c16- 1 learning objectives 1.basic analytical procedures 2.solvency analysis 3.profitability...

C16- 1

Learning Objectives

1. Basic Analytical Procedures

2. Solvency Analysis

3. Profitability Analysis

4. Summary of Analytical Measures

5. Corporate Annual Reports

Chapter 16 Chapter 16 Financial Statement Financial Statement

AnalysisAnalysis

C16- 2

Lincoln CompanyComparative Balance SheetDecember 31, 2003 and 2002

AssetsCurrent assets $ 550,000 $ 533,000 $ 17,000 3.2%Long-term investments 95,000 177,500 (82,500) (46.5%)Fixed assets (net) 444,500 470,000 (25,500) (5.4%)Intangible assets 50,000 50,000 —

$1,139,500 $1,230,500 $ (91,000) (7.4%) LiabilitiesCurrent liabilities $ 210,000 $ 243,000 $ (33,000) (13.6%)Long-term liabilities 100,000 200,000 (100,000) (50.0%)

$ 310,000 $ 443,000 $(133,000) (30.0%) Stockholders’ EquityPreferred stock, $100 par $ 150,000 $ 150,000 — Common stock, $10 par 500,000 500,000 — Retained earnings 179,500 137,500 $42,000 30.5%

$ 829,500 $ 787,500 $42,000 5.3% $1,139,500 $1230,500 $(91,000) (7.4%)

Increase (Decrease)2003 2002 Amount Percent

C16- 3

Lincoln CompanyComparative Balance SheetDecember 31, 2003 and 2002

AssetsCurrent assets $ 550,000 $ 533,000 $ 17,000 3.2%Long-term investments 95,000 177,500 (82,500) (46.5%)Fixed assets (net) 444,500 470,000 (25,500) (5.4%)Intangible assets 50,000 50,000 —

$1,139,500 $1,230,500 $ (91,000) (7.4%) LiabilitiesCurrent liabilities $ 210,000 $ 243,000 $ (33,000) (13.6%)Long-term liabilities 100,000 200,000 (100,000) (50.0%)

$ 310,000 $ 443,000 $(133,000) (30.0%) Stockholders’ EquityPreferred stock, $100 par $ 150,000 $ 150,000 — Common stock, $10 par 500,000 500,000 — Retained earnings 179,500 137,500 $42,000 30.5%

$ 829,500 $ 787,500 $42,000 5.3% $1,139,500 $1230,500 $(91,000) (7.4%)


Horizontal Analysis: Horizontal Analysis:

Current year (2003) $550,000Base year (2002) $533,000

= 103.2%

Increase amount $17,000Base year (2002) $533,000

= 3.2%

C16- 4

Lincoln CompanyComparative Income Statement

December 31, 2003 and 2002

Sales $1,530,500 $1,234,000 $296,500 24.0%Sales returns 32,500 34,000 (1,500) (4.4%)Net sales $1,498,000 $1,200,000 $298,000) 24.8%Cost of goods sold 1,043,000 820,000 223,000 27.2% Gross profit $ 455,000 $ 380,000 $ 75,000 19.7%Selling expenses $ 191,000 $ 147,000 $ 44,000 29.9%Administrative expenses 104,000 97,400 6,600 6.8% Total operating expenses $ 295,000 $ 244,400 $ 50,600 20.7%Operating income $ 160,000 $ 135,600 $ 24,400 18.0%Other income 8,500 11,000 (2,500) (22.7%) $ 168,500 $ 146,600 $ 21,900 14.9%Other expense 6,000 12,000 (6,000) (50.0%)Income before income tax $ 162,500 $ 134,600 $ 27,900 20.7%Income tax 71,500 58,100 13,400 23.1%Net income $ 91,000 $ 76,500 $ 14,500 19.0%


C16- 5

Lincoln CompanyComparative Income Statement

December 31, 2003 and 2002

Sales $1,530,500 $1,234,000 $296,500 24.0%Sales returns 32,500 34,000 (1,500) (4.4%)Net sales $1,498,000 $1,200,000 $298,000) 24.8%Cost of goods sold 1,043,000 820,000 223,000 27.2% Gross profit $ 455,000 $ 380,000 $ 75,000 19.7%Selling expenses $ 191,000 $ 147,000 $ 44,000 29.9%Administrative expenses 104,000 97,400 6,600 6.8% Total operating expenses $ 295,000 $ 244,400 $ 50,600 20.7%Operating income $ 160,000 $ 135,600 $ 24,400 18.0%Other income 8,500 11,000 (2,500) (22.7%) $ 168,500 $ 146,600 $ 21,900 14.9%Other expense 6,000 12,000 (6,000) (50.0%)Income before income tax $ 162,500 $ 134,600 $ 27,900 20.7%Income tax 71,500 58,100 13,400 23.1%Net income $ 91,000 $ 76,500 $ 14,500 19.0%


