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									                         CHAPTER 3 PROBLEMS
                 UNDERSTANDING FINANCIAL STATEMENTS
                           AND CASH FLOW

3-1.
REVIEW OF FINANCIAL STATEMENTS

DATA
Inventory                                        6,500
General and admin. Expenses                        850
Common Stock                                    45,000
Cash                                            16,550
Operating expenses                               1,350
Notes payable                                      600
Interest expense                                   900
Depreciation expense                               500
Net Sales                                       12,800
Accounts receivable                              9,600
Accounts payable                                 4,800
Long-Term Debt                                  55,000
Cost of Goods sold                               5,750
Buildings and Equipment                        122,000
Accumulated Depreciation                        34,000
Taxes                                            1,440
Retained earnings                                     ?

Solution
Income Statement:
Sales
Cost of Goods sold
Gross Profit                                         0
General & Admin expenses
Depreciation expense
Total operating expense                              0
Operating income (EBIT)                              0
Interest expense
Earnings before taxes
Taxes (40%)
Net Income
Balance Sheet:
Cash
Accounts receivable
Inventory
  Total current assets
Buildings and equipment
Accumulated Depreciation
  Net buildings and equipment
Total assets

Accounts payable
Notes payable
Total current liabilities
Long-term debt
 Total Liabilities
Common Stock
Retained earnings
 Total equity
Total liabilities and equity

A)
Net Working Capital =
Operating Working Capital =
Debt Ratio =

B)
Common-Sized Income Statement
Sales
Cost of Goods sold
Gross Profit
General & Admin expenses
Depreciation expense
Total operating expense
Operating income (EBIT)
Interest expense
Earnings before taxes
Taxes (40%)
Net Income

Common-Sized Balance Sheet:
Cash                            -
Accounts receivable             -
Inventory                               -
  Total current assets                  -
Buildings and equipment                 -
Accumulated Depreciation                -
  Net buildings and equipment           -
Total assets                            -
                                        -
Accounts payable                        -
Notes payable                           -
Total current liabilities               -
Long-term debt                          -
 Total Liabilities                      -
Common Stock                            -
Retained earnings                       -
 Total equity                           -
Total liabilities and equity            -

3-2.
COMPUTING CASH FLOWS

DATA
Increase in current assets                  50
Operating Income                            75
Interest Expense                            25
Increase in accounts payable                35
Dividends                                   15
Increase in common stock                    20
Increase in net fixed assets                23
Depreciation expense                        12
Income taxes                                17

Solution
Free Cash Flows:
Operating income
Depreciation expense
Income taxes
After-tax cash flows from operations
Increase in current assets
Increase in current liabilities
Increase in operating working capital
Change in gross fixed assets*
  Firm's Free Cash Flows
* The change in gross fixed assets is equal to the change in net fixed assets ($23) plus the
depreciation expense for the year of $12, resulting in a change in gross fixed assets of $35.

Financing Cash Flows:
Interest expense
Increase in common stock
Dividend
  Financing Cash Flows

3-3.
REVIEW OF FINANCIAL STATEMENTS

DATA
Depreciation expense                                                       66,000
Cash                                                                      225,000
Long-Term Debt                                                            334,000
Net Sales                                                                 573,000
Accounts payable                                                          102,000
General and admin. Expenses                                                79,000
Buildings and Equipment                                                   895,000
Notes payable                                                              75,000
Accounts receivable                                                       153,000
Interest expense                                                            4,750
Accrued expenses                                                            7,900
Common Stock                                                              289,000
Cost of Goods sold                                                        297,000
Inventory                                                                  99,300
Taxes                                                                      50,500
Accumulated Depreciation                                                  263,000
Prepaid expenses                                                           14,500
Taxes payable                                                              53,000
Retained earnings                                                         262,900

Solution
Income Statement:
Sales
Cost of Goods sold
Gross Profits
General & Admin expenses
Depreciation expense
Total operating expense
Operating income (EBIT)
Interest expense
Earnings before taxes
Taxes (40%)
Net Income

