Financial Statement Analysis

Short Exercises

(5-10 min.) S 15-1

Req. 1

Increase (Decrease)
(Amounts in millions) 2012 2011
2012 2011 2010 Amount Percent Amount Percen
t
Revenues $9,575 $9,300 $8,975 $275 3.0% $325 3.6%
Cost of 6,000 5,975 5,900
sales
Gross profit $3,575 $3,325 $3,075 $250 7.5% $250 8.1%

(5-10 min.) S 15-2

Req. 1
2013 2012 2011 2010
Revenues………… $9,910 $9,700 $9,210 $9,110
Trend percentage 109 106 101 100
% % % %
Net income………. $7,475 $7,400 $5,495 $4,690
Trend percentage 159 158 117 100
% % % %
Req. 2

2. Net income increased faster than revenues.

 (10-15 min.) S 15-3
Req. 1
2012
Amount Percent
Cash and receivables $ 54,530 26.6%
Inventory 42,435 20.7
Property, plant, and equipment, 108,035 52.7
net
Total assets $205,000 100.0%

2011
Amount Percent
Cash and receivables $ 46,860 28.4%
Inventory 32,670 19.8
Property, plant, and equipment, 85,470 51.8
net
Total assets $165,000 100.0%

(10 min.) S 15-4

Req. 1
Martine
Rosado
z

Net sales 100.0%

100.0
%
Cost of goods 60.9 72.7
sold
Other expenses 33.4 22.5
Net income
5.7% 4.8%

Req. 2

Rosado earns more net income.

Req. 3

Martinez’s net income is a higher percentage of its net

sales.
 (5-10 min.) S 15-5

Req. 1
The current ratio is 1.65 for 2012 and 1.92 for 2011.

(Dollar amounts in
millions)
2012 2011

Total current assets $54.3 $25.2

Total current $33.0 $13.1
liabilities

= 1.65 = 1.92

Req. 2

Win’s Companies’ current ratio deteriorated.

 (10-15 min.) S 15-6

Req. 1
The rate of inventory turnover for 2012 is 3.76 times.

(Dollar amounts in millions)

Cost of goods
$28.4
Inventory sold
= =
turnover Average
($6.9 + $8.2) / 2
inventory

$28.4 3.76
= =
$7.55 times

The days in inventory for 2012 is 97 days. (365 days /

3.76)

The gross profit percentage for 2012 is 43.4%.

(50.2 – 28.4) / 50.2 = 0.434

Req. 2

(Dollar amounts in millions)

Days’ sales in average receivables:

One day’s Net sales $50.2 $.137

= =
sales 365 5

Average net
 Days’ sales in receivables $
6.35*
= = = 46 days
Average One day’s $.137
receivables sales 5

__________
*($7.4 + $5.3) / 2 = $6.35

Days’ sales in average receivables during 2011 is 46

days.

5 min.) S 15-7

Req. 1
(Dollar amounts in millions)

Total $45.3
Debt
= liabilities = = 0.513
ratio
Total assets $88.3

Win’s debt ratio is 51.3%.

Debt to Total $45.3

equity = liabilities = = 1.05
ratio Total equity $43.0

Win’s debt to equity ratio is 1.05.

Req. 2
The company’s ability to pay its liabilities appears
strong since the debt ratio is fairly low.
 (10 min.) S 15-8
Req. 1
(Dollar amounts in millions)
The rate of return on net sales is 30.9%.

Net $15.
a Rate of return on net income 5 0.30
= = =
. sales Net sales $50. 9
2

Req. 2
The rate of return on total assets is 22.9%.
Net
Interest
b. Rate of income + $15.5 + $0.5
return expense
= =
on total Average total ($88.3 +
assets assets $51.2) / 2

= 0.229

Req. 3
The asset turnover ratio is 0.72 times.
Net sales $50.2
Asset
= Average total = $($88.3 + $51.2)
turnover ratio
assets /2

= 0.72
Req. 4
The rate of return on common stockholders’ equity is
44.0%

Rate of Net
return Preferred
on common Income − $15.5 − $0
dividends 0.44
= = =
stockholder Average common ($43.0+ $27.5) 0
s' /2
equity stockholders'
equity

Req. 5
These rates of return are strong considering that
average companies present much lower rates of
return.
(5-10 min.) S 15-9

Req. 1
Win’s EPS is $31.00.

Net income − Preferred $15.5 − $0

EPS = dividends = .5
Number of shares of common
stock outstanding

= $31.00

Req. 2
Win’s P/E ratio is 2.21 times.

