Exam 3: Financial Statement Analysis

The comparison of a particular ratio to the standard (industry average) is made in order to isolate any deviations from the norm. In the case of ratios for which higher values are preferred, as long as the firm being analyzed has a value in excess of the industry average it can be viewed favorably.

The following groups of ratios primarily measure risk:

Since the differences in the composition of a firm's current assets and liabilities can significantly affect the firm's "true" liquidity, it is important to look beyond measures of overall liquidity to assess the activity (liquidity) of specific current accounts.

The average age of inventory is viewed as the average length of time inventory is held by the firmor as the average number of days' sales in inventory.

If a firm has annual sales of $2,000,000, gross profit of $800,000 and an average investment in accounts payable of $100,000, the firm's payables period is 15 days (one-half month).

Balance Sheet Cole Eagan Enterprises December 31, 2002 Cash \ 4,500 Accounts Payable \ 10,000 Accounts Receivable Notes Payable Inventories Accruals 1,000 Total Current Assets Total Current Liab. Net Fixed Assets Long-Term Debt Total Assets Stockholders' Equity Total Liab. \& S.E. Information (2002 values) 1. Sales totaled $\$ 110,000$ 2. The gross profit margin was 25 percent. 3. Inventory turnover was 3.0 . 4. There are 360 days in the year. 5. The average collection period was 65 days 6. The current ratio was 2.40 . 7. The total asset turnover was 1.13. 8. The debt ratio was 53.8 percent -Notes payable for CEE in 2002 were__________

Inflation can distort

Time-series analysis is often used to

In the near term, the important ratios that provide the information critical to the short-runoperation of the firm are

Balance Sheet Cole Eagan Enterprises December 31, 2002 Cash \ 4,500 Accounts Payable \ 10,000 Accounts Receivable Notes Payable Inventories Accruals 1,000 Total Current Assets Total Current Liab. Net Fixed Assets Long-Term Debt Total Assets Stockholders' Equity Total Liab. \& S.E. Information (2002 values) 1. Sales totaled $\$ 110,000$ 2. The gross profit margin was 25 percent. 3. Inventory turnover was 3.0 . 4. There are 360 days in the year. 5. The average collection period was 65 days 6. The current ratio was 2.40 . 7. The total asset turnover was 1.13. 8. The debt ratio was 53.8 percent -Long-term debt for CEE in 2002 was____________

The __________of a business firm is measured by its ability to satisfy its short-term obligations as they come due.

The magnification of risk and return introduced through the use of fixed-cost financing such as debt and preferred stock is called financial leverage.

Over the last year, a firm's average collection period increased from 30 days to 45 days. Thisincrease could be the result of

The analyst should be careful when evaluating a ratio analysis that

$\text { Dana Dairy Products Key Ratio }$ Industry Actual Actual Average 2001 2002 Current Ratio 1.3 1.0 Quick Ratio 0.8 0.75 Average collection Period 23 days 30 days Inventory Turnover 21.7 19 Debt Ratio 64.7\% 50\% Times Interest Earned 4.8 5.5 Gross Profit Margin 13.6\% 12.0\% Net Profit Margin 1.0\% 0.5\% Return on total assets 2.9\% 2.0\% Return on Equity 8.2\% 4.0\% Income Statement Dana Dairy Products For the Year Ended December 31, 2002 Sales Revenue \ 100,000 Less: Cost of Goods Sold 87,000 -\@cdots Gross Profits \ 13,000 Less: Operating Expenses 11,000 -\@cdots Operating Profits 2,000 Less: Interest Expense 500 -\@cdots Net Profits Before Taxes \ 1,500 Less: Taxes (40\%) 600 Balance Sheet Dana Dairy Products December 31, 2002 ASSETS Cash \ 1,000 Accounts Receivable 8,900 Inventories 4,350 ---- Total Current Assets \ 14,250 Gross Fixed Assets \ 35,000 Less: Accumulated Depreciation 13,250 Net Fixed Assets 21,750 ---- Total Assets \3 6,000 Liabilities \& Stockholders' Equity Accounts Payable \ 9,000 Accruals 6,675 ---- Total Current Liabilities \ 15,675 Long-term Debts 4,125 ---- Total Liabilities \1 9,800 Common Stock 1,000 Retained Earnings 15,200 ---- Total Stockholders' Equity \1 6,200 ---- Total Liab. \& S.E. \3 6,000 -Dana Dairy Products has a___________ degree of financial leverage than the industry standard, resulting in___________ .

