RATIO ANALYSIS Data for Barry Computer Co. and its industry averages follow. The firm’s debt is priced at par, so the market value of its debt equals its book value. Since dollars are in thousands, number of shares are shown in thousands too.
a. Calculate the indicated ratios for Barry.
b. Construct the DuPont equation for both Barry and the industry.
c. Outline Barry’s strengths and weaknesses as revealed by your analysis.
d. Suppose Barry had doubled its sales as well as its inventories, accounts receivable, and common equity during 2018. How would that information affect the validity of your ratio analysis? (Hint: Think about averages and the effects of rapid growth on ratios if averages are not used. No calculations are needed.)
| Barry Computer Company: Balance Sheet as of December 31, 2018 (in Thousands) | |||
| Cash | $ 77,500 | Accounts payable | $129,000 |
| Receivables | 336,000 | Other current liabilities | 117,000 |
| Inventories | 241,500 | Notes payable to bank | 84,000 |
| Total current assets | $ 655,000 | Total current liabilities | $330,000 |
| Long-term debt | 256,500 | ||
| Net fixed assets | 292,500 | Common equity (36,100 shares) | 361,000 |
| Total assets | $ 947,500 | Total liabilities and equity | $947,500 |
| Barry Computer Company: Income Statement for Year Ended December 31, 2018 (in Thousands) | ||
| Sales | $1,607,500 | |
| Cost of goods sold | ||
| Materials | $717,000 | |
| Labor | 453,000 | |
| Heat, light, and power | 68,000 | |
| Indirect labor | 113,000 | |
| Depreciation | 41,500 | 1,392,500 |
| Gross profit | $ 215,000 | |
| Selling expenses | 115,000 | |
| General and administrative expenses | 30,000 | |
| Earnings before interest and taxes (EBIT) | $ 70,000 | |
| Interest expense | 24,500 | |
| Earnings before taxes (EBT) | $ 45,500 | |
| Federal and state income taxes (40%) | 18,200 | |
| Net income | $ 27,300 | |
| Earnings per share | $ 0.75623 | |
| Price per share on December 31, 2018 | $ 12.00 |
| Ratio | Barry | Industry Average |
| Current | ___ | 2.0× |
| Quick | ___ | 1.3× |
| Days sales outstanding a | ___ | 35 days |
| Inventory turnover | ___ | 6.7× |
| Total assets turnover | ___ | 3.0× |
| Profit margin | ___ | 1.2% |
| ROA | ___ | 3.6% |
| ROE | ___ | 9.0% |
| ROIC | ___ | 7.5% |
| TIE | ___ | 3.0× |
| Debt/Total capital | ___ | 47.0% |
| M/B | ___ | 4.22 |
| P/E | ___ | 17.86 |
| EV/EBITDA | ___ | 9.14 |
| a Calculation is based on a 365-day year. |
4-24 DuPONT ANALYSIS A firm has been experiencing low profitability in recent years. Perform an analysis of the firm’s financial position using the DuPont equation. The firm has no lease payments but has a $2 million sinking fund payment on its debt. The most recent industry average ratios and the firm’s financial statements are as follows:
| Industry Average Ratios | |||
| Current ratio | 3× | Fixed assets turnover | 6× |
| Debt-to-capital ratio | 20% | Total assets turnover | 3× |
| Times interest earned | 7× | Profit margin | 3% |
| EBITDA coverage | 9× | Return on total assets | 9% |
| Inventory turnover | 10× | Return on common equity | 12.86% |
| Days sales outstanding a | 24 days | Return on invested capital | 11.50% |
| a Calculation is based on a 365-day year. |
| Balance Sheet as of December 31, 2018 (Millions of Dollars) | |||
| Cash and equivalents | $ 78 | Accounts payable | $ 45 |
| Accounts receivable | 66 | Other current liabilities | 11 |
| Inventories | 159 | Notes payable | 29 |
| Total current assets | $303 | Total current liabilities | $ 85 |
| Long-term debt | 50 | ||
| Total liabilities | $135 | ||
| Gross fixed assets | 225 | Common stock | 114 |
| Less depreciation | 78 | Retained earnings | 201 |
| Net fixed assets | $147 | Total stockholders’ equity | $315 |
| Total assets | $450 | Total liabilities and equity | $450 |
| Income Statement for Year Ended December 31, 2018 (Millions of Dollars) | |
| Net sales | $795.0 |
| Cost of goods sold | 660.0 |
| Gross profit | $135.0 |
| Selling expenses | 73.5 |
| EBITDA | $ 61.5 |
| Depreciation expense | 12.0 |
| Earnings before interest and taxes (EBIT) | $ 49.5 |
| Interest expense | 4.5 |
| Earnings before taxes (EBT) | $ 45.0 |
| Taxes (40%) | 18.0 |
| Net income | $ 27.0 |
a. Calculate the ratios you think would be useful in this analysis.
b. Construct a DuPont equation, and compare the company’s ratios to the industry average ratios.
c. Do the balance sheet accounts or the income statement figures seem to be primarily responsible for the low profits?
d. Which specific accounts seem to be most out of line relative to other firms in the industry?
e. If the firm had a pronounced seasonal sales pattern or if it grew rapidly during the year, how might that affect the validity of your ratio analysis? How might you correct for such potential problems?