Market price per

Price/ share $68.50
2.21
earnings = of common stock = =
ratio EPS $31.00
 (10 min.) S 15-10

Req. 1

Income Statement
Amounts in thousands
Net sales $7,200
Cost of goods sold 2,905 (a)
Selling and administrative 1,830
expenses
Interest expense 990 (b)
Other expenses 150
Income before taxes $1,325
Income tax expense 533 (c)
Net income $ 792 (d)

$850 + $810
(a) = × 3.5 = $2,905
2

(b) = $7,200 − $2,905 − $1,830 − $150 − $1,325 =

$990

(d) = $7,200 × 0.11 = $792 (item d must be calculated

before item c)

(c) = $1,325 − $792 = $533

 (15-20 min.) S 15-11

Req. 1

Balance Sheet
(Amounts in thousands)
Cash $ 75
Receivables 685(a) Total current liabilities $1,900
Inventories 725 Long-term note payable 1,595(e)
Prepaid expenses 35(b) Other long-term
Total current $1,520(c) liabilities 980
assets
Plant assets, net 3,280(d) Total liabilities 4,475
Other assets 2,000
Stockholders’ equity 2,325

Total liabilities and

Total assets $6,800 stockholders’ equity $6,800(f)

Calculate items in order shown below:

(f) = $6,800 (same as total assets)

(e = $6,800 − $2,325 − $980 − $1,900 = $1,595

)

(c = $1,900 × 0.80 = $1,520

)

(a = $1,900 × 0.40 = $760; $760 − $75 = $685

)

(b = $1,520 − $75 − $685 − $725 = $35

)

(d = $6,800 − $1,520 − $2,000 = $3,280

)
 Exercises

(5-15 min.) E 15-12

Req. 1

2011:

The amount of change in working capital is $55,000*.

The percentage of change in working capital is 45.8%

($55,000/$120,000).

2012:

The amount of change in working capital is $90,000**.

The percentage of change in working capital is 51.4%

($90,000/$175,000.

The increasing trend of working capital is favorable.

2012 2011 2010

Total current $510,000 $350,00 $240,000
assets 0
Total current 245,000 175,00 120,000
liabilities 0
Working capital $265,000 $175,00 $120,000
0
Increase Increase
$90,000** $55,000*
 (10-15 min.) E 15-13

Req. 1

Mariner Designs, Inc.

Comparative Income Statement
Years Ended December 31, 2012 and 2011
Increase (Decrease)

2012 2011 Amount Percenta

ge
Net sales revenue $431,00 $372,35 $58,650 15.8%
0 0
Expenses:
Cost of goods $200,00 $187,55 $12,450 6.6%
sold 0 0
Selling and
general
expenses 99,000 91,050 7,950 8.7%
Other expense 8,35 6,85 1,500 21.9%
0 0
Total expenses $307,35 $285,45 $21,900 7.7%
0 0
Net income $123,65 $86,900 $36,750 42.3%
0

Req. 2
Net income increased by a higher percentage than
total revenues during 2012 because revenues
increased at a higher rate than total expenses.
 (5-10 min.) E 15-14

Req. 1

Trend percentages:

2014 2013 2012 2011 2010

Net revenue 125% 114% 106% 97% 100%

Net income 147% 136% 101% 87% 100%

Req. 2

Net revenue grew by 25% during the period, compared

to 47% growth in net income. Therefore, net income
grew faster.
 (10-15 min.) E 15-15

Req. 1

Beta Designs, Inc.

Balance Sheet
December 31, 2012
Amount Percent

Assets
Total current $ 15.0%
assets……………………….. 42,750
Property, plant, and equipment, 208,335 73.1
net.……
Other 33,915 11.9
assets…………………………………
Total $285,00 100.0%
assets…………………………………. 0

Liabilities
Total current $49,020 17.2%
liabilities…………………….
Long-term 109,155 38.3
debt……………………………..
Total $158,17 55.5
liabilities……………………………… 5

Stockholders' Equity
Total stockholders’ 126,825 44.5
equity………………..
Total liabilities and stockholders’ $285,00 100.0%
equity 0
 (continued) E 15-15

Req. 1

Beta Designs, Inc.

Balance Sheet
December 31, 2011
Amount Percent

Assets
Total current $ 19.1%
assets……………………….. 59,000
Property, plant, and equipment, 215,000 69.4
net.……
Other 35,500 11.5
assets…………………………………
Total $309,50 100.0%
assets…………………………………. 0

Liabilities
Total current $50,100 16.2%
liabilities…………………….
Long-term 102,300 33.0
debt……………………………..
Total $152,40 49.2
liabilities……………………………… 0

Stockholders' Equity
Total stockholders’ 157,100 50.8
equity………………..
Total liabilities and stockholders’ $309,50 100.0%
equity 0
 (10-15 min.) E 15-16

Req. 1

Mariner Designs, Inc.

