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Chapter 15: Q1SE (page 835)
Explaining financial statements
Caleb King is interested in investing in Orange Corporation. What types of tools should Caleb use to evaluate the company?
Answer
Horizontal analysis, vertical analysis, and ratio analysis
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Briefly describe the ratios that can be used to evaluate a company鈥檚 ability to pay long-term debt.
Completing a comprehensive financial statement analysis
In its annual report, ABC Athletic Supply, Inc. includes the following five-year financial summary:
| ABC ATHLETIC SUPPLY, INC. Five-Year Financial Summary (Partial; adapted) | ||||||
(Dollar amounts in thousands except per share data) | 2018 | 2017 | 2016 | 2015 | 2014 | 2013 |
Net Sales Revenue | \(250,000 | \)216,000 | \(191,000 | \)161,000 | \(134,000 | |
Net Sales Revenue Increase | 16% | 13% | 19% | 20% | 17% | |
Domestic Comparative Store Sales Increase | 5% | 6% | 4% | 7% | 9% | |
Other Income鈥擭et | 2,110 | 1,840 | 1,760 | 1,690 | 1,330 | |
Cost of Goods Sold | 189,250 | 164,592 | 148,216 | 126,385 | 106,396 | |
Selling and Administrative Expenses | 41,210 | 36,330 | 31,620 | 27,440 | 22,540 | |
Interest: | ||||||
Interest Expense | (1,080) | (1,380) | (1,400) | (1,020) | (830) | |
Interest Income | 125 | 165 | 155 | 235 | 190 | |
Income Tax Expense | 4,470 | 3,900 | 3,700 | 3,320 | 2,700 | |
Net Income | 16,225 | 11,803 | 7,979 | 4,760 | 3,054 | |
Per Share of Common Stock: | ||||||
Net Income | 1.60 | 1.30 | 1.20 | 1.00 | 0.78 | |
Dividends | 0.40 | 0.38 | 0.34 | 0.30 | 0.26 | |
Financial Position | ||||||
Current Assets, Excluding Merchandise Inventory | \)30,700 | \(27,200 | \)26,700 | \(24,400 | \)21,500 | |
Merchandise Inventory | 24,500 | 22,600 | 21,700 | 19,000 | 17,500 | $16,700 |
Property, Plant, and Equipment, Net | 51,400 | 45,200 | 40,000 | 35,100 | 25,600 | |
Total Assets | 106,600 | 95,000 | 88,400 | 78,500 | 64,600 | |
Current Liabilities | 32,300 | 28,000 | 28,300 | 25,000 | 16,500 | |
Long-term Debt | 23,000 | 21,500 | 17,600 | 19,100 | 12,000 | |
Stockholders鈥� Equity | 51,300 | 45,500 | 42,500 | 34,400 | 36,100 | |
Financial Ratios | ||||||
Acid-Test Ratio | 1.0 | 1.0 | 0.9 | 1.0 | 1.3 | |
Rate of Return on Total Assets | 17.2% | 14.4% | 11.2% | 8.1% | 7.1% | |
Rate of Return on Common Stockholders鈥� Equity | 35.5% | 26.% | 20.8% | 13.5% | 13.0% | |
Requirements
Analyze the company鈥檚 financial summary for the fiscal years 2014鈥�2018 to decide whether to invest in the common stock of ABC. Include the following sections in your analysis.
The financial statements of Ion Corporation include the following items:
Current Year Preceding Year
Balance Sheet:
Cash \( 6,000 \) 8,000
Short-term Investments 4,400 10,700
Net Accounts Receivable 21,600 29,200
Merchandise Inventory 30,800 27,600
Prepaid Expenses 6,000 3,600
Total Current Assets 68,800 79,100
Total Current Liabilities 53,200 37,200
Income Statement:
Net Sales Revenue $ 184,800
Cost of Goods Sold 126,000
Compute the following ratios for the current year:
7. Current ratio
8. Acid-test ratio
9. Inventory turnover
10. Gross profit percentage
Micatin, Inc.鈥檚 comparative income statement follows. The 2017 data are given as needed.
MICATIN INC. Comparative Income Statement Years Ended December 31, 2019, and 2018 | |||
Dollars in thousands | 2019 | 2018 | 2017 |
Net Sales Revenue | \( 181,000 | \) 160,000 | |
Cost of Goods Sold | 93,500 | 86,500 | |
Selling and Administrative Expenses | 45,000 | 40,500 | |
Interest Expense | 8,000 | 12,000 | |
Income Tax Expense | 11,000 | 10,500 | |
Net Income | \( 23,500 | \) 10,500 | |
Additional data: | |||
Total Assets | \( 209,000 | \) 187,000 | \( 167,000 |
Common Stockholders鈥� Equity | 96,000 | 91,500 | 80,500 |
Preferred Dividends | 2,000 | 2,000 | 0 |
Common Shares Outstanding During the Year | 15,000 | 15,000 | 10,000 |
Requirements
What are some common red flags in financial statement analysis?
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