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
(5-10 min.) S 13-2
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,
Net income
$ 1,216
7.6%
$ 728
10.4%
Carlton earned more net income, but Lofton’s net income was a higher
(5-10 min.) S 13-5
1.
2. Gagnon’s 2016 quick (acid-test) ratio looks strong both because it is
(10-15 min.) S 13-7
(Dollar amounts in millions)
outstanding (DSO)
One day’s
$26.0
sales
(continued) S 13-7
=
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
3. The debt ratio is high. The ability to pay off debt is weak. The
= 8.17% x 4.823 = 39.4%*
(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
(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
160
Plant assets, net
1,575 (d)
Retained earnings
2,570
(15-20 min.) S 13-13
6. Graphics Imaging is better than Tower.org on inventory turnover and
net income as a percentage of sales. These ratios provide insight
about companies’ operations, but ROE and interest coverage are
(10 min.) S 13-14
(Dollars in thousands)
EVA®
=
Net
+
Interest
−
Capital
income
before tax
expense
charge
=
$730
+
$403
−
$480*
Exercises
(5-15 min.) E 13-15A
34.0%
26.0%
The continued increase in 2016 net working capital is favorable.
(10-15 min.) E 13-16A
Net income ......................
$101,500
$165,900
$(64,400)
(38.8)%
(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%
5. Overall, cash decreased for the year examined.
= 1.46
= 2.16
outstanding (DIO)
3.40
4.36
(continued) E 13-21A
outstanding (DPO)
5.04
5.76
= 72 days
= 63 days
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
d. deteriorated
e. deteriorated
f. deteriorated
(15-20 min.) E 13-22A
2016:
=
4.62
2015:
=
3.41
$42,000
$44,000
_____
2016:
=
0.46
2015:
=
0.44
$190,000
$240,000
(continued) E 13-23A
(10-15 min.) E 13-24A
=
9.40
=
11.50
($114,000 − $5,250*) / 43,500
($70,500 − $5,250*) / 43,500
$23.50
$17.25
=
$4.36
=
$9.19
43,500
43,500
The stock’s attractiveness decreased during 2016, as shown by the
decreases in the price/earnings ratio, dividend yield and in book value
per share. Overall, the common stock looks less attractive than it did a
year ago.
$543) × .095]
.095]
(5-15 min.) E 13-26B
(75.0%)
(54.0%)
The decrease in net working capital is unfavorable.
Net income ......................
$188,000
$153,100
$ 34,900
22.8%
(5-10 min.) E 13-28B
Trend percentages:
(10-15 min.) E 13-29B
Total liabilities and stockholders’ equity .........
$310,000
100.00%
(10-15 min.) E 13-32B
= 1.96
= 3.07
outstanding (DIO)
3.33
4.13
outstanding (DSO)
5.95
8.86
= 61 days
= 41 days
(continued) E 13-32B
outstanding (DPO)
3.50
4.65
= 104 days
= 78 days
g.
Cash conversion
110 + 61 – 104
88 + 41 – 78
cycle ( DIO + DSO
– DPO)
= 67 days
= 51 days
Req. 2
a. deteriorated
b. deteriorated
(15-20 min.) E 13-33B
2016:
=
6.58
2015:
=
2.83
$38,000
$46,000
_____
* Current assets 2016 = $22,000 + $26,000 + $123,000 + $235,000 + $14,000 = $420,000
Current assets 2015 = $48,000 + $19,000 + $132,000 + $269,000 + $6,000 = $474,000
** Total liabilities 2016 = $217,000 + $77,000 = $294,000
Total liabilities 2015 = $113,000 + $303,000 = $416,000
(10-15 min.) E 13-34B
(continued) E 13-34B
2016:
=
$2.40
2015:
=
$1.21
15,000
14,000
The company’s operating performance improved slightly during 2016.
(10-15 min.) E 13-35B
=
25.000
=
17.500
($91,000 − $6,300*) / 96,250
($98,700 − $6,300*) / 96,250
$22.00
$16.80
(15-20 min.) E 13-36B
Req. 1
=
$41
=
$(506)
Based on the EVA® analysis, Daniels Company appears to be the better
Quiz
Problems
(20-30 min.) P 13-49A
Req. 1 Trend percentages
=
10.2%
=
9.3%
=
11.8%
Net sales
$500
$418
$365
Avg. total
assets
$2801
$255.502
$2363
1($298 + $262) / 2
2 ($262 + $249) / 2
3($249 + $223) / 2
Asset turnover means the amount of net sales per dollar invested in
(continued) P 13-49A
x Return on sales
10.2% x 1.79
=
18.3%
9.3% x 1.64
=
15.3%
11.8% x 1.55
=
18.3%
Req. 5
Abacus Shipping’s rate of return on net sales declined from 2014 to
(20-30 min.) P 13-50A
Net income ......................................................