Horizontal Analysis: Horizontal Analysis:

Current year (2003) $1,498,000Base year (2002) $1,200,000

= 124.8%

Increase amount $298,000Base year (2002) $1,200,000

= 24.8%

C16- 6

Lincoln CompanyComparative Balance Sheets

AssetsCurrent assets $ 550,000 48.3% $ 533,000 43.3%Long-term investments 95,000 8.3 177,500 14.4Fixed assets (net) 444,500 39.0 470,000 38.2Intangible assets 50,000 4.4 50,000 4.1

$1,139,500 100.0% $1,230,500 100.0% LiabilitiesCurrent liabilities $ 210,000 18.4% $ 243,000 19.7%Long-term liabilities 100,000 8.8 200,000 16.3

$ 310,000 27.2% $ 443,000 36.0% Stockholders’ EquityPreferred stock, $100 par $ 150,000 13.2% $ 150,000 12.2% Common stock, $10 par 500,000 43.9 500,000 40.6Retained earnings 179,500 15.7 137,500 11.2

$ 829,500 72.8% $ 787,500 64.0% $1,139,500 100.0% $1230,500 100.0%

December 31, 2003 December 31, 2002 Amount Percent Amount Percent

C16- 7




$310,000 27.2% $ 443,000 36.0% Stockholders’ EquityPreferred stock, $100 par $ 150,000 13.2% $ 150,000 12.2% Common stock, $10 par 500,000 43.9 500,000 40.6Retained earnings 179,500 15.7 137,500 11.2

$829,500 72.8% $787,500 64.0% $1,139,500 100.0% $1230,500 100.0%

December 31, 2003 December 31, 2002 Amount Percent Amount Percent

Vertical Analysis: Vertical Analysis:

Current liabilities $210,000Total assets $1,139,500

= 18.4%

C16- 8




$310,000 27.2% $ 443,000 36.0% Stockholders’ EquityPreferred stock, $100 par $ 150,000 13.2% $ 150,000 12.2% Common stock, $10 par 500,000 43.9 500,000 40.6Retained earnings 179,500 15.7 137,500 11.2

$829,500 72.8% $787,500 64.0% $1,139,500 100.0% $1230,500 100.0%

December 31, 2003 December 31, 2002 Amount Percent Amount PercentCommon-Size StatementsCommon-Size Statements

C16- 9

Solvency AnalysisSolvency Analysis

Solvency is the ability of a business to meet its financial obligations (debts) as they are due.

Solvency analysis focuses on the ability of a business to pay or otherwise satisfy its current and noncurrent liabilities.

This ability is normally assessed by examining balance sheet relationships.

C16- 10

Solvency Measures — The Short-Term CreditorSolvency Measures — The Short-Term Creditor

Current assets $550,000 $533,000Current liabilities 210,000 243,000Working capital $340,000 $290,000

Current ratioCurrent ratio 2.6 2.6 2.2 2.2

Working Capital and Current RatioWorking Capital and Current RatioWorking Capital and Current RatioWorking Capital and Current Ratio

Use: To indicate the ability to meet currently maturing obligations.

Use: To indicate the ability to meet currently maturing obligations.

Divide current

assets by current

liabilities

Divide current

assets by current

liabilities

2003 2002

C16- 11


Acid-Test RatioAcid-Test RatioAcid-Test RatioAcid-Test Ratio

Use: To indicate instant debt-paying ability.Use: To indicate instant debt-paying ability.

2003 2002Quick assets:

Cash $ 90,500 $ 64,700Marketable securities 75,000 60,000Accounts receivable (net) 115,000 120,000 Total $280,500 $244,700

Current liabilities $210,000 $243,000Acid-test ratioAcid-test ratio 1.3 1.3 1.0 1.0

C16- 12


Accounts Receivable TurnoverAccounts Receivable TurnoverAccounts Receivable TurnoverAccounts Receivable Turnover

Use: To assess the efficiency in collecting receivables and in the management of credit.


