result mostly of a large
buildup in accounts receivable and inventory. Notice that the average
age of the receivables has increased by five days since last year, and
now is 10 days over the industry average. Many of the companys
customers are not taking their discounts because the average collection period is 28 days and collections terms are 2/10, n/30. This suggests financial weakness on the part of these customers, or sales to
customers who are poor credit risks.
927
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
50,000
50,000
$5.20
$3.52
$1.80
$40.00
4.5%
$1.50
$36.00
4.2%
$1.80
$5.20
34.6%
$1.50
$3.52
42.6%
$40.00
$5.20
7.7
$36.00
$3.52
10.2
Investors regard Sabin Electronics less favorably than other companies in the industry. This is evidenced by the fact that they are willing
to pay only 7.7 times current earnings for a share of Sabins stock, as
compared to 12 times current earnings for other companies in the industry. If investors were willing to pay 12 times current earnings for
Sabins stock, it would be selling for about $62.40 per share (12
$5.20), rather than for only $40 per share.
929
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
This Year
Last Year
50,000
50,000
$27.00
$23.60
The market value is above book value for both years. However, this
does not necessarily indicate that the stock is overpriced. Market value reflects investors perceptions of future earnings, whereas book
value is a result of already completed transactions.
2. a. Net income ........................................... $ 280,000 $ 196,000
Add after-tax cost of interest paid:
[$72,000 (1 0.30)] ........................
50,400
50,400
Total (a) ................................................ $ 330,400 $ 246,400
Average total assets (b) ......................... $2,730,000 $2,380,000
Return on total assets (a) (b) ..............
12.1%
10.4%
20.6%
15.6%
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
931
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
This Year
Last Year
504,000
210,000
714,000
6.8%
$
$
840,000
144,000
696,000
5.1%
$
$
504,000
144,000
360,000
$ 9,360,000
1,800,000
$ 7,560,000
$ 9,084,000
1,800,000
$ 7,284,000
9.2%
4.9%
c. Leverage is positive for this year because the return on common equity (9.2%) is greater than the return on total assets (6.8%). For last
year, leverage is negative because the return on common equity
(4.9%) is less than the return on total assets (5.1%).
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
This Year
Last Year
$696,000
$360,000
75,000
$9.28
75,000
$4.80
$2.88
$72.00
4.0%
$1.44
$40.00
3.6%
$2.88
$9.28
31.0%
$1.44
$4.80
30.0%
$72.00
$9.28
7.8
$40.00
$4.80
8.3
Notice from the data given in the problem that the typical P/E ratio
for companies in Lydex Companys industry is 10. Since Lydex Company presently has a P/E ratio of only 7.8, so investors appear to regard it less well than they do other companies in the industry. That is,
investors are willing to pay only 7.8 times current earnings for a share
of Lydex Companys stock, as compared to 10 times current earnings
for a share of stock for the typical company in the industry.
e. Stockholders equity ............................... $9,600,000
Less preferred stock ............................... 1,800,000
Common stockholders equity (a) ............ $7,800,000
$9,120,000
1,800,000
$7,320,000
75,000
75,000
$104.00
$97.60
933
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
This Year
Last Year
This Year
Last Year
$7,800,000
3,900,000
$3,900,000
$5,940,000
2,760,000
$3,180,000
$7,800,000
$3,900,000
2.0
$5,940,000
$2,760,000
2.15
$3,660,000
$3,900,000
0.94
$3,360,000
$2,760,000
1.22
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
This Year
Last Year
935
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
Lydex Company
Comparative Balance Sheets
Current assets:
Cash ...................................................
Marketable securities............................
Accounts receivable, net .......................
Inventory ............................................
Prepaid expenses .................................
Total current assets ................................
Plant and equipment, net ........................
Total assets ............................................
Current liabilities ....................................
Note payable, 10% .................................
Total liabilities ........................................
Stockholders equity:
Preferred stock, 8%, $30 par value .......
Common stock, $80 par value...............
Retained earnings ................................
Total stockholders equity ........................
Total liabilities and equity ........................
18.5 %
20.2
38.7
10.5
12.1
35.1
40.3
10.5
8.9
56.1
61.3
100.0 % 100.0 %
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
Lydex Company
Comparative Income Statements
100.0 %
79.3
20.7
12.5
8.2
2.4
5.8
1.7
4.0 %*
937
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
1.
Effect on
Ratio
Decrease
2.
Increase
A sale of inventory on account will increase the quick assets (cash, accounts receivable, marketable securities) but
have no effect on the current liabilities. For this reason,
the acid-test ratio will increase. The same effect would result regardless of whether the inventory was sold at cost,
at a profit, or at a loss. That is, the acid-test ratio would
increase in all cases; the only difference would be the
amount of the increase.
3.
