Chapter 13
Analyzing Financial Statements
QUESTIONS
1. Financial reporting includes the entire process of preparing and issuing financial
information about a company. Financial statements are an important part of financial
reporting but they are less than the whole.
2. With comparative statements, financial statement items for two or more successive
accounting periods are placed side by side on a single statement, with the change in
each item expressed as both a dollar amount and a percent. Common-size
comparative statements express each financial statement item as a percent of some
base amount that is assigned a value of 100%.
3. Total assets (or equivalently, the total of liabilities plus equity) are assigned a value of
100% on a common-size balance sheet. Net sales (revenues) are assigned a value of
100% on a common-size income statement.
4. The nature of a company's business, the composition of its current assets, and the
turnover of its current assets are three important factors that should be considered in
deciding whether a current ratio is good or bad.
5. A 2-to-1 current ratio may not be adequate if the company's current assets consist of
a large proportion of slow-turning accounts, notes, and merchandise inventory. The
general nature of the business also may make the 2-to-1 rule of thumb inadequate.
6. Adequate working capital enables a company to carry sufficient inventories, meet
current debts, take advantage of cash discounts, and extend favorable terms to
customers. Working capital is a major factor in determining the short-term liquidity
position of a company.
7. When evaluated in light of a company's credit terms, the number of days' sales
uncollected indicates how quickly accounts receivable are converted into cash. This
provides information about the relevance of accounts receivable balances in meeting
the current obligations of the business.
8. A high accounts receivable turnover implies that accounts are collected quickly,
thereby providing cash that can be used to meet obligations. A high turnover also
means that a given sales volume can be supported with a lower investment in
accounts receivable.
9. Users are interested in the capital structure of a company, as measured by debt and
equity ratios, for at least two reasons. First, as a company includes more debt in its
capital structure, the risk that it will be unable to meet interest and principal payments
increases. Second, the existence of debt introduces financial leverage. If the
company can earn a rate of return on its investments that exceeds the rate of interest
paid to creditors, the debt will increase the rate of return to stockholders.
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Solutions Manual, Chapter 13
723
10. Inventory turnover reflects on the efficiency of inventory management. That is, a
high inventory turnover means that a given sales volume can be supported with a
smaller investment in inventory. This insight into the speed with which inventory is
sold determines the relevance of the available inventory in meeting the current
obligations of the business, which is a focus of short-term liquidity.
11. Since management is responsible for a company's performance, all ratios that are
useful in evaluating a company are of some usefulness in assessing management
performance. Profit margin, total asset turnover, return on total assets, and return
on stockholders' equity are especially useful for assessing management's
responsibility for operating efficiently and profitably.
12. Almost all companies have some liabilities. Since total assets equals total liabilities
plus equity, total assets are almost always higher than common stockholders'
equity. Thus, the denominator in return on total assets is larger than common
stockholders' equity. Since the numerator is the same for both, and return on total
assets has a larger denominator, it yields a smaller percent. [Instructor note: A more
complete measure of return on assets would add back (Interest Expense x {1 – Tax
Rate}) to net income in the numerator—reflecting the after-tax cost of debt. We leave
the rationale for this adjustment to advanced courses.]
13. This gain is considered to be unusual but not infrequent. It would be included in the
calculation of income from continuing operations, with other unusual or infrequent
gains and losses—in a category often labeled Other Gains and Losses.
14. Profit margin: Net Income / Sales ($ in thousands)
2011: $227,575/$2,656,949 = 8.6%
2010: $147,138/$1,991,139 = 7.4%
15. Equity ratio: Total Equity / Total Assets ($ in thousands)
2011: $183,036/$272,906 = 67.1%
2010: $167,339/$246,084 = 68.0%
16. Debt ratio: Total Liabilities / Total Assets (€ in thousands)
2011: €1,073,966/ €1,520,184 = 70.6%
2010: €1,102,832/ €1,545,722 = 71.3%
17. Return on total assets: Net Income / Average Total Assets (€ in thousands)
2011: €20,818/ ((€485,775 + €445,325)/2) = 4.5%
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724
Financial & Managerial Accounting, 5th Edition
QUICK STUDY
Quick Study 13-1 (5 minutes)
Items not part of general-purpose financial statements:
d. Prospectus.
e. Stock price information and analysis.
g. Management discussion and analysis of financial performance.
i. Company news releases.
