ACCT1501 Lecture Notes - Lecture 10: Income Statement, Balance Sheet, Accounts Receivable

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18 May 2018

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Saturday, 13 May 2017

Accounting & Financial Management 1A

Financial Statement Analysis

-Using ﬁnancial statements to evaluate an entity’s ﬁnancial performance & position

-Comparisons - previous years, competitors, other factors

-Used for creditors & shareholders (providers of capital), managers (performance

evaluation), regulators (compliance with standards), customers, suppliers

-‘Common size’ ﬁnancial statements

•Balance sheet items as % of total assets

•Income statement items as % of sales revenue

•Removes effect of company size

-Ratio Analysis:

•Ratio - proportion of one account over another (relationship between selected data)

•Proﬁtability Ratios: Company’s ability to earn proﬁts

-Should exceed zero (a positive return)

-Higher ratios are more preferable

(i) Return on Assets (ROA)

•Ability to earn on company’s assets

•ROA = Operating Proﬁt After Tax ÷ Total Assets

(ii) Return on Equity (ROE)

•Rate of return on amount of shareholders’ equity

•ROE = Operating Proﬁt After Tax ÷ Shareholders’ Equity

(iii) Proﬁt Margin (PM)

•Percentage of sales revenue that ends up as proﬁt

•PM = Operating Proﬁt After Tax ÷ Sales Revenue

•Gives some indication of pricing strategy or competition intensity in industry

•Gross Margin = Gross Proﬁt (Sales revenue - COGS) ÷ Sales Revenue

-Further indication of company’s product pricing & product mix

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Document Summary

Using nancial statements to evaluate an entity"s nancial performance & position. Comparisons - previous years, competitors, other factors. Used for creditors & shareholders (providers of capital), managers (performance evaluation), regulators (compliance with standards), customers, suppliers. Common size" nancial statements: balance sheet items as % of total assets, income statement items as % of sales revenue, removes effect of company size. Ratio analysis: ratio - proportion of one account over another (relationship between selected data, pro tability ratios: company"s ability to earn pro ts. Further indication of company"s product pricing & product mix. Measures pro tability in buying (or manufacturing) & selling goods before. Average number of days to collect accounts receivable: relationship between ratios: du pont system of ratio analysis. Roa = pro t margin x asset turnover. Roe = roa x leverage (total assets shareholders" equity: liquidity ratios: ability to pay its short term debts when due (i) current ratio, cr = current assets current liabilities.

Related Questions

1. What does a low asset turnover compared to theindustry imply?
a. The investment in assets may be too high
b. Sales are higher than average
c. The investment in assets is too low
d. Net income is low relative to the investment in assets

2. All of the following are steps of a financialstatement analysis except:
a. Establish objectives of the analysis
b. Prepare pro forma statements
c. Study the industry in which the firm operates
d. Develop knowledge of the firm and the quality of management

3. Which ratios help assess the firmâs ability to meetcash needs as they arise?
a. Current ratio and cash flow liquidity ratio
b. Average collection period and net profit margin
c. Debt ratio and dividend payout
d. Operating profit margin and return on equity

4. Which of the following statements istrue?
a. It is unnecessary to analyze operating expenses over whichmanagement exercise discretion
b. Impairment charges do not need to be analyzed since they aregenerally a non-recurring expense
c. A good way to improve operating profit is to cut repairs andmaintenance costs as much as possible
d. Operating expenses can be easily analyzed by preparing a commonâ size income statement

5. What does a financial leverage index greater than oneindicate about a firm?
a. Return on assets exceeds the return on equity
b. Return on equity exceeds the return on assets
c. The firm is not employing debt successfully
d. The firm does not generate enough funds to cover interestpayments