Increase
The interest rate on the bonds is only 8%. Since the companys assets earn at a rate of return of 10%, positive leverage would come into effect, increasing the return to
the common stockholders.
4.
Decrease
A decrease in net income would mean less income available to cover interest payments. Therefore, the timesinterest-earned ratio would decrease.
5.
Increase
Payment of a previously declared cash dividend will reduce both current assets and current liabilities by the
same amount. An equal reduction in both current assets
and current liabilities will always result in an increase in
the current ratio, so long as the current assets exceed the
current liabilities.
6.
No Effect
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
7.
Effect on
Ratio
Increase
8. Decrease
9. Decrease
10. Decrease
11. No Effect
Book value per share is dependent on historical costs of already completed transactions as reflected on a companys
balance sheet. It is not affected by current market prices
for the companys stock.
12. No Effect
13. Decrease
939
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
Effect on
Ratio
14. Decrease
15. Decrease
16. No Effect
17. Increase
18. Decrease
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
941
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
$4,200,000
2,730,000
1,470,000
930,000
540,000
80,000
460,000
138,000
$ 322,000
Key to
Computation
(h)
(i)
(j)
(a)
(b)
(c)
(d)
Pepper Industries
Balance Sheet
March 31
Current assets:
Cash..............................................
Accounts receivable, net .................
Inventory.......................................
Total current assets...........................
Plant and equipment .........................
Total assets ......................................
Current liabilities ...............................
Bonds payable, 10% .........................
Total liabilities ...................................
Stockholders equity:
Common stock, $5 par value ...........
Retained earnings ..........................
Total stockholders equity ..................
Total liabilities and equity ..................
70,000
330,000
480,000
880,000
1,520,000
$2,400,000
(f)
(e)
(g)
(g)
(q)
(p)
$ 320,000
800,000
1,120,000
(k)
(l)
700,000
580,000
1,280,000
$2,400,000
(m)
(o)
(n)
(p)
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
= 6.75
Therefore, the earnings before interest and taxes for the year must be
$540,000.
b. Net income before taxes = $540,000 $80,000 = $460,000
c. Income taxes = $460,000 30% tax rate = $138,000
d. Net income = $460,000 $138,000 = $322,000
e.
Sales on account
Accounts receivable =
turnover
Average accounts receivable balance
=
$4,200,000
Average accounts receivable balance
= 14.0
Therefore, the average accounts receivable balance for the year must
have been $300,000. Since the beginning balance was $270,000, the
ending balance must have been $330,000.
f.
Acid-test ratio=
= 1.25
The McGraw-Hill Companies, Inc., 2010. All rights reserved.
Solutions Manual, Chapter 16
943
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
Current ratio =
=
Current assets
Current liabilities
Current assets
$320,000
= 2.75
Therefore, the current assets must total $880,000. Because the quick
assets (cash and accounts receivable) total $400,000 of this amount, the
inventory must be $480,000.
h.
Inventory turnover =
= 6.5
Therefore, the cost of goods sold for the year must be $2,730,000.
i. Gross margin = $4,200,000 $2,730,000 = $1,470,000.
j.
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
$322,000
Average number of common shares outstanding
= $2.30
The stock is $5 par value per share, so the total common stock must be
$700,000.
n.
Debt-to-equity ratio =
Total liabilities
Stockholders' equity
$1,120,000
Stockholders' equity
= 0.875
945
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
This answer can also be obtained using the return on total assets:
Return on = Net income + [Interest expense (1 - Tax rate)]
total assets
Average total assets
=
$378,000
Average total assets
= 18.0%
Therefore the average total assets must be $2,100,000. Since the total
assets at the beginning of the year were $1,800,000, the total assets at
the end of the year must have been $2,400,000 (which would also equal
the total of the liabilities and the stockholders equity).
q.
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
Current assets
Current liabilities
$290,000
= 1.8 (rounded)
$164,000
Acid-test ratio =
=
The company would fail to qualify for the loan because both its current
ratio and its acid-test ratio are too low.
947
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
Current assets
Current liabilities
$290,000 + $45,000
= 2.0 (rounded)
$164,000
Acid-test ratio =
=
Even if this tactic had succeeded in qualifying the company for the loan,
we strongly advise against it. Inventories are assets the company has
acquired to sell to customers in the normal course of business. Used
production equipment is not inventoryeven if there is a clear intention
to sell it in the near future. The loan officer would not expect used
equipment to be included in inventories; doing so would be intentionally
misleading.