Quick Study 13-2 (5 minutes)
Trend percents
2013
177.0%
($801,810/ $453,000)
2012
100.0%
(the given base amount)
Quick Study 13-3 (5 minutes)
Common-size percents
2013
49.0%
($392,887 / $801,810)
2012
29.6%
($134,088 / $453,000)
Quick Study 13-4 (15 minutes)
Dollar
2013
2012
Change
Short-term investments .............
$374,634 $234,000 $140,634
Accounts receivable ...................
97,364
Notes payable..............................
0
101,000
88,000
(3,636)
Percent
Change
60.1%
-3.6%
88,000 (not calculable)
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Solutions Manual, Chapter 13
725
Quick Study 13-5 (10 minutes)
The four usual standards of comparisons are:
 Intracompany. The company under analysis provides standards for
comparisons based on prior performance and relations between its
financial items.
 Competitor. One or more direct competitors of the company under
analysis can provide standards for comparisons.
 Industry. Industry statistics can provide standards of comparisons.
Published industry statistics are available from several services such as
Dun & Bradstreet, Standard and Poor's, and Moody's.
 Guidelines (Rules of Thumb). General standards of comparisons can
develop from past experiences. Examples are the 2-to-1 level for the
current ratio or 1-to-1 level for the acid-test ratio.
All of these standards of comparisons are useful when properly applied.
Yet, analysis measures taken from a selected competitor or group of
competitors are often the best standards of comparisons. Also,
intracompany and industry measures are important parts of all analyses.
The standard that is least likely to provide a good basis for comparison is
the use of guidelines, or rules of thumb. Guidelines must be applied with
care, and then only if they seem reasonable in light of past experience and
industry's norms.
Quick Study 13-6 (10 minutes)
Ratio
2013
2012
Change
1. Profit Margin Ratio ................................ 9%
8%
2. Debt Ratio .............................................. 47%
42%
Unfavorable
3. Gross Margin Ratio ............................... 34%
46%
Unfavorable
4. Acid-test Ratio....................................... 1.00
1.15
Unfavorable
5. Accounts Receivable Turnover ........... 5.5
6.7
Unfavorable
6. Basic Earnings Per Share ....................$1.25
$1.10
Favorable
7. Inventory Turnover ............................... 3.6
3.4
Favorable
8. Dividend Yield .......................................2.0%
1.2%
Favorable
Favorable
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726
Financial & Managerial Accounting, 5th Edition
Quick-Study 13-7 (30 minutes)
Parker has a greater amount of working capital. This by itself does not
indicate whether the company is more capable of meeting its current
obligations. However, support is provided by the current ratio and acidtest ratio, which show Parker is in a more liquid position than Morgan. This
evidence does not mean that Morgan's liquidity is inadequate. Such a
conclusion would require more information such as norms for the industry
or its other competitors. Notably, Morgan's acid-test ratios approximate
the traditional rule of thumb (1 to 1).
This evidence also shows that Parker's working capital, current ratio, and
acid-test ratio all increased dramatically over the three-year period. This
trend toward greater liquidity may be positive, but it can also suggest that
Parker holds an excess amount of highly liquid assets that typically earn
low returns.
The accounts receivable turnover and inventory turnover indicate that
Morgan is more efficient in collecting its accounts receivable and in
generating sales from available inventory. However, these statistics also
may suggest that Morgan is too conservative in granting credit and
investing in inventory. This could have a negative impact on sales and net
income. Parker's ratios may be acceptable, but no definitive determination
can be made without having information on industry (or other competitors’)
standards.