Comparative Common-Size Income Statement
Years Ended December 31, 2012 and 2011
2012 2011
Net sales revenue 100.0% 100.0%
Expenses:
Cost of goods sold 46.4 50.4
Selling and general expenses 23.0 24.5
Other expense 1.9 1.8
Total expenses 71.3% 76.7%
Net income 28.7% 23.3%

An investor would be pleased with 2012 in comparison

with 2011. Cost of goods sold and selling and general
expenses — the two largest expenses — consumed
smaller percentages of net sales revenue in 2012, and
net income represents a higher percentage of net
sales revenue. Overall, profits are rising.
 (10-15 min.) E 15-17
Req. 1

a. The current ratio is 1.29

$172,000
Current ratio = = 1.29
$133,000

b. The acid test ratio is 0.60

Acid-test (quick) $15,000 + $11,000 +
= $54,000 = 0.60
ratio $133,000

c. The inventory turnover is 4.32 times.

$315,000
Inventory
= ($77,000 + $69,000) / = 4.32 times
turnover
2

d. The days in inventory for the current year is 84

days.
365 days
One day’s sales = = 84
4.32 times

e. The days’ sales in receivables is 50 days.

462,000
One day’s sales = = $1,265.75
365 days

Days’ sales in = ($54,000 + $73,000) / = 50days

2
 receivables $1,265.75

f. The gross profit percentage for the current year is

31.8%.
Gross profit $462,000 - $315,000
= = 31.8
percentage $462,000
 (15-20 min.) E 15-18
Req. 1

a. Current ratio:

$58,000 + $31,000 + $110,000 +

2012: $247,000 = 1.75
$255,000

$57,000 + $132,000 +
2011: $297,000 = 2.19
$222,000

b. Acid-test ratio:

$58,000 + $31,000 +
2012
$110,000 = 0.78
:
$255,000

$57,000 +
2011
$132,000 = 0.85
:
$222,000

c. Debt ratio:

$301,00 $270,000
0* **
2012: = 0.51 2011: = 0.50
$585,00 $535,000
0
__________
__________
*Total liabilities 2012: $255,000 + $46,000 = $301,000

**Total liabilities 2011: $222,000 + $48,000 = $270,000

d. Debt to equity ratio:

2012: 1.06 [($301,000 / ($585,000 - $301,000)]

2011: 1.02 [($270,000 / ($535,000 - $270,000)]

 (10-15 min.) E 15-19
(Dollars in thousands)

Req. 1 Rates of return on net sales:

$17,400 $12,600
2012: = 9.9% 2011: = 7.9%
$176,000 $160,000

Req. 2 Rates of return on total assets:

$17,400 + $12,600 +
13.4 12.5
2012: $9,000 = 2011: $10,300 =
% %
$196,500* $182,500**
__________
__________

*($203,000 + $190,000) / 2 = $196,500 **($190,000 +

$175,000) / 2 = $182,500

Req. 3 Asset turnover ratios:

$176,000 0.90 160,000

2012: = 2011: = .88 times
$196,500* times $182,500**
_________
__________

* See Req. 2 ** See Req. 2

Req. 4 Rates of return on common stockholders’
equity:

$17,400 − $12,600 −
14.9
2012: $3,500 = 2011: $3,500 = 10.7%
%
$93,350*** $84,750****
___________ ___________

***($96,600 + $90,100) / 2 = $93,350 ****($90,100 + $79,400)

/ 2 = $84,750
 (continued) E 15-19

Req. 5 EPS

2012: ($17,400 - $3,500) / 20,500 = 0.678 or $0.68

2011: ($12,600 - $3,500) / 20,500 = 0.44 or $0.44

Req. 6
2012 dividend payout on common stock: 53.2%
Common stockholders’ equity=Common stock + Retained
earnings

Change in CSE = $96,600 - $90,100 = $6,500

If no change in number of stockholders, then the change in
CSE = Change in Retained earnings
Net income – preferred dividends – common dividends =
Change in Retained earnings
$17,400 - $3,500 – common dividends = $6,500
Common dividends = $7,400
Common dividends per share = $7,400 / 20,500 shares = $0.36

Dividend Annual dividends $0.36 0.529

payout = /share = = or
EPS $0.68 52.9%

Req. 7
The company’s operating performance improved during
2012

(10-15 min.) E 15-20

Req. 1

2012 2011

Price/earnings ratio:

$19.50 $14
($61,000 − $12,600*) / = 32.23 ($52,000 − $12,600) / 80,000 = 28.43
80,000
*$210,000 x .06=
$12,600

Dividend yield:

$26,000 / 80,000 $26,000 / 80,000

= 1.7% = 2.3%
$19.50 $14
c. Dividend payout on common stock:

$26,000 / 80,000 $26,000 / 80,000

($61,000-$12,600)/ = 53.7% ($52,000-$12,600)/ =66.0%
80,000 80,000

Book value per share of common stock:

$760,000 − $610,000 −
$6.8
$210,000 = $210,000 = $5.00
8
80,000 80,000

The stock’s attractiveness increased during 2012, as

shown by the increases in the price/earnings ratio and
in book value per share. The dividend yield and
dividend payout decreased, but that would be
important only to investors who want dividends.
Overall, the common stock looks more attractive than
it did a year ago.
 (20-30 min.) E 15-21

Req. 1

ORDER OF
COMPUTATION
Given Current assets……………………………………. $1,200,000
4 Property, plant, and equipment… $3,387,50
0**
Given Less: Accumulated depreciation..
2,400,000 987,500*
3 Total assets ($1,400,000 ÷ 0.64) $2,187,500
………………….

1 Current liabilities ($1,200,000 ÷ 1.50) $800,000

…………….
2 Long-term liabilities ($1,400,000 − $800,000) 600,000
………
6 Stockholders’ equity ($2,187,500 − 787,500
$1,400,000)……
5 Total liabilities and stockholders’ equity……. $2,187,500

*$2,187,500 - $1,200,000 = $987,500

**$2,400,000 + $987,500 = $3,387,500
 Problems

Group A

(20-30 min.) P 15-22A

Req. 1

Azbel Mission Corporation

Trend Percentages

2013 2012 2011 2010

Net sales revenue 115% 106% 96% 100%
Net income 135% 102% 86% 100%
Common stockholders’ 124% 118% 109% 100%
equity

Req. 2

2011 rate of return on common stockholders’ equity:

11.7%
($37,000 - $0) / ($330,000 + $304,000) / 2 = 0.117

2012 rate of return on common stockholders’ equity:

12.8%
($44,000 - $0) / ($358,000 + $330,000) / 2 = 0.128

2013 rate of return on common stockholders’ equity:

15.8%
($58,000 - $0) / ($376,000 + $358, 000) / 2 = 0.158
 (20-30 min.) P 15-23A

Req. 1
McConnell Department Stores, Inc.
Income Statement
Year Ended December 31, 2012
Percent
Amount of
Total
Net $778,000 100.0%
sales………………………………………
Cost of goods 522,816 67.2
sold………………………….
Gross profit……………………………. $255,184 32.8
…….
Operating 161,046 20.7
expenses………………………..
Operating $94,138 12.1
income…………………………..
Other 4,668 0.6
expenses……………………………...
Net $89,470 11.5%
income……………………………………

McConnell Department Stores, Inc.

Balance Sheet
December 31, 2012
Percent
Amount of Total
Current assets $325,440 67.8%
Fixed assets, net 120,960 25.
2
Intangible assets, net 8,640 1.8
Other assets 24,960 5.2
Total assets $480,000 100.0%
Current liabilities $222,720 46.4%
Long-term liabilities 107,520 22.4
Stockholders’ equity 149,760 31.
2
Total liabilities and stockholders’ $480,000 100.0%
equity
 (20-30 min.) P 15-24A
Req. 1
McConnell Department Stores, Inc.
Common-Size Income Statement Compared to Industry
Average
Year Ended December 31, 2012
Industry
McConnell Average
Net 100.0% 100.0%
sales………………………………………
Cost of goods 67.2 65.8
sold………………………….
Gross profit……………………………. 32.8 34.2
…….
Operating 20.7 19.7
expenses………………………..
Operating 12.1 14.5
income…………………………..
Other 0.6 0.4
expenses……………………………...
Net 11.5% 14.1%
income……………………………………

McConnell Department Stores, Inc.

Common-Size Balance Sheet Compared to Industry
Average
December 31, 2012
Industry
McConnel Average
l
Current 67.8% 70.9%
assets……………………………….
Fixed assets, 25.2 23.6
net…………………………….
Intangible assets, 1.8 0.8
net……………………….
Other 5.2 4.7
assets………………………………….
Total 100.0% 100.0%
assets…………………………………..

Current 46.4% 48.1%

liabilities…………………………….
Long-term 22.4 16.6
liabilities………………………
Stockholders’ 31.2 35.3
equity……………………….
Total liabilities and stockholders’ 100.0% 100.0 %
equity
 (continued) P 15-24A

Req. 2

(a) McConnell’s gross profit percentage is 32.8%.