Balance Sheet:
Cash
Accounts receivable
Inventory
Prepaid expenses
  Total current assets
Gross Buildings and equipment
Accumulated Depreciation
  Net fixed assets
Total assets

Notes payable
Accounts payable
Taxes payable
Accrued expenses
Total current liabilities
Long-term debt
 Total Liabilities
Common Stock
Retained earnings
 Total equity
Total liabilities and equity

A)
Net Working Capital =
Operating Working Capital =
Debt Ratio =

B)
Common-Sized Income Statement:
Sales                            #DIV/0!
Cost of Goods sold               #DIV/0!
Gross Profits                    #DIV/0!
General & Admin expenses         #DIV/0!
Depreciation expense             #DIV/0!
Total operating expense                           #DIV/0!
Operating income (EBIT)                           #DIV/0!
Interest expense                                  #DIV/0!
Earnings before taxes                             #DIV/0!
Taxes (40%)                                       #DIV/0!
Net Income                                        #DIV/0!

Common-Sized Balance Sheet:
Cash                                              #DIV/0!
Accounts receivable                               #DIV/0!
Inventory                                         #DIV/0!
Prepaid expenses                                  #DIV/0!
  Total current assets                            #DIV/0!
Gross Buildings and equipment                     #DIV/0!
Accumulated Depreciation                          #DIV/0!
  Net fixed assets                                #DIV/0!
Total assets                                      #DIV/0!

Notes payable                                     #DIV/0!
Accounts payable                                  #DIV/0!
Taxes payable                                     #DIV/0!
Accrued expenses                                  #DIV/0!
Total current liabilities                         #DIV/0!
Long-term debt                                    #DIV/0!
 Total Liabilities                                #DIV/0!
Common Stock                                      #DIV/0!
Retained earnings                                 #DIV/0!
 Total equity                                     #DIV/0!
Total liabilities and equity                      #DIV/0!

Problem 3-4 does not have a numerical solution.

3-5.
COMPUTING CASH FLOWS

DATA
Dividends                                             25
Increase in common stock                              27
Increase in current assets                           135
Operating income                                     215
Interest expense                                      50
Depreciation expense                                  20
Increase in interest-bearing debt                               48
Increase in gross fixed assets                                  55
Income taxes                                                    45

Solution
Free Cash Flows:
Operating income
Depreciation expense
Income taxes
After-tax cash flows from operations
Increase in current assets
Increase in current liabilities
Increase in operating working capital
Increase in gross fixed assets
  Free Cash Flows

Financing Cash Flows:
Interest expense
Increase in common stock
Increase in interest-bearing debt
Dividend
  Financing Cash Flows

Problem 3-6 does not have a numerical solution.

3-7.
INTERPRETING FINANCIAL STATEMENTS AND MEASURING CASH FLOWS

DATA
Assets:                                              2007      2008
Cash                                                $200      $150
Accounts Receivable                                  450       425
Inventory                                            550       625
 Current assets                                    1,200     1,200
Plant and equipment                                2,200     2,600
 Less: accumulated depreciation                   (1,000)   (1,200)
 Net plant and equipment                           1,200     1,400
   Total assets                                   $2,400    $2,600

Liabilities and Equity:                             2007      2008
Accounts payable                                   $200      $150
Notes payable--current (9%)                          -        150
 Current liabilities                     200        300
Bonds                                    600        600
Owners’ equity
 Common stock                             900       900
 Retained earnings                        700       800
   Total owners’ equity                 1,600     1,700
Total liabilities and owners’ equity   $2,400    $2,600

Income Statement:                         2007      2008
Sales                                  $1,200    $1,450
Cost of goods sold                        700       850
  Gross profit                            500       600
Operating expenses                         30        40
Depreciation                              220       200
Net operating income                      250       360
Interest expense                           50        64
Net income before taxes                   200       296
Taxes (40%)                                80       118
Net income                               $120      $178