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
Current assets
Current liabilities
$290,000 + $45,000
= 2.0 (rounded)
$164,000
Acid-test ratio =
=
However, other options may be available. The old machine is being used
to relieve bottlenecks in the plastic injection molding process and it
would be desirable to keep this standby capacity. We would advise Russ
to fully and honestly explain the situation to the loan officer. The loan
officer might insist that the machine be sold before any loan is approved, but she might instead grant a waiver of the current ratio and
acid-test ratio requirements on the basis that they could be satisfied by
selling the old machine. Or she may approve the loan on the condition
that the machine is pledged as collateral. In that case, Russ would only
have to sell the machine if he would otherwise be unable to pay back
the loan.
949
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
2004
$45,682
$1,885
2004
155%
196%
2003
2002
$40,928
$1,619
$36,519
$1,376
2003
2002
139%
168%
124%
143%
2001
2000
2001
2000
$32,602 $29,462
$1,101
$962
111%
114%
100%
100%
The data reveal that Target has increased sales by 55% over the last five years. More importantly,
the sales growth has been profitable; Targets earnings from continuing operations have increased
96% over the same time period. Also, Target has consistently improved its performance. There were
no unexpected drops in sales or earnings. This type of consistency is valued by investors.
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
Assets
Current assets:
Cash and cash equivalents...........................
Accounts receivable, net ..............................
Inventory ...................................................
Other current assets....................................
Current assetsdiscontinued .......................
Total current assets ....................................
Property and equipment:
Land ..........................................................
Buildings and improvements ........................
Fixtures and equipment ...............................
Construction-in-progress .............................
Accumulated depreciation ............................
Property and equipment, net ..........................
Other non-current assets ...............................
Non-current assetsdiscontinued ...................
Total assets...................................................
2004
2003
Common-Size
Percentages
2004
2003
$ 2,245
5,069
5,384
1,224
0
13,922
$ 708
4,621
4,531
1,000
2,092
12,952
6.9%
15.7%
16.7%
3.8%
0%
43.1%
2.2%
14.7%
14.4%
3.2%
6.7%
41.2%
3,804
12,518
4,988
962
( 5,412)
16,860
1,511
0
$32,293
3,312
11,022
4,577
969
( 4,727)
15,153
1,377
1,934
$31,416
11.8%
38.8%
15.4%
3.0%
( 16.8%)
52.2%
4.7%
0.0%
100.0%
10.5%
35.0%
14.6%
3.1%
( 15.0%)
48.2%
4.4%
6.2%
100.0%
951
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
2004
2003
Common-Size
Percentages
2004
2003
$ 5,779
1,633
304
504
0
8,220
9,034
973
1,037
0
19,264
$ 4,956
1,288
382
863
825
8,314
10,155
632
917
266
20,284
17.9%
5.1%
0.8%
1.6%
0.0%
25.5%
28.0%
3.0%
3.2%
0.0%
59.7%
15.8%
4.1%
1.2%
2.8%
2.6%
26.5%
32.3%
2.0%
2.9%
0.9%
64.6%
74
1,810
11,148
(
3)
13,029
$32,293
76
1,530
9,523
3
11,132
$31,416
0.2%
5.6%
34.5%
( 0.0%)
40.3%
100.0%
0.2%
4.9%
30.3%
0.0%
35.4%
100.0%
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
2004
2003
Sales ..............................
Cost of sales ...................
Gross margin ..................
$45,682
31,445
$14,237
$40,928
28,389
$12,539
$14,237
$45,682
31.2%
$12,539
$40,928
30.6%
$9,797
$45,682
21.4%
$8,657
$40,928
21.2%
Target uses sales instead of total revenues as a base because total revenues include net credit card revenues. Page 17 of the annual report
says Net credit card revenues represent income derived from finance
charges, late fees and other revenues from use of our Target Visa and
proprietary Target Card. These sources of revenue do not relate to the
companys primary business operations. Computing common-size income statement percentages using total revenue as the baseline could
potentially distort conclusions about operational performance.
4. The calculations for these ratios are shown below (all numbers except
per share information and percentages are in millions):
2004
$1,885
903.8
$2.09
953
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
Price-earnings ratio:
2004
$49.49
$2.09
23.68
$0.31
$2.09
14.8%
$0.31
$49.49
0.6%
$1,885
355
$2,240
$31,855
7.0%
*Provision for income taxes ($1,146) divided by earnings before income taxes ($3,031) = 37.8%.
$1,885
$12,081
15.6%
$13,029
890.6
$14.63
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
Working capital:
Current ratio:
Acid-test ratio:
Inventory turnover:
2004
$13,922
8,220
$ 5,702
$13,922
$8,220
1.69
$7,314
$8,220
0.89
$31,445
$4,958
6.34
365 days
6.34
57.6 days
Note to instructors: The accounts receivable turnover and average collection period are not calculated because it is impossible to determine
the portion of Targets total sales that are credit sales.
955
To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com
Debt-to-equity ratio:
2004
$3,601
$570
6.3
$19,264
$13,029
1.48