($255,184 / $778,000 = 0.328)
(b) McConnell’s rate of return on net sales is 11.5%
($89,470 / $778,000 = 0.115)

McConnell’s gross profit percentage of 32.8% is worse

than the industry averages of 34.2% and rate of return
on net sales of 11.5% is worse than the industry
average of 14.1%.

Req. 3

(a) McConnell’s current ratio is 1.46.

($325,440 / $222,720 = 1.46)
(b) McConnell’s debt to equity ratio is 2.21.
[($222,720 + $107,520) / $149,760 = 2.21]

McConnell’s current ratio 1.46 is worse than the

industry average 1.5. The debt to equity ratio 2.21 is
worse than the industry average 2.23.
 (30-40 min.) P 15-25A

Req. 1 (ratios before the transactions)

(Dollar Amounts and Stock Quantities in Thousands)

Earnings
Current Ratio Debt Ratio per Share

$286 $412

$23 + $79 + $184 $191* + $74

=
= 1.50 $221 = 0.65
$1.23a)
$104 + $40 + $47 $634 60

$191*

Req. 2 (ratios after the transactions)

(Dollar Amounts and Stock Quantities in Thousands)

Trans- Earnings per

action Current Ratio Debt Ratio Share

a. $286 + $49 $412 + $49 $74 $1.23

= 1.40 = 0.67 = a)
$191 + $49 $634 + $49 60

b. $286 + $122 $412 + $122 $74 $1.23

= 2.14 = 0.71 = a)
$191 $634 + $122 60

c. $286 + $103 $412 $74 $1.12

= 2.04 = 0.56 = a)
$191 $634 + $103 60 + 6

d. $286 $412 $74 $1.23

= 1.50 = 0.65 = a)
 $191 $634 60

__________
a)
Not in thousands
 (40-50 min.) P 15-26A

Req. 1
(Dollar Amounts and Stock Quantities in Thousands)

2012 2011

a. Current ratio: $366 =1.63 $381 = 1.55

$225 $246

b. Times-interest- $94 $76

=10.44 = 7.60
earned ratio: $9 $10

c. Inventory $237 $218

turnover: ($145 + $163) / 2 =1.54 ($163 + $203) / = 1.19
2

d. Gross profit $230 / $467 =49.2% $210 / $428 = 49.1%

percentage

e. Debt to equity $339/($577-$339)=1.42 $343/($560- = 1.58

ratio $343)

f. Rate of return on
common $61 − $3.24* $39 − $3.24*
=48.3% = 36.9%
stockholders’ ($130 + $109) / 2 ($109 + $85) /
2
equity:

g. Earnings per share $61−$3.24 =$4.81** $39 − = $3.58**

$3.24
 of common stock: 12 10

h. Price/earnings $86.58** $46.54**

=18.00 = 13.00
ratio: $4.81** $3.58**
__________
*$108,000 × .03 = $3,240
**Not in thousands
 (continued) P 15-26A

Req. 2

Decisions: a. Improved

b. Increased
 (45-60 min.) P 15-27A
Req. 1 (Dollar Amounts and Stock Quantities in Thousands)

Digitalized Zone Network

a Acid-test ratio: $23 + $38 + $21 + $19 +
. $38 = .97 $43 = 0.86
$102 $96

b Inventory $206 2.86 $258

2.84
. = time =
times
turnover: ($64+ $80) / 2 s ($96 + $86) / 2

c Days’ sales in ($38 + $44) / ($43 + $53) / 2

. 2 35 36
= =
receivables: $423.035 / days $493.115 / days
365 365)

d Debt ratio: $102 $131

38.3
. = = 40.2%
%
$266 $326

e $54
Earnings per share $4.50 $66
. = = $4.13*
*
of common stock: 12 16

f. Price/earnings $76.50 $94.99*

* = 17.00 = 23.00
ratio: $4.50* $4.13*

$0.50 $0.40
g Dividend $4.50 = 11.1 $4.13 = 9.7%
. payout: %
_________
*Not in thousands

Decision:
Digitalized’s common stock seems to fit the investment
strategy better. Its price/earnings ratio is lower than that of
Zone Network, and Digitalized appears to be in better shape
financially than Zone Network. On the majority of the ratios,
Digitalized looks better than Zone Network.
 Problems

Group B

(20-30 min.) P 15-28B

Req. 1

Shawnee Mission Corporation

Trend Percentages

2013 2012 2011 2010

Net sales revenue 106%
115% 97% 100%
Net income 117% 90% 100%
79%
Ending common stockholders’ 119%
121% 109% 100%
equity

Req. 2

2011 rate of return on common stockholders’ equity:

12.1%
($38,000 - $0) / ($328,000 + $300,000) / 2 = 0.121

2012 rate of return on common stockholders’ equity:

12.6%
($43,000 - $0) / ($356,000 + $ 328,000) / 2 = 0.126
2013 rate of return on common stockholders’ equity:
15.6%
($56,000 - $0) / ($364,000 + $356,000) / 2 = 0.156
 (20-30 min.) P 15-29B
Req. 1

Specialty Department Stores, Inc.