Net sales on account $1,498,000 $1,200,000Accounts receivable (net):

Beginning of year $ 120,000 $ 140,000End of year 115,500 120,000Total $ 235,000 $ 260,000

Average $ 117,500 $ 130,000

Accts. receivable turnoverAccts. receivable turnover 12.7 12.7 9.2 9.2

2003 2002

C16- 13


Number of Days’ Sales in ReceivablesNumber of Days’ Sales in ReceivablesNumber of Days’ Sales in ReceivablesNumber of Days’ Sales in Receivables



2003 2002Accounts receivable (net)

end of year $ 115,000 $ 120,000Net sales on account $1,498,000 $1,200,000Average daily sales on

on account (sales 365) $ 4,104 $ 3,288

Number of days’ sales in Number of days’ sales in

receivablesreceivables 28 28 36.5 36.5

C16- 14


Inventory TurnoverInventory TurnoverInventory TurnoverInventory Turnover

Use: To assess the efficiency in the management of inventory.


2003 2002Cost of goods sold $1,043,000 $ 820,000Inventories:

Beginning of year $ 283,000 $ 311,000End of year 264,000 283,000Total $ 547,000 $ 594,000

Average $ 273,500 $ 297,000

Inventory turnoverInventory turnover 3.8 3.8 2.8 2.8

C16- 15


Number of Days’ Sales in InventoryNumber of Days’ Sales in InventoryNumber of Days’ Sales in InventoryNumber of Days’ Sales in Inventory



2003 2002Inventories, end of year $ 264,000 $283,000Cost of goods sold $1,043,000 $820,000Average daily cost of

goods sold (COGS 365) $ 2,858 $ 2,247

Number of days’ sales Number of days’ sales

in inventoryin inventory 92.4 92.4 125.9 125.9

C16- 16

Solvency Measures — The Long-Term CreditorSolvency Measures — The Long-Term Creditor

Use: To indicate the margin of safety to long-term creditors.

Use: To indicate the margin of safety to long-term creditors.

2003 2002

Fixed assets (net) $444,500 $470,000Long-term liabilities $100,000 $200,000

Ratio of fixed assets toRatio of fixed assets to

long-term liabilitieslong-term liabilities 4.4 4.4 2.4 2.4

Ratio of Fixed Assets to Long-Term LiabilitiesRatio of Fixed Assets to Long-Term LiabilitiesRatio of Fixed Assets to Long-Term LiabilitiesRatio of Fixed Assets to Long-Term Liabilities

C16- 17


Ratio of Liabilities to Stockholders’ EquityRatio of Liabilities to Stockholders’ EquityRatio of Liabilities to Stockholders’ EquityRatio of Liabilities to Stockholders’ Equity

Use: To indicate the margin of safety to creditors.Use: To indicate the margin of safety to creditors.

2003 2002

Total liabilities $310,000 $443,000Total stockholders’ equity $829,500 $787,500Ratio of liabilities toRatio of liabilities to

stockholders’ equitystockholders’ equity 0.37 0.37 0.56 0.56

C16- 18


Number of Times Interest Charges EarnedNumber of Times Interest Charges EarnedNumber of Times Interest Charges EarnedNumber of Times Interest Charges Earned

Use: To assess the risk to debtholders in terms of number of times interest charges were earned.

Use: To assess the risk to debtholders in terms of number of times interest charges were earned.

2003 2002

Income before income tax $ 900,000 $ 800,000Add interest expense 300,000 250,000Amount available for interest $1,200,000 $1,050,000

Number of times earnedNumber of times earned 4.0 4.0 4.2 4.2

C16- 19

Profitability AnalysisProfitability Analysis

Profitability is the ability of an entity to earn profits.

This ability to earn profits depends on the effectiveness and efficiency of operations as well as resources available.

Profitability analysis focuses primarily on the relationship between operating results reported in the income statement and resources reported in the balance sheet.

C16- 20

Profitability Measures — The Common StockholderProfitability Measures — The Common Stockholder

Ratio of Net Sales to AssetsRatio of Net Sales to AssetsRatio of Net Sales to AssetsRatio of Net Sales to Assets

2003 2002Net sales $1,498,000 $1,200,000Total assets:

Beginning of year $1,053,000 $1,010,000End of year 1,044,500 1,053,000Total $2,097,500 $2,063,000

Average $1,048,750 $1,031,500 Excludes long-term investmentsExcludes long-term investments

C16- 21


Ratio of Net Sales to AssetsRatio of Net Sales to AssetsRatio of Net Sales to AssetsRatio of Net Sales to Assets

Use: To assess the effectiveness of the use of assets.

