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A B C D E F
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3 Chapter 13 Mini Case
4
5 The first part of the case, presented in Chapter 3, discussed the situation that Computron Industries was in after and
6 expansion program. Thus far, sales have not been up to the forecasted level, cost have been higher than were projected, and a
7 large loss occurred in 2004, rather than the expected profit. As a result, its managagers, directors, and investors are
8 concerned about the firm's survival.
9
10 Donna Jamison was brought in as an assistant to Fred Campo, Computron's chairman, who had the task of getting the
11 company back into a sound financial position. Computron's 2003 and 2004 balance sheets and income statements, together
12 with projections for 2005, are shown in the following tables. Also, the tables show the 2003 and 2004 financial ratios along with
13 industry average data. The 2005 projected financial statement data represent Jamison's and Campo's best guess for 2005
14 results, assuming that some new financing is arranged to get the company "over the hump."
15
16 Input Data:
17 2003 2004 2005
18 Year-end common stock price $8.50 $6.00 $12.17
19 Year-end shares outstanding 100,000 100,000 250,000
20 Tax rate 40% 40% 40%
21 Lease payments $40,000 $40,000 $40,000
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23 Balance Sheets
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25
26 Assets 2003 2004 2005
27 Cash and equivalents $9,000 $7,282 $14,000
28 Short-term investments $48,600 $20,000 $71,632
29 Accounts receivable $351,200 $632,160 $878,000
30 Inventories $715,200 $1,287,360 $1,716,480
31 Total current assets $1,124,000 $1,946,802 $2,680,112
32 Gross Fixed Assets $491,000 $1,202,950 $1,220,000
33 Less Accumulated Dep. $146,200 $263,160 $383,160
34 Net Fixed Assets $344,800 $939,790 $836,840
35 Total Assets $1,468,800 $2,886,592 $3,516,952
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37 Liabilities and equity
38 Accounts payable $145,600 $324,000 $359,800
39 Notes payable $200,000 $720,000 $300,000
40 Accruals $136,000 $284,960 $380,000
41 Total current liabilities $481,600 $1,328,960 $1,039,800
42 Long-term bonds $323,432 $1,000,000 $500,000
43 Total liabilities $805,032 $2,328,960 $1,539,800
44 Common stock (100,000 shares) $460,000 $460,000 $1,680,936
45 Retained earnings $203,768 $97,632 $296,216
46 Total common equity $663,768 $557,632 $1,977,152
47 Total liabilities and equity $1,468,800 $2,886,592 $3,516,952
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49 Income Statements
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51 2003 2004 2005
52 Net sales $3,432,000 $5,834,400 $7,035,600
53 Costs of Goods Sold $2,864,000 $4,980,000 $5,800,000
54 Other Expenses $340,000 $720,000 $612,960
55 Depreciation $18,900 $116,960 $120,000
56 Total Operating Cost $3,222,900 $5,816,960 $6,532,960
57 Earnings before interest and taxes (EBIT) $209,100 $17,440 $502,640
58 Less interest $62,500 $176,000 $80,000
59 Earnings before taxes (EBT) $146,600 -$158,560 $422,640
60 Taxes (40%) $58,640 -$63,424 $169,056
61 Net Income before preferred dividends $87,960 -$95,136 $253,584
62 EPS $0.880 ($0.951) $1.014
63 DPS $0.220 $0.110 $0.220
64 Book Value Per Share $6.638 $5.576 $7.909
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66
67 Jamison examined monthly data for 2004 (not given in the case), and she detected an improving pattern during the year.
68 Monthly sales were rising, costs were falling, and large losses in the early months had turned to a small profit by December.
69 Thus, the annual data look somewhat worse than final monthly data. Also, it appears to be taking longer for the advertising
70 program to get the message across, for the new sales offices to generate sales, and for the new manufacturing facilities to
71 operate efficiently. In other words, the lags between spending money and deriving benefits were longer than Computron's
72 managers had anticipated. For these reasons, Jamison and Campo see hope for the company—provided it can survive in the
73 short run.
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75 Jamison must prepare an analysis of where the company is now, what it must do to regain its financial health, and what actions
76 should be taken. Your assignment is to help her answer the following questions. Provide clear explanations, not yes or no
77 answers.
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79 a. Why are ratios useful? What are the five major categories of ratios? Answer: See Chapter 13 Mini Case Show
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81 b. (1.) Calculate the 2005 current and quick ratios based on the projected balance sheet and income statement data.
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83 Calculated Data: Ratios Industry
84 2003 2004 2005 Average
85 Liquidity ratios
86 Current Ratio 2.33 1.46 2.58 2.70
87 Quick Ratio 0.85 0.50 0.93 1.00
88
89 (2.) What can you say about the company's liquidity position in 2003, 2004, and as projected for 2005? We often think of
90 ratios as being useful (1) to managers to help run the business, (2) to bankers for credit analysis, and (3) to stockholders for
91 stock valuation. Would these different types of analysts have an equal interest in the liquidity ratios? Answer: See Chapter
92 13 Mini Case Show
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94
95 c. Calculate the 2005 inventory turnover, days sales outstanding (DSO), fixed assets turnover, operating capital requirement,
96 and total assets turnover. How does Computron's utilization of assets stack up against other firms in its industry?
97 Industry
98 Asset Management ratios 2003 2004 2005 Average
99 Inventory Turnover 4.80 4.53 4.10 6.10
100 Days Sales Outstanding 37.4 39.5 45.5 32.00
101 Fixed Asset Turnover 9.95 6.21 8.41 7.00
102 Total Asset Turnover 2.34 2.02 2.00 2.50
103
104 d. Calculate the 2005 debt, times-interest-earned, and EBITDA coverage ratios. How does Computron compare with the
105 industry with respect to financial leverage? What can you conclude from these ratios?