Solution
A)
Net Working Capital =
Operating Working Capital =
Debt Ratio =

B)
Common-Sized Income Statement:           2008
Sales                                            #DIV/0!
Cost of goods sold                               #DIV/0!
  Gross profit                                   #DIV/0!
Operating expenses                               #DIV/0!
Depreciation                                     #DIV/0!
Net operating income                             #DIV/0!
Interest expense                                 #DIV/0!
Net income before taxes                          #DIV/0!
Taxes (40%)                                      #DIV/0!
Net income                                       #DIV/0!

Common-Sized Balance Sheet
Assets:                                  2008
Cash                                             #DIV/0!
Accounts Receivable                                                  #DIV/0!
Inventory                                                            #DIV/0!
 Current assets                                                      #DIV/0!
Plant and equipment                                                  #DIV/0!
 Less: accumulated depreciation                                      #DIV/0!
 Net plant and equipment                                             #DIV/0!
   Total assets                                                      #DIV/0!

Liabilities and Equity:                                 2008
Accounts payable                                                     #DIV/0!
Notes payable--current (9%)                                          #DIV/0!
  Current liabilities                                                #DIV/0!
Bonds                                                                #DIV/0!
Owners’ equity
  Common stock                                                       #DIV/0!
  Retained earnings                                                  #DIV/0!
   Total owners’ equity                                              #DIV/0!
Total liabilities and owners’ equity                                 #DIV/0!

C)
Free Cash Flows:
Operating income
Depreciation
Income taxes
After-tax cash flows from operations
Increase in current assets
Increase in accounts payable
Change in net operating working capital
Increase in gross fixed assets
  Free Cash Flows

Financing Cash Flows:
Interest expense
Increase in short-term interest bearing debt
Dividend*
  Financing Cash Flows

*Note: The dividends were computed by comparing net income to the change in retained earnings.
Net income was $178, but retained earnings increased only by $100; thus the balance was
distributed in the form of dividends.
3-8.
INTERPRETING FINANCIAL STATEMENTS AND MEASURING CASH FLOWS

DATA
Balance Sheet:                                    2007       2008
Cash                                           $15,000    $14,000    ($1,000)
Marketable Securities                            6,000      6,200       $200
Receivables                                     42,000     33,000    ($9,000)
Inventory                                       51,000     84,000    $33,000
Prepaid expenses                                 1,200      1,100      ($100)
Total current assets                           115,200    138,300    $23,100
Net fixed assets                               286,000    270,000   ($16,000)
Total assets                                  $401,200   $408,300     $7,100

                                                  2007       2008
Accounts payable                               $48,000    $57,000     $9,000
Accruals                                         6,000      5,000    ($1,000)
Notes payable                                   15,000     13,000    ($2,000)
Total current liabilities                       69,000     75,000     $6,000
Long-term debt                                 160,000    150,000   ($10,000)
Common stock                                   172,200    183,300    $11,100
Total liabilities and equity                  $401,200   $408,300     $7,100

Sales                                                    $600,000
Cost of goods sold                                        460,000
Gross profit                                              140,000
Less: Operating and interest expenses:
General and administration                     30,000
Interest                                       10,000
Depreciation                                   30,000
  Total Operating and interest expenses                    70,000
Earnings before taxes                                      70,000
Less: Taxes                                                27,100
Net income available to common stockholders                42,900
Less: Cash dividends                                       31,800
Change in Retained earnings                               $11,100


Solution
A)
Net working capital =
Operating working capital =
Debt ratio =

B)
Common-sized income statement                  2008
Sales                                                 #DIV/0!
Cost of goods sold                                    #DIV/0!
Gross profit                                          #DIV/0!
Less: Operating and interest expenses:
General and administration                            #DIV/0!
Interest                                              #DIV/0!
Depreciation                                          #DIV/0!
  Total Operating and interest expenses               #DIV/0!
Earnings before taxes                                 #DIV/0!
Less: Taxes                                           #DIV/0!
Net income available to common stockholders           #DIV/0!
Less: Cash dividends                                  #DIV/0!
Change in Retained earnings                           #DIV/0!

