Chapter 13 - SolutionsManual - FINAL - 050417 PDF
Chapter 13 - SolutionsManual - FINAL - 050417 PDF
Chapter 13 - SolutionsManual - FINAL - 050417 PDF
ANSWERS TO QUESTIONS
1. Published financial statements are designed primarily to meet the needs of
external decision makers, including present and potential owners,
investment analysts, and creditors.
2. The three factors are: Economy-wide factors, industry factors, and individual
company factors.
3. Under a product differentiation strategy, companies offer products with
unique features, which typically allows them to charge higher prices. Under a
cost differentiation strategy, companies focus on minimizing operating costs,
which typically allows them to offer products or services at a lower price.
4. The two general methods are comparing across time and comparing across
companies. When comparing across time, analysts evaluate a company and
how it has changed over several years. When comparing across companies,
analysts compare a firm to its competitors at a point in time.
1. c) 2. c) 3. c) 4. c) 5. d)
6. c) 7. a) 8. a) 9. b) 10. d)
* Due to the nature of this project, it is very difficult to estimate the amount of
time students will need to complete the assignment. As with any open-ended
project, it is possible for students to devote a large amount of time to these
assignments. While students often benefit from the extra effort, we find that
some become frustrated by the perceived difficulty of the task. You can reduce
student frustration and anxiety by making your expectations clear. For example,
when our goal is to sharpen research skills, we devote class time to discussing
research strategies. When we want the students to focus on a real accounting
issue, we offer suggestions about possible companies or industries.
M13–2.
M13–3.
M13–4.
21% - 6% = 15%
M13–5.
If sales remain the same, then cost of goods sold will also remain the same.
So the numerator of the ratio will not change. If inventory decreases by 25%,
then the denominator will decrease so the inventory turnover ratio will
increase.
M13–7.
Current Assets
Current Ratio =
Current Liabilities
Quick Assets
Quick Ratio =
Current Liabilities
Purely by definition, the quick ratio must always be less than or equal to the
current ratio. We know that a mistake has been made in this case because
the quick ratio is greater than the current ratio and that is not possible.
M13–8.
M13–9.
All else equal, if prices have been increasing then the most expensive
inventory is the newest inventory. Switching from FIFO to LIFO will result in
higher costs being transferred to cost of goods sold. This will result in lower
costs remaining in inventory, and hence, lower inventory amount on the
balance sheet. In summary, switching from FIFO to LIFO will:
E13–2.
E13–3.
E13–4.
COMPANY 1: Restaurant
Key indicators: High inventory turnover; high property & equipment
COMPANY 2: Full-line department store
Key indicators: High inventory; low inventory turnover
COMPANY 3: Automobile dealer (low priced used cars)
Key indicators: High inventory; low inventory turnover; low gross
profit; low property & equipment
COMPANY 4: Wholesale fish company
Key indicators: High inventory turnover; low gross profit; high
receivables
E13–5.
Table of Contents
34
E13–7.
Turnover Ratios:
Receivable: $74,756* ÷ [($6,386 + $6,508) ÷ 2] = 11.60
Inventory: $42,362** ÷ [($6,759 + $6,909) ÷ 2] = 6.20
*$83,062 x 0.90 = $74,756
**$83,062 x 0.51 = $42,362
Days:
Receivable: 365 days ÷ 11.60 = 31.47 days
Inventory: 365 days ÷ 6.20 = 58.87 days
E13–8.
Turnover Ratios:
Receivable: $700,000* ÷ [($60,000 + $45,000) ÷ 2] = 13.33
Inventory: $600,000** ÷ [($25,000 + $70,000) ÷ 2] = 12.63
*$1,000,000 x .70 = $700,000
**$1,000,000 x .60 = $600,000
Days:
Receivable: 365 days ÷ 13.33 = 27.38 days
Inventory: 365 days ÷ 12.63 = 28.90 days
Current
Current Assets Current Liabilities Ratio
(1) (2) (1 ÷ 2)
Before
transactions $120,000 ($120,000 ÷ 1.5) $80,000 1.50
Transaction (1) Inventory + 40,000 Accts. Pay. + 40,000
New
balances 160,000 120,000 1.33
Transaction (2)*
Cash – 3,000
$157,000 $120,000 1.31
E13–10.
E13–11.