24.5%
10.8%
Total liabilities and stockholders’ equity ......
100.0%
100.0%
(continued) P 13-50A
Req. 2
Bryan Products’ common-size income statement shows that its ratios of
2. Operating activities provided a much smaller proportion of cash in
3. The large payments on notes payable suggest that the company has a
2016. We expect the opposite situation due to the add back of
noncash expenses such as depreciation expense.
(continued) P 13-51A
4. Net cash provided by operating activities exceeds net income.
(30-40 min.) P 13-52A
= 1.61
= 0.56
= $1.82*
$48 + $107 + $31
$673
50
$186
=
1.59
=
0.57
$186 + $8
$673 + $8
e.
No effect
No effect
No effect
(40-50 min.) P 13-53A
outstanding
5.33
5.35
(continued) P13-53A
ratio
$7.20*
$7.20*
_____
*Not in thousands.
(continued) P 13-53A
Req. 2
Decisions:
a. The company’s financial position improved during 2016 as shown by
increases in the current ratio, the quick ratio, the receivables
turnover, the inventory turnover, the cash conversion cycle, and the
times-interest-earned ratio. Return on assets and return on equity
(45-60 min.) P 13-54A
=
2.16
=
2.03
turnover:
($218 + $208) / 2
($184 + $196) / 2
=
0.236
=
0.157
ratio:
$.68*
$2.13*
_____
*Not in thousands.
(continued) P 13-54A
Decision:
Star.com’s common stock seems to fit the investment strategy better. Its
price/earnings ratio is lower than that of Westlake Shops, and Star.com
(20-30 min.) P 13-55B
Req. 1
=
10.4%
=
11.8%
=
13.8%
Net sales
$510
$400
$362
Avg. total
Assets
$2831
$257.52
$238.53
1($297 + $269) / 2
2 ($269 + $246) / 2
3($246 + $231) / 2
Asset turnover means the amount of net sales per dollar invested in
(continued) P 13-55B
2016. However, the return compares favorably with the industry average
of 9%. Return on sales dropped below the excellent industry average of
11% in 2016.
(20-30 min.) P 13-56B
Net income.........................................................
9.5%
10.8%
Total liabilities and stockholders’ equity .........
100.0%
100.0%
(continued) P 13-56B
Req. 2
Gordon Product’s common-size income statement shows that its ratios
of (a) gross profit to net sales, (b) operating income to net sales, and (c)
net income to net sales are worse than the industry averages. Overall,
(20-30 min.) P 13-57B
3. Payments on debt are high and the company is still making
investments in new property, plant, and equipment. This is not
6. Overall, cash decreased in 2016 and 2017. We would expect cash to
increase.
(continued) P 13-57B
2. The company’s heavy investments in property, plant, and equipment
3. The ending cash balance is higher than that of the other company,
4. Net cash provided by operating activities exceeds net income in 2016
and 2017, which is expected due to the adjustment for depreciation
(30-40 min.) P 13-58B
= 1.67
= 0.55
= $2.04*
$44 + $100 + $34
$677
46
$178
=
1.54
=
0.58
$178 + $45
$677 + $45
e.
No effect
No effect
No effect
*Not in thousands.
(40-50 min.) P 13-59B
outstanding
5.00
5.19
(continued) P13-59B
ratio
$4.22*
$4.10*
_____
*Not in thousands.
(continued) P 13-59B
Req. 2
Decisions:
a. The company’s financial position improved slightly during 2016 as
shown by increases in the current ratio, the quick ratio, the
receivables turnover, earnings per share, and the times-interest-
earned ratio. However, it is not a favorable trend that the inventory
turnover and accounts payable turnover both decreased, causing the
=
2.18
=
2.05
turnover:
($217 + $203) / 2
($187 + $194) / 2
=
4.94
=
0.186
ratio:
$.64*
$3.70*
*Not in thousands.