Common-sized balance sheet                     2008
Cash                                                  #DIV/0!
Marketable Securities                                 #DIV/0!
Receivables                                           #DIV/0!
Inventory                                             #DIV/0!
Prepaid expenses                                      #DIV/0!
Total current assets                                  #DIV/0!
Net fixed assets                                      #DIV/0!
Total assets                                          #DIV/0!

                                               2008
Accounts payable                                      #DIV/0!
Accruals                                              #DIV/0!
Notes payable                                         #DIV/0!
Total current liabilities                             #DIV/0!
Long-term debt                                        #DIV/0!
Common stock                                          #DIV/0!
Total liabilities and equity                          #DIV/0!

C)
step 1: after-tax cash flows from operations
Operating Income (EBIT)
Depreciation expense
Tax expense
After-tax cash flows from operations

Step 2: change in net operating working capital
  Change in current assets
  Change in accounts payable
  Change in accruals
Change in net operating working capital

Step 3: Change in long-term assets
Net cash used for investments

Free Cash Flows

Financing Cash Flows:
Interest paid to investors
Less change in interest payable
  Interest received by investors
Plus decrease in long-term debt
Plus decrease in short-term debt
Common stock dividends
Financing Cash Flows:

3-9.
MEASURING CASH FLOWS

DATA
Abrahams Manufacturing Company Balance Sheet
At 12/31/2007 and 12/31/2008
Assets:                                               2007        2008
Cash                                               $89,000    $100,000
Accounts Receivable                                 64,000      70,000
Inventory                                          112,000     100,000
Prepaid expenses                                    10,000      10,000
   Total current assets                            275,000     280,000
Gross plant and equipment                          238,000     311,000
Accumulated Depreciation                           (40,000)    (66,000)
   Total assets                                   $473,000    $525,000

Liabilities and Equity                                2007        2008
Accounts Payable                                   $85,000     $90,000
Accrued liabilities                                 68,000      63,000
   Total current liabilities                       153,000     153,000
Mortgage Payable                                           70,000             0
Preferred stock                                                 0       120,000
Common stock                                              205,000       205,000
Retained earnings                                          45,000        47,000
   Total liabilities and equity                          $473,000      $525,000

Abrahams Manufacturing Company Income Statement
For the Year Ended 12/31/2008
Sales (all credit)                                                     $184,000
Less: cost of goods sold                                                 60,000
Gross profits                                                           124,000
Less: operating expenses
   General and administrative                   44,000
   Depreciation                                 26,000
   Total                                                                 70,000
Operating income                                                         54,000
Interest expense                                                          4,000
Earnings before taxes                                                    50,000
Taxes                                                                    16,000
Preferred stock dividends                                                10,000
Net income available to common stockholders                              24,000

1. The only entry in the accumulated depreciation account is for 2008 depreciation.
2. Common stock dividends for 2008                     22,000

Solution
Free Cash Flows :
After-tax cash flows from operations
Operating income (EBIT)
Depreciation expense
Tax expense
After-tax cash flows from operations

Change in net operating working capital
  Increase in current assets
  Increase in non-interest bearing current liabilities
Increase in net operating working capital

  Purchase of fixed assets

Free Cash Flows :
Financing Cash Flows:
Interest expense
Repayment of long-term debt
Increase in preferred stock
Preferred stock dividends
Common stock dividends
Financing cash flows

Problem 3-10 does not have a numerical solution.