Quick Study 13-8A (5 minutes)
This material error should be reported on the statement of retained
earnings (and/or the statement of stockholders’ equity) as a prior period
adjustment to the beginning retained earnings balance. Also, if prior year’s
financial numbers are reported, they should be revised to show the correct
numbers.
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Solutions Manual, Chapter 13
727
Quick Study 13-9 (10 minutes)
a. Although ratio analysis can eliminate currency differences, it cannot
eliminate differences in the application of GAAP under different
accounting systems. For example, if we compare the gross margin
percent for a European company applying FIFO under IFRS versus an
American company applying LIFO under U.S. GAAP, the percents will be
impacted by differences in FIFO versus LIFO. Thus, we must still adjust
the accounting numbers for fundamental differences in accounting
methods when performing ratio analysis.
Additional examples that are arguably even more problematic: (1)
Consider two companies, one reporting under U.S. GAAP and the other
under IFRS, which we are reviewing via the Operating Cash Flow /
Average Total Assets ratio. We can potentially see the dividends and
the interest items reported differently for these two companies under the
two different reporting regimes. That type of difference would persist
(that is, not be reversed). (2) Consider the same type of comparison as
we look at the Return on Total Assets ratio. Again, we can potentially
see differences in asset values through IFRS’s more aggressive
methods. These methods include the mark up associated with reversals
of previous write-downs.
Also some long-term asset revaluation
methods are also more aggressive than U.S. GAAP. Different from this
paragraph’s first example, however, many of these differences in asset
revaluations will be captured over time (multiple periods) with both
accounting systems.
b. A key advantage to using horizontal and vertical analyses when
examining companies reporting under different currencies is that the
computation of the percentages eliminates the currency effects. This
enhances our comparative analysis of companies. For example, the
gross margin percent from a European company using IFRS, and from a
Japanese company using Japan GAAP, and from an American company
using U.S. GAAP can be directly compared and assessed.
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728
Financial & Managerial Accounting, 5th Edition
EXERCISES
Exercise 13-1 (10 minutes)
1.
2.
3.
4.
5.
B
C
D
C
A
6.
7.
8.
9.
10.
A
B
B
C
A
Exercise 13-2 (5 minutes)
1. Profit Margin and the Total Asset Turnover.
Return on Total Assets.
2. Working Capital, also called net working capital.
3. Accounts Receivable Turnover and the Days' Sales Uncollected.
Exercise 13-3 (20 minutes)
2015
Sales........................................189
2014
181
2013
168
2012
156
2011
100
Cost of goods sold ................191
182
172
159
100
Accounts receivable ..............201
192
182
169
100
Analysis: The trend in sales is positive. While this is better than no growth,
one cannot definitively say whether the sales trend is favorable without
additional information about the economic conditions in which this trend
occurred such as inflation rates and competitors’ performances.
Given the trend in sales, the comparative trends in both cost of goods sold
and accounts receivable are somewhat unfavorable. In particular, for the most
recent year, both are increasing at slightly faster rates (indexes for cost of goods
sold is 191 and accounts receivable is 201) compared to sales (index is 189).
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Solutions Manual, Chapter 13
729
Exercise 13-4 (25 minutes)
Answer: Net income decreased.
Supporting calculations: When the sum of each year's common-size cost of
goods sold and total expenses is subtracted from the common-size sales
percent, the net income percent is as follows:
2012 net income percent: 100.0 - 59.1 - 15.1 = 25.8% of sales
2013 net income percent: 100.0 - 61.9 - 14.8 = 23.3% of sales
2014 net income percent: 100.0 - 63.4 - 15.3 = 21.3% of sales
Next, if 2012 sales are assumed to be $100, then sales for 2013 are $104.20 and
the sales for 2014 are $105.40. If the net income percents for the three years are
applied to these amounts, the net incomes are:
2012 net income: $100.00 x 25.8% = $25.80
2013 net income: $104.20 x 23.3% = $24.28
2014 net income: $105.40 x 21.3% = $22.45
This shows that net income decreased over the three-year period.