Income Statement
Year Ended December 31, 2012
Amount Percent
of Total

Net sales $782,00 100.0%

0
Cost of goods sold 528,632 67.6
Gross profit $253,36 32.4
8
Operating expenses 163,438 20.9
Operating income $89,930 11.5
Other expenses 4,692 0.6
Net income $85,238 10.9%

Req. 2

Specialty Department Stores, Inc.

Balance Sheet
December 31, 2012
Amount Percent
of Total
Current assets $303,75 67.5%
0
Fixed assets, net 117,000 26.0
Intangible assets, net 5,850 1.3
Other assets 23,400 5.2
Total assets $450,00 100.0%
0
Current liabilities $208,80 46.4%
0
Long-term liabilities 102,600 22.8
Stockholders’ equity 138,600 30.8
Total liabilities and stockholders’ $450,00 100.0%
equity 0

(20-30 min.) P 15-30B

Req. 1
Specialty Department Stores, Inc.
Common-Size Income Statement Compared to Industry
Average
Year Ended December 31, 2012
Industry
Specialty Average
Net sales 100.0% 100.0%
Cost of goods sold 67.6 65.8
Gross profit 32.4 34.2
Operating expenses 20.9 19.7
Operating income 11.5 14.5
Other expenses 0.6 0.4
Net income 10.9% 14.1%

Specialty Department Stores, Inc.

Common-Size Balance Sheet Compared to Industry
Average
December 31, 2012
 Industry
Specialty Average
Current assets 67.5% 70.9%
Fixed assets, net 26.0 23.6
Intangible assets, net 1.3 0.8
Other assets 5.2 4.7
Total assets 100.0% 100.0%

Current liabilities 46.4% 48.1%

Long-term liabilities 22.8 16.6
Stockholders’ equity 30.8 35.3
Total liabilities and stockholders’ 100.0% 100.0%
equity
 (continued) P 15-30B

Req. 2

(a) Specialty’s gross profit is 32.4%

($253,368 / $782,000 = 0.324)
(b) Specialty’s rate of return on net sales is 10.9%
($85,238 / $782,000 = 0.109)

Specialty’s gross profit percentage of 32.4% is worse

than the industry average of 34.2% and rate of return
on net sales of 10.9% is worse than the industry
average of 14.1%.

Req. 3

(a) Specialty’s current ratio is 1.45

($303,750 / $208,800 = 1.45)
(b) Specialty’s debt to equity ratio is 2.25
[($208,800 +$102,600) / $138,600 = 2.25]

Specialty’s current ratio of 1.45 is worse than the 1.47

industry average. The debt to equity ratio of 2.25 is
worse than the 1.83 industry average.
 (30-40 min.) P 15-31B

Req. 1

(Dollar Amounts and Stock Quantities in

Thousands)
Earnings per
Current Ratio Debt Ratio Share

$294 $412

$24 + $82 + $189 + $72

= =
$188 $223 = 0.65
1.56 $3.60*
$99 + $39 + $51 $638 20

$189

Req. 2

(Dollar Amounts and Stock Quantities in Thousands)

Trans- Earnings per

action Current Ratio Debt Ratio Share

a. $294 + $45 $412 + $45 $72

= 1.45 = 0.67 = $3.60*
$189 + $45 $638 + $45 20

b. $294 + $127 $412 + $127 $72

= 2.23 = 0.70 = $3.60*
$189 $638 + $127 20

c. $294 + $105 $412 $72

= 2.11 = 0.55 = $3.27*
$189 $638 + $105 20 + 2
 d. $294 = 1.56 $412 = 0.65 $72 = $3.60*
$189 $638 20

__________
*Not in thousands
 (40-50 min.) P 15-32B

Req. 1

(Dollar Amounts and Stock Quantities in Thousands)

2012 2011
a. Current ratio: $364 $37
0
= 1.60 = 1.54
$227 $24
0

b. Times- $83 $74

6.38 4.63
interest- = =
times times
earned ratio: $13 $16

c. Inventory $239 $212

1.58 1.17
turnover: ($144 + $158) / = ($158 + $204) / =
times times
2 2

d. Gross profit $221 / $460 = $210 / $422 =4

percentage 48.0%

e. Debt to equity $344/($581- = 1.45 $336/($546- = 1.60

ratio $344) $336)

f. Rate of return $51 − $2.76* $37 − $2.76*

on
= 36.7% = 33.1%
common ($145 + $118) / ($118 + $89) / 2
stock- 2
holders'
equity:
g. Earnings per $51 − $37 −
$3.71 $3.11*
share $2.76* = $2.76* =
** *
of common stock: 13 11

h. Price/earnings $59.36** $46.65

= 16.00 ** = 15.00
ratio: $3.71** $3.11**
__________
*$92,000 × .03 = $2,760
**Not in thousands
 (continued) P 15-32B