Fixed asset turnover = Net Sales Revenue ÷ Average Net Fixed Assets
9.0 = Net Sales Revenue ÷ $2,098
Net Sales Revenue = $18,882
$4,552 ÷ $506.50*
Receivable Turnover = 8.99
*($508 + $505) ÷ 2
$2,637 ÷ $245.50*
Inventory Turnover = 10.74
*($251 + $240) ÷ 2
$1,298* ÷ $630**
Current Ratio = 2.06
*$513 + $508 + $251 + $26
**$150 + $377 + $1 + $102
$513 ÷ $630
Cash Ratio = 0.81
$608 ÷ $65
Cash Coverage = 9.35
E13–13.
P13–2.
$6,345 ÷ $10,922*
Return on equity = 58.09%
*($9,322 + $12,522) ÷ 2
$6,345 ÷ $40,232*
Return on assets = 15.77%
*($39,946 + $40,518) ÷ 2
$83,176 ÷ $40,232**
Total asset turnover = 2.07
*($39,946 + $40,518) ÷ 2
$54,222 ÷ $11,068*
Inventory turnover = 4.90
*($11,079 + $11,057) ÷ 2
$15,302 ÷ $11,269
Current ratio = 1.36
$8,242 ÷ $782
Cash coverage ratio = 10.54
$30,624 ÷ $9,322
Debt-to-equity ratio = 3.29
Turnover ratios:
7. Total asset turnover $447,000 ÷ $402,000 = 1.11 $802,000 ÷ $798,000 = 1.01
8. Fixed asset turnover $447,000 ÷ $140,000 = 3.19 $802,000 ÷ $401,000 = 2.00
9. Receivable turnover $149,000* ÷ $38,000 = 3.92 $267,333* ÷ $31,000= 8.62
*$447,000 x 1/3 *$802,000 x 1/3
10. Inventory turnover $241,000 ÷ $99,000 = 2.43 $400,000 ÷ $40,000 = 10.00
Liquidity ratios:
11. Current ratio $178,000* ÷ $99,000 = 1.80 $92,000* ÷ $49,000 = 1.88
*$41,000 + $38,000 + $99,000 *$21,000 + $31,000 + $40,000
12. Quick ratio $79,000* ÷ $99,000 = .80 $52,000* ÷ $49,000 = 1.06
*$41,000 + $38,000 *$21,000 + $31,000
13. Cash ratio $41,000 ÷ $99,000 = .41 $21,000 ÷ $49,000 = .43
Solvency ratios:
16. Debt/equity ratio $164,000* ÷ $238,000** = .69 $109,000* ÷ $689,000** = .16
*$99,000 + $65,000 *49,000 + $60,000
**$148,000 + $29,000 + $61,000 **$512,000 + $106,000 + $71,000
Market ratios:
17. Price/earnings ratio $22 ÷ $3.04* = 7.24 $15 ÷ $1.78* = 8.43
*$45,000 ÷ 14,800 shares *$91,000 ÷ 51,200 shares
18. Dividend yield ratio $2.23* ÷ $22 = 10.14% $2.89 ÷ $15 = 19.27%
*$33,000 ÷ 14,800 shares *$148,000 ÷ 51,200 shares
Req. 2
On average, Prime Fish collects its accounts receivable balance 8.62 times a
year and turns over its inventory 10.00 times a year. Blue Waters collects its
accounts receivable balance 3.92 times a year and turns over its inventory
2.43 times a year. Prime Fish is more efficient at collecting its receivables
and turning over its inventory.
Req. 1
Increase (Decrease)
from Year 1 to Year 2
Income Statement Year 2 Year 1 Amount Percent
Sales revenue $190,000 $167,000 $ 23,000 13.77
Cost of goods sold 112,000 100,000 12,000 12.00
Balance Sheet
Cash $4,000 $7,000 $ -3,000 -42.86
Accounts receivable (net) 14,000 18,000 -4,000 -22.22
Inventory 40,000 34,000 6,000 17.65
Property & equipment (net) 45,000 38,000 7,000 18.42
Req. 1
.
Component Percentages 2015
Income statement:
Sales revenue (the base amount) 100.00
Cost of goods sold 58.95
Balance sheet:
Cash 3.88
Accounts receivable (net) 13.59
Inventory 38.83
Operational assets (net) 43.69
(rounded)
Req. 2
$14,000 ÷ $38,500*
Return on equity = 36.36%
*[($30,000 + $12,000) + ($30,000 + $5,000)] ÷ 2
$14,000 ÷ $100,000*
Return on assets = 14.00%
*($103,000 + $97,000) ÷ 2
$14,000 ÷ $190,000
Net profit margin = 7.37%
$100,000 ÷ $38,500
Financial leverage = 2.60
P13–7.