(continued) P 13-60B
Decision:
The common stock of Disc.com seems to fit the investment strategy
better. Its price/earnings ratio is lower than that of Holiday Shops, and
Disc.com appears to be in slightly better shape financially than Holiday
Shops. On several of the ratios, the two companies are relatively close.
Challenge Exercises and Problem
Given
Less Accumulated depreciation ...............
(900)
8,850
3
Total assets ($12,500 ÷ 0.50) ......................................
$25,000
1
Current liabilities ($16,150 ÷ 1.90) ..............................
$ 8,500
2
Long-term liabilities ($12,500 − $8,500) .....................
4,000
6
Stockholders’ equity ($25,000 − $12,500) ..................
12,500
5
Total liabilities and stockholders’ equity ..................
$25,000
(30-40 min.) P 13-63
Emore Corporation
Comparative Income Statements
Years Ended December 31, 2016 and 2015
2016 2015
Sales revenue ....................................... $2,100,000
$2,000,000
Cost of goods sold (a) ......................... 1,575,000
1,100,000
Gross profit (b) ..................................... 525,000
900,000
Operating expense (d) ......................... 265,000
700,000
Operating income (c) ........................... 260,000
200,000
Interest expense .................................. 20,000
20,000
Income before income tax (e) ............. 240,000
180,000
Income tax expense (30%) (f) .............. 72,000
54,000
Net income (g) ...................................... $ 168,000
$ 126,000
(continued) P 13-63
Emore Corporation
Comparative Balance Sheets
December 31, 2016 and 2015
2016 2015
ASSETS
(continued) P 13-63
(e) Income before income tax ($240,000) = Operating income – Interest expense
($260,000 – $20,000)
(f) Income tax expense ($72,000) = Income before income tax × tax rate ($240,000 ×
30%)
(g) Net income ($168,000) = Income before income tax – Income tax expense
($240,000 – $72,000)
(h) Current assets ($360,000) = Current ratio × Current liabilities (2.25 × $160,000)
(i) Cash + Accounts receivable = Quick assets ($208,000) = Quick ratio × Current
liabilities (1.30 × $160,000)
(j) Inventory ($152,000) = (h) – (i) ($360,000 – $208,000)
(k) Average accounts receivable ($140,000) = Sales ÷ Accounts receivable turnover
($2,100,000 ÷ 15)
Average accounts receivable = (Beginning + Ending) ÷ 2; $140,000 = ($145,000 +
Ending) ÷ 2; Ending = $135,000
(l) Cash ($73,000) = Quick assets – Accounts Receivable ($208,000 – $135,000)
(m) Average total assets ($1,050,000) = Sales ÷ Asset turnover ($2,100,000 ÷ 2);
Average Assets = (Beginning + Ending) ÷ 2; $1,050,000 = ($800,000 + Ending) ÷
2; Ending = $1,300,000; this amount is also total liabilities and stockholders’
equity.
(n) Average stockholders’ equity ($480,000) = (Beginning + Ending) ÷ 2; $480,000 =
($400,000 + Ending) ÷ 2; Ending = $560,000
(o) Common stock ($351,000) = Common size % × total assets (27% × $1,300,000)
Decision Cases
(20-30 min.) Decision Case 2
8.
Price/earnings ratio
Lower*
Higher*
14.
Asset turnover
Lower
Higher
(continued) Decision Case 2
CONCLUSION:
(20-30 min.) Decision Case 3
1. Make a dedicated effort to collect receivables and consider extending
2. Reduce the amount of the company’s interest-bearing debt. The
company’s short-term notes payable equal 17.1% of total assets,
compared to 14.0% for the industry average. (Interest-bearing) long-
term debt equals 19.7% of total assets, compared to 16.4% for the
3. Sell higher profit-margin products. Cost of sales is 68.2% of sales,
4. Cut operating expenses below their current level of 37.1% of sales by
finding cheaper ways of doing business. The company should
consider operating out of a less expensive building, spending less on
advertising, laying off employees, and other cost-cutting measures to
trim operating expenses.
Ethical Issue
Req. 1
The ethical issue is: Should Turnberry reclassify its investments from
long-term to short-term?
(continued) Ethical Issue
Req. 4.
Reclassifying the investments from current back to long-term may
suggest to some observers that managers are playing a shell game.