coralwater-buffalo790

PROBLEM 15-15 Comprehensive Ratio Analysis (L015-2, L015-3, L015-4, L015-5, L015-6] You have just been hired as a financial analyst for Lydex Company, a manufacturer of safety hel- mets. Your boss has asked you to perform a comprehensive analysis of the company's financial statements, including comparing Lydex's performance to its major competitors. The company's financial statements for the last two years are as follows: Lydex Company Comparative Balance Sheet This Year Last Year $ 960,000 0 2,700,000 3,900,000 240,000 7,800,000 9,300,000 $17,100,000 $ 1,260,000 300,000 1,800,000 2,400,000 180,000 5,940,000 8,940,000 $14,880,000 Assets Current assets: Cash .... Marketable securities ......... Accounts receivable, net ........ Inventory .......... Prepaid expenses.......... Total current assets. ........ Plant and equipment, net ..... Total assets ............. Liabilities and Stockholders' Equity Liabilities: Current liabilities. Note payable, 10% ................. Total liabilities .... .......... Stockholders' equity: Common stock, $78 par value ......... Retained earnings .................. Total stockholders' equity .............. Total liabilities and stockholders' equity.... $ 3,900,000 3,600,000 7,500,000 $2,760,000 3,000,000 5,760,000 7,800,000 1,800,000 9,600,000 $17,100,000 7,800,000 1,320,000 9,120,000 $14,880,000 Lydex Company Comparative Income Statement and Reconciliation This Year Last Year Sales (all on account) $15,750,000 $12,480,000 Cost of goods sold .. 12,600,000 9,900,000 Gross margin ....................... 3,150,000 2,580,000 Selling and administrative expenses ...... 1,590,000 1,560,000 Net operating income.................. 1,560,000 1,020,000 Interest expense ...................... 360,000 300,000 Net income before taxes ............... 1,200,000 720,000 Income taxes (30%) 360,000 216,000 Net income ........................ 840,000 504,000 Common dividends .................. 360,000 252,000 Net income retained 480,000 252,000 Beginning retained earnings ........ 1,320,000 1,068,000 Ending retained earnings ............... $ 1,800,000 $1,320,000 To begin your assigment you gather the following financial data and ratios that are typical of companies in Lydex Company's industry: 2.3 1.2 Current ratio ...................... Acid-test ratio ..... Average collection period ...... Average sale period .... Return on assets .... Debt-to-equity ratio .......... Times interest earned ratio ......... Price-earnings ratio .......... 30 days 60 days 9.5% 0.65 5.7 10 Required: 1. You decide first to assess the company's performance in terms of debt management and profit- ability. Compute the following for both this year and last year: a. The times interest earned ratio. b. The debt-to-equity ratio. c. The gross margin percentage. d. The return on total assets. (Total assets at the beginning of last year were $12.960,000.) e. The return on equity. (Stockholders' equity at the beginning of last year totaled $9,048,000. There has been no change in common stock over the last two years.) f. Is the company's financial leverage positive or negative? Explain. You decide next to assess the company's stock market performance. Assume that Lydex's stock price at the end of this year is $72 per share and that at the end of last year it was $40. For both this year and last year, compute: a. The earnings per share. b. The dividend yield ratio. c. The dividend payout ratio. d. The price-earnings ratio. How do investors regard Lydex Company as compared to other companies in the industry? Explain. e. The book value per share of common stock. Does the difference between market value per share and book value per share suggest that the stock at its current price is a bargain? Explain. 3. You decide, finally, to assess the company's liquidity and asset management. For both this year and last year, compute: a. Working capital. b. The current ratio. The acid-test ratio. d. The average collection period. (The accounts receivable at the beginning of last year totaled $1,560,000.) e. The average sale period. (The inventory at the beginning of last year totaled $1,920,000.) f. The operating cycle. g. The total asset turnover. (The total assets at the beginning of last year totaled $14,500,000.) 4. Prepare a brief memo that summarizes how Lydex is performing relative to its competitors.

Ratio Analysis

The comparative statements offinancial position of IKEA Furniture Outlay Retail Shop in Sydneyfor the current year and previous year are given below. Calculatethe ratios necessary to evaluate the shopâs performance

IKEA Furniture Outlay Profit & Loss Statement

For the year ended30^th June 2012 & 2013

	2012	2013
Sales( all credit)	220 000	250 000
Less Cost of Sales:	76 500	124 000
Opening Inventory	65 000	85 000
Purchases	99 500	144 000
Goods available for sale	164 500	229 000
Closing Inventory	(88 000) 76 500	(105 000) 124 000
Gross Profit	143 500	126 000
Operating Expenses	39 700	71 060
Net Profit	103 800	54 940

IKEA Furniture OutlayBalance Sheet as at 30^th June2012/2013

	2012	2013
Assets:
Current Assets:
Cash	75 700	87 000
Accounts Receivable	69 000	68 500
Inventory	88 000	105 000
Total CurrentAssets	232 700	260 500
Non-CurrentAssets:
Plant and Equipment	295 000	208 500
Total Assets:	527 700	469 000
Liabilities

CurrentLiabilities
Accounts Payable	51 500	59 950
Bank overdraft	15 200	20 500
Total CurrentLiabilities	66 700	80 450
NoncurrentLiabilities:
6.5% Bank Loan	333 000	243 070
Total non-currentliabilities:	333 000	243 070
Totalliabilities	399 700	323 520
Ownerâs Equity
Ordinary shares of $2 each	95 000	100 100
Retained profit	33 000	45 380
Total OwnerâsEquity	128 000	145 480

Required:

Prepare Ratio Analysis based on the formula distributed toyou

Make comments about how to improve the business performance.

Note:

All sales are on credit. Accounts receivable balance on1/07/2011 was $66 800 and Business works 5 days a week.

Retained Profit = Net Profit â Dividend paid

Formula:

Current ratio = Current assets/Currentliabilities

Liquid ratio = Current assets âInventory (Closing Stocks)/Current liabilities â Bank overdraft

Gross profit ratio = Grossprofit/Sales

Net profit ratio = Net profit aftertax/Sales

Accounts receivable rate = Creditsales/Average accounts receivable Collection days = 365 days /Accounts receivable rate

Return on equity = Net profit aftertax/Owners equity Debt to Equity = Total debt/Equity

Total asset turnover = Totalsales/Total assets

Return on investment (ROI) = Netprofit after tax/Total assets Inventory turnover = Cost of Goodssold/Average Inventories Times Interest cover = Net Profit beforeInterest & tax / Interest

Earnings per share = (Net profitbefore tax â Preference Dividend) / Number of Ordinary shares

Ratio(Formula)	2012	2013	Interpretation

Ratio(Formula)	2012	2013	Interpretation

Ratio(Formula)	2012	2013	Interpretation

Ratio(Formula)	2012	2013	Interpretation

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ACCT1501 Lecture Notes - Lecture 10: Income Statement, Balance Sheet, Accounts Receivable

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