$58,000* ÷ $16,000
Current ratio = 3.63
*$4,000 + $14,000 + $40,000
$18,000* ÷ $16,000
Quick ratio = 1.13
*$4,000 + $14,000
$4,000 ÷ $16,000
Cash ratio = 0.25
$28 ÷ $2.33
P/E ratio = 12.02
$3.50 ÷ $28
Dividend yield ratio = 12.5%
For two companies that are exactly alike, in times of rising prices and inventory
levels, choosing different inventory costing methods will result in:
• Cost of goods sold: LIFO results in higher cost of goods sold on the
income statement. FIFO results in lower cost of goods sold on the income
statement.
• Net income: LIFO results in lower net income on the income statement.
FIFO results in higher net income on the income statement.
5. Quick ratio— Since the quick ratio excludes inventory, the choice of LIFO
versus FIFO does not affect the quick ratio.
Req. 1
$(406) ÷ $191,831*
Return on equity = (0.21)%
*($194,411 +$189,250) ÷ 2
$(406) ÷ $642,231
Net profit margin = (0.06)%
$528,285 ÷ $5,692*
Inventory turnover = 92.81
*($5,827 + $5,557) ÷ 2
$49,625 ÷ $93,151
Current ratio = 0.53
$32,824* ÷ $93,151
Quick ratio = 0.35
*$21,230 + $11,594
$136,533* ÷ $194,411
Debt-to-equity ratio = 0.70
*$93,151 + $9,886 + $33,177 + $319
$1.12 ÷ $(0.02)
P/E ratio = (56.00)
*$(0.02) is taken from the bottom of the Income
Statement
Req. 2
The inventory turnover ratio is high (92.81), but given that California Pizza
Kitchen is in the business of purchasing, preparing, and selling fresh food to
customers on a daily basis it makes sense that their inventory turnover ratio
would be high.
P13–10.
American Airlines C. 10
Facebook A. 77
Starbucks B. 29
Yahoo E. 5
Patriot Coal D. 1
AP13–1.
Many of the ratios between the two companies are quite similar. However,
on the ones that differ, Coca-Cola appears to dominate. The biggest
differences are seen in the P/E ratio, ROA, gross profit margin, and net profit
margin. Coca-Cola has a higher P/E ratio, meaning that the market sees
Coca-Cola as having more potential for growth than Pepsi. Also, the
companies have similar (but not identical) businesses, but Coca-Cola’s
gross profit and net profit margins are higher than Pepsi’s. Coca-Cola earns
more profit per dollar of sales than Pepsi does. The return on assets ratio
for Coke is also higher than that for Pepsi.
AP13–2.
AP13–3.
$6,345 ÷ $83,176
Net profit margin = 7.63%
$8,242 ÷ $6,345
Earnings quality = 1.30
$83,176 ÷ $1,441*
Receivable turnover = 57.72
*($1,484 + $1,398) ÷ 2
$1,723 ÷ $11,269
Cash ratio = 0.15
$10,806* ÷ $830
Times interest earned = 13.02
*$6,345 + $830 + $3,631
$100 ÷ $4.74
P/E ratio = 21.10
Req. 1
$110,000 ÷ $199,750*
Total asset turnover = 0.55
*($206,500 + $193,000) ÷ 2
$110,000 ÷ $100,000*
Fixed asset turnover = 1.10
*($95,000 + $105,000) ÷ 2
$55,000* ÷ $34,500**
Receivable turnover = 1.59
*$110,000 x 50%
**($37,000 + $32,000) ÷ 2
$52,000 ÷ $31,500*
Inventory turnover = 1.65
*($25,000 + $38,000) ÷ 2
$111,500 ÷ $43,000**
Current ratio = 2.59
*$49,500 + $37,000 + $25,000
**$42,000 + $1,000
$86,500 ÷ $43,000
Quick ratio = 2.01
*$49,500 + $37,000
$49,500 ÷ $43,000
Cash ratio = 1.15
$22,000* ÷ $4,000
Times interest earned = 5.50
*$12,600 + $4,000 + $5,400
$14,600 ÷ $3,800
Cash coverage = 3.84
$83,000 ÷ $123,500
Debt-to-equity = 0.67
*$42,000 + $1,000 + $40,000
**$90,000 + $33,500
Req. 2
The average collection period is very long. On average, it takes Tabor 229.56
days (365 days ÷ 1.59) to collect its receivable. In addition, the average
days to sell inventory is long. On average, it takes Tabor 221.21 days
(365 days ÷ 1.65) to sell its inventory. Both of these numbers are
troubling and require additional inquiry.