106 Industry
107 Debt Management ratios 2003 2004 2005 Average
108 Debt Ratio 54.8% 80.7% 43.8% 50.0%
109 Times Interest Earned 3.35 0.10 6.28 6.20
110 EBITDA Coverage Ratio 2.61 0.81 5.52 8.00
111
112 e. Calculate the 2005 profit margin, basic earning power (BEP), return on assets (ROA), and return on equity (ROE). What
113 can you say about these ratios?
114 Industry
115 Profitability ratios 2003 2004 2005 Average
116 Profit Margin 2.6% -1.6% 3.6% 3.6%
117 Basic Earning Power 14.2% 0.6% 14.3% 17.8%
118 Return on Assets 6.0% -3.3% 7.2% 9.0%
119 Return on Equity 13.3% -17.1% 12.8% 18.0%
120
121 f. Calculate the 2005 price/earnings ratio, price/cash flow ratio, and market/book ratio. Do these ratios indicate that investors
122 are expected to have a high or low opinion of the company?
123 Industry
124 Market Value ratios 2003 2004 2005 Average
125 Price-to Earnings Ratio 9.66 -6.31 12.00 14.20
126 Price-to-Cash Flow Ratio 7.95 27.49 8.14 7.60
127 Market-to-Book Ratio 1.28 1.08 1.54 2.90
128 Book Value Per Share 6.64 5.58 7.91 na
129
130 g. Perform a common size analysis and percent change analysis. What do these analyses tell you about Computron?
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132 See the worksheet with the TAB "Common Size and % Change"
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134
135 h. Use the extended Du Pont equation to provide a summary and overview of Computron's financial condition as projected for
136 2005. What are the firm's major strengths and weaknesses?
137
138 Du Pont Analysis ROE = P.M. Equity Multiplier
XT.A.T.O. X
139 Computron 2003 13.3% 2.6% 2.3 2.21
140 Computron 2004 -17.1% -1.6% 2.0 5.18
141 Computron 2005 12.8% 3.6% 2.0 1.78
142 Industry Average 18.00% 3.6% 2.5 2.00
143
144 i. What are some potential problems and limitations of financial ratio analysis? Answer: See Chapter 13 Mini Case Show
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146 j. What are some qualitative factors analysts should consider when evaluating a company’s likely future financial
147 performance? Answer: See Chapter 13 Mini Case Show
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Common Size Analysis and Percent Change Analysis
In common size analysis, all income statement items are divided by sales, and all balance sheet items are divided by total
assets.
In percent change analysis, all items are expressed as a percent change from the first year, called the base year, of the ana
Common Size Statements
Balance Sheets 2003 2004 2005 Industry
Assets
Cash and equivalents 0.6% 0.3% 0.4% 0.3%
Short-term investments 3.3% 0.7% 2.0% 0.3%
Accounts receivable 23.9% 21.9% 25.0% 22.4%
Inventories 48.7% 44.6% 48.8% 41.2%
Total Current Assets 76.5% 67.4% 76.2% 64.1%
Net Fixed Assets 23.5% 32.6% 23.8% 35.9%
Total Assets 100.0% 100.0% 100.0% 100.0%
Liabilities and equity
Accounts payable 9.9% 11.2% 10.2% 11.9%
Notes payable 13.6% 24.9% 8.5% 2.4%
Accruals 9.3% 9.9% 10.8% 9.5%
Total current liabilities 32.8% 46.0% 29.6% 23.7%
Long-term bonds 22.0% 34.6% 14.2% 26.3%
Total common equity 45.2% 19.3% 56.2% 50.0%
Total liabilities and equity 100.0% 100.0% 100.0% 100.0%
Income Statements 2003 2004 2005 Industry
Net sales 100.0% 100.0% 100.0% 100.0%
Costs of Goods Sold 83.4% 85.4% 82.4% 84.5%
Other Expenses 9.9% 12.3% 8.7% 4.4%
Depreciation 0.6% 2.0% 1.7% 4.0%
EBIT 6.1% 0.3% 7.1% 7.1%
Less interest 1.8% 3.0% 1.1% 1.1%
Earnings before taxes (EBT) 4.3% -2.7% 6.0% 5.9%
Taxes (40%) 1.7% -1.1% 2.4% 2.4%
Net Income before preferred dividends 2.6% -1.6% 3.6% 3.6%
Percentage Change Analysis
Balance Sheets 2003 2004 2005
Assets
Cash and equivalents 0% -19.1% 55.6%
Short-term investments 0% -58.8% 47.4%
Accounts receivable 0% 80.0% 150.0%
Inventories 0% 80.0% 140.0%
Total Current Assets 0% 73.2% 138.4%
Net Fixed Assets 0% 172.6% 142.7%
Total Assets 0% 96.5% 139.4%
Liabilities and equity
Accounts payable 0% 122.5% 147.1%
Notes payable 0% 260.0% 50.0%
Accruals 0% 109.5% 179.4%
Total current liabilities 0% 175.9% 115.9%
Long-term bonds 0% 209.2% 54.6%
Total common equity 0% -16.0% 197.9%
Total liabilities and equity 0% 96.5% 139.4%
Income Statements 2003 2004 2005
Net sales 0% 70.0% 105.0%
Costs of Goods Sold 0% 73.9% 102.5%
Other Expenses 0% 111.8% 80.3%
Depreciation 0% 518.8% 534.9%
EBIT 0% -91.7% 140.4%
Less interest 0% 181.6% 28.0%
Earnings before taxes (EBT) 0% -208.2% 188.3%
Taxes (40%) 0% -208.2% 188.3%
Net Income before preferred dividends 0% -208.2% 188.3%
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