MINI CASE

DATA
Income Statements                                         Toyota                    General Motors
For the years ending 2004 and 2005                 2004            2005          2004
Sales                                              $163,637        $172,749      $190,812
   Cost of goods sold                               120,262         129,100       144,179
Gross profit                                         43,375          43,649        46,633
   Selling, general, and administrative
expenses                                             19,438           18,095       20,394
   Depreciation and amortization                      9,177            9,291       14,152
Operating profit                                     14,760           16,263       12,087
   Interest expense                                     196              177       11,980
   Nonoperating income                                2,269            2,244        3,407
   Extraordinary items                                  608           (1,297)      (1,620)
Taxable Income                                       17,441           17,033        1,894
   Income Taxes                                       6,446            6,126         (911)
Net income                                           10,995           10,907        2,805

Annual Balance Sheet ($ millions)                                  Toyota
At 12/31/2004 and 12/31/2005                       2004             2005        Change
Assets:
Cash & equivalents                                  $21,258          $19,466      ($1,792)
Accounts receivables                                 43,063           47,166       $4,103
Inventories                                          10,250           12,168       $1,918
Other current assets                                  9,150            9,105         ($45)
  Total current assets                               83,721           87,905       $4,184
Gross plant, property & equipment                   126,429          130,916       $4,487
Accumulated depreciation                             75,765           76,948       $1,183
Net plant, property & equipment                      50,664           53,968       $3,304
Investments                                          64,728           77,296      $12,568
Intangibles                                      0            0                $0
Other assets                                 9,424        7,435           ($1,989)
  Total assets                            $208,537     $226,604

Liabilities:
Accounts payable                            16,173       17,290        $1,117
Notes payable                               20,712       22,179        $1,467
Accrued expenses                            10,723       12,006        $1,283
Short-term notes                            13,036       13,444          $408
Other current liabilities                   11,245       11,692          $447
  Total current liabilities                 71,889       76,611        $4,722
Long term notes                             40,186       46,698        $6,512
Other long-term liabilities                 19,079       19,070           ($9)
  Total Liabilities                        131,154      142,379       $11,225
Common stock                                 3,757        3,697          ($60)
Paid-in capital                              4,685        4,616          ($69)
Retained earnings                           68,941       75,912        $6,971
  Common equity                             77,383       84,225
  Total liabilities and equity            $208,537     $226,604

Solution
A)                                                           Toyota
Common-Sized Income Statement                   2004                            2005
Sales                                                   #DIV/0!
   Cost of goods sold                                   #DIV/0!
Gross profit                                            #DIV/0!
   Selling, general, and administrative
expenses                                                #DIV/0!
   Depreciation and amortization                        #DIV/0!
Operating profit                                        #DIV/0!
   Interest expense                                     #DIV/0!
   Nonoperating income                                  #DIV/0!
   Special Items                                        #DIV/0!
Taxable Income                                          #DIV/0!
   Income Taxes                                         #DIV/0!
Net income                                              #DIV/0!

                                                         General Motors
Common-Sized Income Statement                                2004
Sales                                                   #DIV/0!
   Cost of goods sold                                   #DIV/0!
Gross profit                                            #DIV/0!
   Selling, general, and administrative
expenses                                         #DIV/0!
   Depreciation and amortization                 #DIV/0!
Operating profit                                 #DIV/0!
   Interest expense                              #DIV/0!
   Nonoperating income                           #DIV/0!
   Special Items                                 #DIV/0!
Taxable Income                                   #DIV/0!
   Income Taxes                                  #DIV/0!
Net income                                       #DIV/0!

                                                     Toyota
Common-Sized Balance Sheet                2004                2005
Assets:
Cash & equivalents                               #DIV/0!
Accounts receivables                             #DIV/0!
Inventories                                      #DIV/0!
Other current assets                             #DIV/0!
  Total current assets                           #DIV/0!
Gross plant, property & equipment                #DIV/0!
Accumulated depreciation                         #DIV/0!
Net plant, property & equipment                  #DIV/0!
Investments                                      #DIV/0!
Intangibles                                      #DIV/0!
Other assets                                     #DIV/0!
  Total assets                                   #DIV/0!