Use: To assess the effectiveness of the use of assets.

2003 2002Net sales on account $1,498,000 $1,200,000Total assets:

Beginning of year $1,053,000 $1,010,000End of year 1,044,500 1,053,000Total $2,097,500 $2,063,000

Average $1,048,750 $1,031,500

Ratio of net sales to assetsRatio of net sales to assets 1.4 1.4 1.2 1.2

C16- 22


Rate Earned on Total AssetsRate Earned on Total AssetsRate Earned on Total AssetsRate Earned on Total Assets

Use: To assess the profitability of the assets.Use: To assess the profitability of the assets.

2003 2002Net income $ 91,000 $ 76,500Plus interest expense 6,000 12,000

Total $ 97,000 $ 88,500Total assets:

Beginning of year $1,230,500 $1,187,500End of year 1,139,500 1,230,500Total $2,370,000 $2,418,000Average $1,185,000 $1,209,000

Rate earned on total assetsRate earned on total assets 8.2% 8.2% 7.3% 7.3%

C16- 23


Rate Earned on Stockholders’ EquityRate Earned on Stockholders’ EquityRate Earned on Stockholders’ EquityRate Earned on Stockholders’ Equity

Use: To assess the profitability of the investment by stockholders.

Use: To assess the profitability of the investment by stockholders.

Net income $ 91,000 $ 76,500Stockholders’ equity:

Beginning of year $ 787,500 $ 750,000End of year 829,500 787,500Total $1,617,000 $1,537,500Average $ 808,500 $ 768,750

Rate earned on equityRate earned on equity 11.3% 11.3% 10.0% 10.0%

2003 2002

C16- 24


Rate Earned on Common Stockholders’ EquityRate Earned on Common Stockholders’ EquityRate Earned on Common Stockholders’ EquityRate Earned on Common Stockholders’ Equity

Use: To assess the profitability of the investment by common stockholders.


2003 2002Net income $ 91,000 $ 76,500Less preferred dividends 9,000 9,000Remainder—common stock $ 82,000$ 82,000 $ 67,500$ 67,500Common stockholders’ equity:

Beginning of year $ 637,500 $ 600,000End of year 679,500 637,500Total $1,317,000 $1,237,500Average $ 658,500$ 658,500 $ 618,750$ 618,750

Rate earned on common equityRate earned on common equity 12.5% 12.5% 10.9% 10.9%

C16- 25


Earnings Per Share on Common StockEarnings Per Share on Common StockEarnings Per Share on Common StockEarnings Per Share on Common Stock

2003 2002Net income $ 91,000 $ 76,500Less preferred dividends 9,000 9,000Remainder—common stock $ 82,000 $ 67,500Shares of common stock 50,000 50,000

Earnings per share on commonEarnings per share on common $1.64 $1.64 $1.35 $1.35



C16- 26


Price-Earnings RatioPrice-Earnings RatioPrice-Earnings RatioPrice-Earnings Ratio

Use: To indicate future earnings prospects, based on the relationship between market value of common stock and earnings.

Use: To indicate future earnings prospects, based on the relationship between market value of common stock and earnings.

2003 2002Market price per share of common $41.00 $27.00Earnings per share on common $ 1.64 $ 1.35

Price-earnings ratio on commonPrice-earnings ratio on common 25 25 20 20

C16- 27


Dividend YieldDividend YieldDividend YieldDividend Yield

Use: To indicate the rate of return to common stockholders in terms of dividends.

Use: To indicate the rate of return to common stockholders in terms of dividends.

2003 2002Dividends per share of common $ 0.80 $ 0.60Market price per share of common $41.00 $27.00

Dividend yield on common stockDividend yield on common stock 1.95%1.95% 2.22%2.22%

C16- 28

Corporate Annual ReportsCorporate Annual Reports

1. Financial Highlights2. President’s Letter to the Stockholders3. Management Report4. Independent Auditors’ Report5. Historical Summary

In addition to financial statements, the annual report includes:

C16- 29

HOME WORK

READING:1. Illustrative problem2. Self- examination questions3. Multiple choice

Writing:1. Exercise: 2. Problem : 16-4B

Discussion:

C16- 30

This is the end of Chapter 16

c16- 1 learning objectives 1.basic analytical procedures 2.solvency analysis 3.profitability...

Documents

operating income

net income

income tax71

assets current assets

net sales

amountpercent slide

current year

sales returns32