Req. 2

Decisions:
a. Improved

b. Increased
 (45-60 min.) P 15-33B
Req. 1 (Dollar Amounts and Stock Quantities in
Thousands)

Best Digital Every Zone

a Acid-test $25 + $42 + $23 + $21 +

= 1.07 = 0.96
. ratio: $42 $52
$102 $100

b Inventory $210 $256

2.76
. 2.60
= time =
turnover: ($69 + $83) / 2 ($105 + $92) / times
s
2

c Days’ sales in ($42 + $47) / 2 ($52 + $56) / 2

39 40
. = =
days days
receivables: $420.115 / 365 $498.955 / 365

d Debt ratio: $102 $128

. 38.1 38.7
= =
$26 % $331 %
8
e Earnings per $48 $74
. share $3.20 $4.63
= =
of common 15 * 16 *
stock:

f. Price/ $48.0 = 15.00 $115.7 = 25.00

earnings 0* 5*
 ratio: $3.20* $4.63*

$2.00 $1.80
g Dividend $3.20 = 62.5 $4.63* = 38.9
. payout: * % %
__________
*Not in thousands

Decision:
Best Digital’s common stock seems to fit the investment
strategy better. Its price/earnings ratio is lower than that of
Every Zone, and Best Digital appears to be in better shape
financially than Every Zone. On the majority of the ratios, Best
Digital looks better than Every Zone.
 Continuing Exercise

(10-15 min.) E 15-34

Req. 1

Lawlor Lawn Services, Inc.

Vertical Analysis of Income Statement
Month Ended May 31, 2012
Amoun
Percent
t
Revenues:
Service $ 100.0%
revenue……………………………... 950
Total revenues $950 100.0%
Expenses:
Supplies $110 11.6
expense…………………………………
Fuel expense…………………………… 30 3.2
Depreciation expense— 30 3.2
equipment………
Total $170 18.0
expenses…………………………....
Net
$780 82.0%
income………………………………………..
 Continuing Problem

(20-25 min.) P 15-35

Req. 1

a. Current ratio

Current assets = $18,300 = 3.03

Current liabilities $6,035

b. Debt ratio

Total liabilities = $6,035 = 0.25

Total assets  $24,200

c. Debt to equity ratio

Total liabilities = $6,035 = 0.33


Total equity  $18,165

d. Earnings per share

Net income
– preferred = $1,565 - $0 = $0.09
dividends 
Total equity  $18,165
 Common
(Net Earnings
 Preferred Dividends) / shares =
Income Per Share
outstanding
($1,565  $ 0) / 100 = $15.65

(continued) P 15-35

e. P/E ratio

Market value per common  Earnings per = P/E

share share ratio
$200  $15.65 = 12.78

f. Rate of return on total assets

(Net Average total Return on

+ Interest Expense) / =
Income assets assets
($1,565 + $ 0) / $24,200 = 0.06

g. Rate of return on common stockholders’ equity

Average
Net Preferred Return on common
(  )/ common =
Income Dividends stockholders’ equity
equity
($1,565  $ 0) / 18,165 = 0.09
 Comprehensive Problem for Chapters 15
Req. 1
a. Trend Analysis

2015 2014 2013 2012 2011

Net sales 178% 158% 139% 120% 100%
Net income 181% 151% 142% 121% 100%

b.

Begin by selecting the appropriate measurements that should be used to complete

a profitability analysis.

Rate of return on net sales

Rate of return on total assets
Rate of return on common stockholders’ equity
Earnings per share of common stock

2015 2014 2013 2012 2011

Earnings per $1.81 $1.49 $1.41 $1.21 $0.99
share
Rate of 3.3% 3.1% 3.3% 3.3% 3.2%
return on
net sales

c.

2015 2014 2013 2012 2011

Inventory 8.08 times 7.79 times 7.29 times 7.03 times 6.48 times
turnover

d.

2015 2014 2013 2012 2011

Current 0.93 1.02 0.92 0.94 1.26
 ratio
Debt ratio 58.5% 58.0% 59.9% 63.3% 57.8%

e.