However, the case states that sales subsequent to the first
reclassification have improved the current ratio. Under these
circumstances, Turnberry may not need to sell the investments. The
managers may prefer to hold the investments beyond one year and,
therefore, need to reclassify them as long-term. In that case, the
managers’ action is appropriate.
This case illustrates how gray accounting can be. Here the debt
agreement depends on the current ratio, which is affected by an asset
classification that managers control simply by their intentions.
Because the managers’ intentions cannot be observed, it would be
Focus on Financials: Apple Inc.
$39,510
$37,037
21.61%
21.67%
$2,473
6.68%
(continued) Apple Inc.
Req. 2 (in millions) - Assets
100.00%
100.00%
$24,839
12.00%
(continued) Apple Inc.
Req. 2 (in millions) – Liabilities & Stockholder’s Equity
(continued) Apple Inc.
Req. 2 (in millions) – Analysis
The balance sheet reports that Apple increased most of the assets in
2014, except for cash, cash equivalents, and short-term investments.
2013 Amount
Financing
($37,549 – $16,379) / $16,379
129.25%
Apple generates most of its cash from its operating section. In 2014,
Apple spent most of its cash in financing activities. As noted above,
there was a 129.25% increase in net cash used in financing activities.
The line items on the statement of cash flows with the largest cash
outflows are:
Purchases of marketable securities
$217,128 million
Purchases of property, plant and equipment
$9,571 million
Dividends paid
$11,126 million
Repurchase common stock
$45,000 million
(continued) Apple Inc.
Req. 4
Focus on Analysis: Under Armour, Inc.
= 2.07
= 1.30
more liquid
inventory
= 3.13
= 3.03
slightly
= 120.3 days
= 12.59
= 12.08
payables
= 8.36
= 7.71
slightly
equity
=0.17
=0.17
change
Req. 2
Students’ responses will vary for these answers. At time of printing,
these figures were not available.
1.0 = strong buy and 5.0 = sell).
Group Projects
Comprehensive Financial Statement Analysis Project
(2-4 hours)
The following answers come from the January 31, 2015 year end 10-K of
Kohl’s Corporation.
Req. 1
a. Two competitors of Kohl’s are Target and J.C. Penney.
(Hoovers.com)
b. Kohl’s Corporation operates approximately 1,162 family-orientated
department stores in the United States. Kohl’s sells moderately
priced, exclusive and national brand apparel, footwear,
accessories, beauty and home products. Item 1A of Kohl’s Form
10-K lists the items the company sees as risks. Some of these
factors are declines in economic conditions, competition, inability
to offer merchandise inventory customers want and failure to
successfully manage inventory levels, unable to source
merchandise in a timely and cost-effective manner, increases in the
price of merchandise, raw materials, fuel and labor could drive up
the cost of goods sold and ineffective marketing.
(continued) Comprehensive Problem Kohl’s
= 4.56%
= 4.67%
on Assets
× Asset turnover
= 6.02%
= 6.30%
Share
367 – 166
364 – 153
outstanding at
year end
= $29.81
= $28.33
*From K-1
(continued) Comprehensive Problem Kohl’s
From 2013 to 2014, return on sales, asset turnover, return on assets,
Outstanding
Inventory turnover
= 115.9 days
days
= 72.5 days
= 74.8 days
=4.97
=5.15
There were no changes to the debt ratio. The quick ratio and current
ratio both increased slightly. The current ratio is strong but the quick
ratio is very low. The times interest earned ratio has also declined which
is another negative sign about liquidity. Fortunately, the debt ratio is not
extremely high. The inventory turnover ratio has declined slightly which
suggests inventory is not selling as fast. The accounts payable turnover
ratio has also declined slightly which suggests that accounts payable
are not being paid as fast.
(continued) Comprehensive Problem Kohl’s
Req. 4
a. The two main sources of cash for Kohl’s were Net Income and
Depreciation and Amortization, which is actually a non-cash
expense so it is added back to Net Income.
Net Income .....................
4.6%
4.7%
5.1%
6.2%
Net Income ....................
74.3%
76.2%
84.5%
100%
Net sales have increased from 2011 to 2012. Net sales held constant in
2013 and 2014 but exceed net sales in 2011. Net income decreased
from 2011 to 2012, 2013 and 2014.
Req. 6
a. The closing market price of Kohl’s stock on the balance sheet date,
January 31, 2015 is $61.44.
b. Price-earnings ratio: $61.44 / $4.28 = 14.36