Req. 1
Increase (Decrease)
from Year 1 to Year 2
Income Statement Year 2 Year 1 Amount Percent
Sales revenue $453,000 $447,000 $ 6,000 1.34
Cost of goods sold 250,000 241,000 9,000 3.73
Balance Sheet
Cash $6,800 $3,900 $ 2,900 74.36
Accounts receivable (net) 42,000 29,000 13,000 44.83
Merchandise inventory 25,000 18,000 7,000 38.89
Prepaid expenses 200 100 100 100.00
Property & equipment (net) 130,000 120,000 10,000 8.33
Component
Income Statement
Percentages
Sales revenue (base amount) 100.00
Cost of goods sold 55.19
Balance Sheet
Cash 3.33
Accounts receivable (net) 20.59
Merchandise inventory 12.25
Prepaid expenses 0.10
Property & equipment (net) 63.73
Req. 2
$25,200 ÷ $109,000*
Return on equity = 23.12%
*[($100,000 + $16,000) ÷ 2] +
[($100,000 + $2,000) ÷ 2] / 2
$25,200 ÷ $187,500*
Return on assets = 13.44%
*($204,000 + $171,000) ÷ 2
$453,000 ÷ $187,500
Total asset turnover = 2.42
$187,500 ÷ $109,000
Financial leverage = 1.72
CONTINUING PROBLEM
CON13–1.
CP13–1.
American Eagle
Return on equity:
$80,322 = 6.97%
($1,139,746 + $1,166,178) ÷ 2
Inventory turnover:
$2,128,193 = 7.46
($278,972 + $291,541) 2
Current ratio:
$890,513 = 1.94
$459,093
Debt-to-equity
$459,093 + $98,069 = 0.49
$1,139,746
Price earnings:
$16 = 38.10
$0.42
Dividend yield:
$0.50 = 3.13%
$16
CP13–2.
Urban Outfitters
Return on equity:
$232,428 = 15.38%
($1,327,969 + $1,694,170) 2
Inventory turnover:
$2,148,147 = 6.42
($358,237 + $311,207) 2
Current ratio:
$809,117 = 2.29
$353,740
Debt-to-equity:
$560,772 = 0.42
$1,327,969
Price/earnings:
$40 = 23.53
$1.70
In general, the ratios indicate that Urban Outfitters is outperforming the industry
and American Eagle is underperforming the industry. The one noticeable ratio
where this is not the case is the price/earnings ratios. American Eagle has a high
price/earnings ratio relative to Urban Outfitters and the industry average. This
means that relative to current earnings, investors have higher expectations for
American Eagle in the future than they do for Urban Outfitters or the industry on
average.
CP13–4.
The two areas where we would expect the largest difference are profit margin
and total asset turnover. We would expect the high-end company to have a
higher net profit margin and a lower total asset turnover ratio. We would expect
the low cost company to have a lower net profit margin and a higher total asset
turnover ratio. It is important to note, that the two firms could have the same ROE,
but for very different reasons. For example, if we assume that financial leverage
is constant across the two companies:
High-end company:
ROE = 20.00%
(10% profit margin x 2.0 total asset turnover x 1.0 financial leverage)
Case 1:
Net Income
ROE =
Average Stockholders’ Equity
$200,000
10% =
Average Stockholders’ Equity
Average Stockholders’ Equity = $2,000,000
Case 2:
Net Sales
Total Asset Turnover =
Average Total Assets
$8,000,000
8 =
Average Total Assets
Average Total Assets = $1,000,000
Case 3:
Net Sales
Total asset Turnover =
Average Total Assets
Net Sales
5 =
$1,000,000
Net Sales = $5,000,000
Net Income
Net Profit Margin =
Net Sales
Net Income
ROE =
Average Stockholders’ Equity
$500,000
15% =
Average Stockholders’ Equity
5 = $1,000,000
Average Total Assets
Average Assets = $200,000
CP13–6.
A more fundamental point concerns the validity of the 2:1 criterion imposed by
First Federal. The case illustrates the ease with which some ratios can be
manipulated, and highlights the need to understand how a company operates
and the inputs to each ratio before analyzing and using the ratio to make
decisions.
Finally, are the controller’s actions ethical? There is nothing unethical about
paying trade creditors, however, if the controller initiated the payments merely to
“window dress” the current ratio and was not forthcoming in revealing this
information the controller’s actions would likely be deemed unethical.
CP13–7.
The response to this question will depend on the companies selected by the
students.