2015 2014 2013 2012 2011

Dividend 16.6% 18.8% 19.8% 16.5% 16.2%
yield

Analysis:

WRS’s trend of net sales, net income, earnings per share, and
inventory have increased. All other measures have held steady
or deteriorated a bit. There are no apparent trouble spots in
WRS’s data. Therefore, invest in WRS for increasing dividends
and steady growth.
Ch 15: Apply Your Knowledge

√ Decision Cases

(30 min.) Decision Case 15-1

Trans- Current Debt Return on

action Ratio Ratio Equity

1 Increase Increase*** No effect

2 Decrease Increase Increase
3 No effect Increase Decrease
4 Decrease No effect* No effect
5 Decrease No effect** No effect

* If the situation described creates a new asset in

the same amount as the cash paid out, then it simply
exchanges one asset for another and will have no
effect on the debt ratio. If, however, some of the
cash outlay was expensed, then the debt ratio would
increase and return on equity would decrease.
** if one asset is exchanged for another, then there
is zero effect on debt ratio.
***Assuming ratio was less than 1.00 before the
transaction.
 (20-30 min.) Decision Case 15-2

Req.1
Recording payments in December, but mailing the
checks in January, understates Accounts Payable and
Cash at year-end. This action makes the current ratio
and the acid-test ratio look better than they really are
—so long as the ratio values exceed 1.0. (The reverse
is true if those ratios are below 1.0.) The following
data illustrate the point:

Amoun
Correct amounts Reported amounts
t
(Cash payment
(No cash payments of cash
recorded
payme
recorded in December) in December)
nt

Current assets $100 − $1 $100 − $90

0 $10
= = 2.0 = = = 2.25
Current $50 − $1 $50 − $40
liabilities 0 $10

Quick assets $70 − $1 $70 − $60

0 $10
= = 1.4 = = = 1.50
Current $50 − $1 $50 − $40
liabilities 0 $10
The Debt Ratio would also be affected, but to a lesser
degree than the current ratio and the acid-test ratio.

Req.2

Berkman may want to improve the current ratio

because it is the most widely used ratio. Creditors and
potential investors will look at that ratio first. By
artificially boosting this ratio, it makes his financial
position look better than it actually is.
√ Ethical Issue 15-1

1. Reclassifying the long-term investments as short-

term will increase current assets and, therefore,
increase the current ratio. Whether the company’s
“true” financial position is stronger is not a clear-cut
issue. On one hand, a better current ratio does
indeed reflect a stronger financial position, as long
as the ratio data is legitimate. On the other hand,
how an asset is characterized (current or non-
current) does not affect the underlying fundamentals
of the financial position.

2. Reclassifying a long-term investment as current to

meet a debt agreement does not necessarily brand
Ross managers as unethical. The managers may
have honestly intended to sell the investments in
order to meet obligations. In that case, the managers
took appropriate action.

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, Ross 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 issues 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’ true intentions cannot be
ascertained with certainty, it would be hard to prove
that the managers are behaving unethically.

√ Fraud Case 15-1

Solutions:

1. The sales promotion expenses would

have shown a very noticeable growth trend,
and attracted suspicion. Furthermore,
those expenses would have offset much of
the bogus gross profit, so investors would
have noticed an increase in revenues that
was not matched by an increase in net
income.
2. The value of their stock would have
declined significantly, possibly to zero,
 when the company went bankrupt.
3. With sufficient capital flowing in, his
company may have been able to acquire
other large revenue-generating companies,
which would make it unnecessary for him
to continue the fraudulent practices.

√ Financial Statement Case 15-1

(15-25 min.) Financial Statement Case

Req. 1 (Amounts in millions)

2009 2008 2007

Net
sales 24,509 19,166 14,835

As %
of 2007 165% 129% 100%

2009 2008 2007

Net
income 902 645 476
As %
of 2007 189% 136% 100%

The most notable aspect is that net income has almost

doubled over the two-year period. Also of note is that
the net income has increased at a slightly higher
percentage rate than net sales.

Req. 2 (Amounts in millions)

INVENTORY
TURNOVER

AV
G TURNOVE
COGS INV R

1,3
2008 14,896 00 11.5

1,7
2009 18,978 85 10.6

1,2
Inv 12/31/07 00

1,3
Inv 12/31/08 99

2,5
 99

1,3
Avg Inv for 2008 00

1,3
Inv 12/31/08 99

2,1
Inv 12/31/09 71

3,5
70
1,7
Avg Inv for 2009 85

The trend for inventory turnover is slightly negative,

while net income shows positive change. This
suggests that inventory turnover, in and of itself, had a
slightly negative effect on the large increase in net
income.

√ Team Project 15-1

Student responses will vary depending on the
companies they select.
√ Communication Activity 15-1

Student responses will vary.