The following will hopefully help you with your Du Ponts:
First , please note that the third and last ratio of the Du Pont equation (p. 124) is Total Assets/Total Common Equity. This ratio is what we refer to as the “Equity Multiplier.” People often get confused about the denominator in this ratio. If you look at Table 3-1 on page 68, you will see that Total Common Equity is the TOTAL of the common stock and retained earnings. For the company that number is $940mm. Now, go back to the Du Pont on page 124 and look at the equity multiplier. They use that same $940mm. They do not just use the “common stock” number.
Now, look at problem 4-24 where they use some slightly different wording. It shows that “total stockholder equity” = $315mm. That is your number for the Du Pont. It is a common (no pun intended!) error for learners to think “total common equity” (for the DuPont)? That must mean “Common stock”! They then use only the $114mm instead of the total $315mm and incorrectly calculate the Du Pont.
Second, remember (read page 124) that the Du Pont should calculate the very same number that you derive by calculating the ROE ratio. Du Pont does not give you a different ROE, it helps you understand more about that same number (such as, why is the ratio the way it is). So, if your ROE ratio and your Du Pont are different, you have an error somewhere in either your ratio or your equation.
Third, here is a major hint on how to calculate the industry Du Pont in 4-23(b):
To get the EM for the industry, recognize that ROE/ROA = (NI/E)/(NI/A) = NI/E × A/NI = A/E = Equity multiplier = 2.5.
I hope all this helps!
Thanks
RATIO ANALYSIS
Data for Barry Computer Co. and its industry averages follow. The firm’s
debt is priced at par, so the market value of its debt equals its book value. Since dollars are in
thousands, number of shares are shown in thousands too.
a.
Calculate the indicated ratios for Barry.
b.
Construct the DuPont equation for both Barry and the industry.
c.
Outline Barry’s strengths and weaknesses as revealed by your analysis.
d.
Suppose Barry had doubled its sales as well as its inventories, accounts receivable, and
common equity during 2018. How would that information affect the validity of your ratio
analysis? (Hint: Think about averages and the effects of rapid growth on ratios
if averages are
not used. No calculations are needed.)
Barry Computer Company: Balance Sheet as of December 31, 2018 (in Thousands)
Cash
$ 77,500
Accounts payable
$129,000
Receivables
336,000
Other current liabilities
117,000
Inventories
241,500
Notes payable to bank
84,000
Total current assets
$ 655,000
Total current liabilities
$330,000
Long
–
term debt
256,500
Net fixed assets
292,500
Common equity (36,100 shares)
361,000
Total assets
$ 947,500
Total liabilities and equity
$947,500
Barry Computer Company: Income Statement for Year Ended December 31, 2018 (in
Thousands)
Sales
$1,607,500
Cost of goods sold
Materials
$717,000
Labor
453,000
Heat, light, and power
68,000
Indirect labor
113,000
Depreciation
41,500
1,392,500
Gross profit
$ 215,000
Selling expenses
115,000
General and administrative expenses
30,000
Earnings before interest and taxes (EBIT)
$ 70,000
Interest expense
24,500
Earnings before taxes (EBT)
$ 45,500
Federal and state income taxes (40%)
18,200
Net income
$ 27,300
Earnings per share
$ 0.75623
RATIO ANALYSIS Data for Barry Computer Co. and its industry averages follow. The firm’s
debt is priced at par, so the market value of its debt equals its book value. Since dollars are in
thousands, number of shares are shown in thousands too.
a. Calculate the indicated ratios for Barry.
b. Construct the DuPont equation for both Barry and the industry.
c. Outline Barry’s strengths and weaknesses as revealed by your analysis.
d. Suppose Barry had doubled its sales as well as its inventories, accounts receivable, and
common equity during 2018. How would that information affect the validity of your ratio
analysis? (Hint: Think about averages and the effects of rapid growth on ratios if averages are
not used. No calculations are needed.)
Barry Computer Company: Balance Sheet as of December 31, 2018 (in Thousands)
Cash $ 77,500 Accounts payable $129,000
Receivables 336,000 Other current liabilities 117,000
Inventories 241,500 Notes payable to bank 84,000
Total current assets $ 655,000 Total current liabilities $330,000
Long-term debt 256,500
Net fixed assets 292,500 Common equity (36,100 shares) 361,000
Total assets $ 947,500 Total liabilities and equity $947,500
Barry Computer Company: Income Statement for Year Ended December 31, 2018 (in
Thousands)
Sales
$1,607,500
Cost of goods sold
Materials $717,000
Labor 453,000
Heat, light, and power 68,000
Indirect labor 113,000
Depreciation 41,500 1,392,500
Gross profit
$ 215,000
Selling expenses
115,000
General and administrative expenses
30,000
Earnings before interest and taxes (EBIT)
$ 70,000
Interest expense
24,500
Earnings before taxes (EBT)
$ 45,500
Federal and state income taxes (40%)
18,200
Net income
$ 27,300
Earnings per share
$ 0.75623
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