Exercise 13-5 (25 minutes)
2013
Sales.................................................... 100.0%
2012
100.0%
Cost of goods sold ............................
75.7
46.5
Gross profit ........................................
24.3
53.5
Operating expenses...........................
17.3
35.0
Net income..........................................
7.0%
18.5%
Analysis: Overall, this company’s situation has worsened. This is evident from
the substantial decline in net income as a percent of sales for 2013 (7.0%)
relative to 2012 (18.5%). The main culprit is the increase in cost of goods sold
as a percent of sales from 46.5% in 2012 to 75.7% in 2013. On a somewhat
positive note, the company has not experienced any increase in operating
expenses as a percent of sales; indeed, declining from 35.0% in 2012 to 17.3%
in 2013. Even more positive is the company’s level of sales increase from
$625,000 in 2012 to $740,000 in 2013.
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730
Financial & Managerial Accounting, 5th Edition
Exercise 13-6 (30 minutes)
COMPARATIVE ANALYSIS REPORT
Clay's profit margins are higher than Roak's.
However, Roak has
significantly higher total asset turnover ratios. As a result, Roak generates
a substantially higher return on total assets.
The trends of both companies include evidence of growth in sales, total
asset turnover, and return on total assets. However, Clay's rates of
improvement are better than Roak's. These differences may result from the
fact that Clay is only three years old, while Roak is a somewhat more
established company. Clay's operations are considerably smaller than
Roak's, but that will not persist many more years if both companies
continue to grow at their current rates.
To some extent, Roak's higher total asset turnover ratios may result from
the fact that its assets may have been purchased years earlier. If the
turnover calculations had been based on current values, the differences
might be less striking. The relative ages of the assets also may explain
some of the difference in profit margins. Assuming Clay's assets are
newer, they may require smaller maintenance expenses.
Finally, Roak successfully employed financial leverage in 2015. Its return
on total assets is 9.0% compared to the 7% interest rate it paid to obtain
financing from creditors. In contrast, Clay's return is only 5.9% as
compared to the 7% interest rate paid to creditors.
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Solutions Manual, Chapter 13
731
Exercise 13-7 (20 minutes)
Simon Company
Common-Size Comparative Balance Sheets
December 31, 2012-2014
At December 31
2014
2013*
Assets
Cash ...................................................................
6.1%
8.0%
10.0%
Accounts receivable, net ..................................
17.1
14.0
13.3
Merchandise inventory .....................................
21.5
18.5
14.3
Prepaid expenses ..............................................
2.0
2.1
1.3
Plant assets, net ...............................................
53.3
57.3
61.1
100.0%
100.0%
Total assets ....................................................... 100.0%
2012
Liabilities and Equity
Accounts payable .............................................
Long-term notes payable secured by
mortgages on plant assets ..........................
24.8%
16.9%
13.6%
18.8
22.9
22.1
Common stock, $10 par value .........................
31.3
36.7
43.3
Retained earnings ............................................
25.1
23.5
21.0
100.0%
100.0%
Total liabilities and equity ................................ 100.0%
*
Column does not equal 100.0 due to rounding.
Analysis: Several observations can be made.
(1) Cash as a percent of assets has declined—this is favorable provided sufficient
cash is available for operations.
(2) Accounts receivable have increased as a percent of assets—this may be
unfavorable in that assets are tied up in an unproductive manner and there would
be additional assets exposed to the risk of uncollection; it could be favorable if
increased sales outweigh these costs and risk.
(3) Plant assets have declined as a percent of assets—this is favorable if the
company is operating more efficiently; it could be unfavorable if the company is
downsizing due to poor performance.
(4) Accounts payable have markedly increased as a percent of assets—this could
reveal liquidity constraints.
(5) Common stock has markedly declined—this could reflect a stock buyback
program or other mechanisms to reduce shares outstanding.
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732
Financial & Managerial Accounting, 5th Edition
Exercise 13-8 (25 minutes)
1.
2.