Liabilities:
Accounts payable                                 #DIV/0!
Notes payable                                    #DIV/0!
Accrued expenses                                 #DIV/0!
Short-term notes                                 #DIV/0!
Other current liabilities                        #DIV/0!
  Total current liabilities                      #DIV/0!
Long term notes                                  #DIV/0!
Other long-term liabilities                      #DIV/0!
  Total Liabilities                              #DIV/0!
Common stock                                     #DIV/0!
Paid-in capital                                  #DIV/0!
Retained earnings                                #DIV/0!
  Common equity                                  #DIV/0!
  Total liabilities and equity                   #DIV/0!
                                                              General Motors
Common-Sized Balance Sheet                             2004                    2005
Assets:
Cash & equivalents                                            #DIV/0!
Accounts receivables                                          #DIV/0!
Inventories                                                   #DIV/0!
Other current assets                                          #DIV/0!
  Total current assets                                        #DIV/0!
Gross plant, property & equipment                             #DIV/0!
Accumulated depreciation                                      #DIV/0!
Net plant, property & equipment                               #DIV/0!
Investments                                                   #DIV/0!
Intangibles                                                   #DIV/0!
Other assets                                                  #DIV/0!
  Total assets                                                #DIV/0!

Liabilities:
Accounts payable                                              #DIV/0!
Notes payable                                                 #DIV/0!
Accrued expenses                                              #DIV/0!
Short-term notes                                              #DIV/0!
Other current liabilities                                     #DIV/0!
  Total current liabilities                                   #DIV/0!
Long term notes                                               #DIV/0!
Other long-term liabilities                                   #DIV/0!
  Total Liabilities                                           #DIV/0!
Common stock                                                  #DIV/0!
Paid-in capital                                               #DIV/0!
Retained earnings                                             #DIV/0!
  Common equity                                               #DIV/0!
  Total liabilities and equity                                #DIV/0!

B)                                                 Toyota        GM
Gross profits/sales
Operating profits/sales
Net Income/sales

C)
This question does not have a numerical solution

D)
 Free cash flows:
 Step 1: Compute after-tax cash flows from
operations                                   Toyota   General Motors
Operating income
Depreciation and impairment of assets
Income taxes
Decrease in tax payable and deferred taxes
Income taxes
After-tax cash flows from operations
Extraordinary items
Non-operating income

Step 2: Change in net operating working
capital
Change in current assets:
Cash & equivalents
Accounts receivables
Inventories
Other current assets
  Change in current assets:
Change in current debt:
Accounts payable
Accrued expenses
Other current assets
  Change in current debt:
Change in net operating working capital

Step 3: Change in long-term assets
Purchase of fixed assets
Change in investments
Change in intangibles
Change in other assets
Net cash used for investments

Free cash flows
General Motors
            2005
             $190,215
              155,264
               34,951

               22,734
               15,769
               (3,552)
               15,768
                2,984
                 (109)
              (16,445)
               (5,878)
              (10,567)

                        General Motors
            2004             2005        Change

             $35,993          $32,142     ($3,851)
             180,195          199,407     $19,212
              32,181           36,219      $4,038
              10,794            8,877     ($1,917)
             259,163          276,645     $17,482
             124,988          130,226      $5,238
              49,904           51,825      $1,921
              75,084           78,401      $3,317
              30,614           23,891     ($6,723)
               12,089      9,097     ($2,992)
              102,653     88,044    ($14,609)
             $479,603   $476,078


               28,830     29,913      $1,083
                    0          0          $0
               21,103     65,614     $44,511
               93,105     83,747     ($9,358)
                    0      3,759      $3,759
              143,038    183,033     $39,995
              207,174    203,598     ($3,576)
              101,665     74,850    ($26,815)
              451,877    461,481      $9,604
                  942        943          $1
               15,241     15,285         $44
               11,543     (1,631)   ($13,174)
               27,726     14,597
             $479,603   $476,078




      2005
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General Motors

								
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