Total asset turnover commonly measures the liquidity of a firm's total assets.

The cross-section ratio analysis involves comparing the firm's ratios to those of firms in other industries at the same point in time.

$\text { Dana Dairy Products Key Ratio }$ Industry Actual Actual Average 2001 2002 Current Ratio 1.3 1.0 Quick Ratio 0.8 0.75 Average collection Period 23 days 30 days Inventory Turnover 21.7 19 Debt Ratio 64.7\% 50\% Times Interest Earned 4.8 5.5 Gross Profit Margin 13.6\% 12.0\% Net Profit Margin 1.0\% 0.5\% Return on total assets 2.9\% 2.0\% Return on Equity 8.2\% 4.0\% Income Statement Dana Dairy Products For the Year Ended December 31, 2002 Sales Revenue \ 100,000 Less: Cost of Goods Sold 87,000 -\@cdots Gross Profits \ 13,000 Less: Operating Expenses 11,000 -\@cdots Operating Profits 2,000 Less: Interest Expense 500 -\@cdots Net Profits Before Taxes \ 1,500 Less: Taxes (40\%) 600 Balance Sheet Dana Dairy Products December 31, 2002 ASSETS Cash \ 1,000 Accounts Receivable 8,900 Inventories 4,350 ---- Total Current Assets \ 14,250 Gross Fixed Assets \ 35,000 Less: Accumulated Depreciation 13,250 Net Fixed Assets 21,750 ---- Total Assets \3 6,000 Liabilities \& Stockholders' Equity Accounts Payable \ 9,000 Accruals 6,675 ---- Total Current Liabilities \ 15,675 Long-term Debts 4,125 ---- Total Liabilities \1 9,800 Common Stock 1,000 Retained Earnings 15,200 ---- Total Stockholders' Equity \1 6,200 ---- Total Liab. \& S.E. \3 6,000 -If Dana Dairy Products has credit terms which specify that accounts receivable should be paid in 25 days, the average collection period__________since 2001.

$\text { Dana Dairy Products Key Ratio }$ Industry Actual Actual Average 2001 2002 Current Ratio 1.3 1.0 Quick Ratio 0.8 0.75 Average collection Period 23 days 30 days Inventory Turnover 21.7 19 Debt Ratio 64.7\% 50\% Times Interest Earned 4.8 5.5 Gross Profit Margin 13.6\% 12.0\% Net Profit Margin 1.0\% 0.5\% Return on total assets 2.9\% 2.0\% Return on Equity 8.2\% 4.0\% Income Statement Dana Dairy Products For the Year Ended December 31, 2002 Sales Revenue \ 100,000 Less: Cost of Goods Sold 87,000 -\@cdots Gross Profits \ 13,000 Less: Operating Expenses 11,000 -\@cdots Operating Profits 2,000 Less: Interest Expense 500 -\@cdots Net Profits Before Taxes \ 1,500 Less: Taxes (40\%) 600 Balance Sheet Dana Dairy Products December 31, 2002 ASSETS Cash \ 1,000 Accounts Receivable 8,900 Inventories 4,350 ---- Total Current Assets \ 14,250 Gross Fixed Assets \ 35,000 Less: Accumulated Depreciation 13,250 Net Fixed Assets 21,750 ---- Total Assets \3 6,000 Liabilities \& Stockholders' Equity Accounts Payable \ 9,000 Accruals 6,675 ---- Total Current Liabilities \ 15,675 Long-term Debts 4,125 ---- Total Liabilities \1 9,800 Common Stock 1,000 Retained Earnings 15,200 ---- Total Stockholders' Equity \1 6,200 ---- Total Liab. \& S.E. \3 6,000 -Using the modified DuPont formula allows the analyst to break Dana Dairy Products return on equity into 3 components:. Which of the following mathematical expressions represents the modified DuPont formula relative to Dana Dairy Products' 2002 performance? (See Figure 3.2)

A firm has a current ratio of 1; in order to improve its liquidity ratios, this firm might