Current ratio
2014:
$31,800 + $89,500 + $112,500 + $10,700
$129,900
= 1.88 to 1
2013:
$35,625 + $62,500 + $82,500 + $9,375
$75,250
= 2.52 to 1
2012:
$37,800 + $50,200 + $54,000 + $5,000
$51,250
= 2.87 to 1
Acid-test ratio
2014:
$31,800 + $89,500
$129,900
= 0.93 to 1
2013:
$35,625 + $62,500
$75,250
= 1.30 to 1
2012:
$37,800 + $50,200
$51,250
= 1.72 to 1
Analysis and Interpretation: Simon's short-term liquidity position has
deteriorated over this three-year period. Both the current and acid-test
ratios show declining trends. Although we do not have information about
the nature of the company's business, the acid-test ratio shifts from ‘1.72 to
1’ down to ‘0.93 to 1’ and the current ratio shifts from ‘2.87 to 1’ down to
‘1.88 to 1’—both suggest a potential liquidity problem. Still, we must
recognize that industry standards could show that the 2012 ratios were too
high (instead of 2014 ratios as being too low).
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Solutions Manual, Chapter 13
733
Exercise 13-9 (25 minutes)
1.
2.
3.
4.
Days' sales uncollected
2014:
$89,500
x 365 = 48.5 days
$673,500
2013:
$62,500
x 365 = 42.9 days
$532,000
Accounts receivable turnover
2014:
$673,500
($89,500 + $62,500)/2
= 8.9 times
2013:
$532,000
($62,500 + $50,200)/2
= 9.4 times
Inventory turnover
2014:
$411,225
= 4.2 times
($112,500 + $82,500)/2
2013:
$345,500
($82,500 + $54,000)/2
= 5.1 times
Days’ sales in inventory
2014:
2013:
$112,500
$411,225
x 365 = 99.9 days
$82,500
x 365 = 87.2 days
$345,500
Analysis and Interpretation: The number of days' sales uncollected has
increased and the accounts receivable turnover has declined. Also, the
inventory turnover has decreased and days’ sales in inventory has
increased. While none of these changes in ratios that occurred from 2013
to 2014 appear dramatic, it seems that Simon is becoming less efficient in
managing its inventory and in collecting its receivables.
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any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part.
734
Financial & Managerial Accounting, 5th Edition
Exercise 13-10 (25 minutes)
1. Debt and equity ratios
2014
2013
Total liabilities and debt ratio
$129,900 + $98,500 .......................
$228,400
43.7%
$75,250 + $101,500 .......................
$176,750
39.7%
Total equity and equity ratio
$163,500 + $131,100 .....................294,600
56.3
$163,500 + $104,750 .....................
_______ _____
Total liabilities and equity ...............
$523,000
100.0%
268,250
60.3
$445,000 100.0%
2. Debt-to-equity ratio
2014: $228,400 / $294,600 = 0.78 to 1
2013: $176,750 / $268,250 = 0.66 to 1
3. Times interest earned
2014: ($31,100 + $9,525 + $12,100) / $12,100 = 4.4 times
2013: ($29,375 + $8,845 + $13,300) / $13,300 = 3.9 times
Analysis and Interpretation: Simon added debt to its capital structure
during 2014, with the result that the debt ratio increased from 39.7% to
43.7%. In addition, the debt-to-equity ratio also increased from 0.66 to 1 to
0.78 to 1. We should note that the debt increase is mostly in current
liabilities, which places a greater stress on short-term liquidity.
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Solutions Manual, Chapter 13
735
Exercise 13-11 (30 minutes)
1.
Profit margin
2014: $31,100 / $673,500 = 4.6%
2013: $29,375 / $532,000 = 5.5%
2.
3.
Total asset turnover
2014:
$673,500
= 1.4 times
($523,000 + $445,000)/2
2013:
$532,000
= 1.3 times
($445,000 + $377,500)/2
Return on total assets
2014:
$31,100
($523,000 + $445,000)/2
= 6.4%
2013:
$29,375
($445,000 + $377,500)/2
= 7.1%
Analysis and Interpretation: Simon's operating efficiency appears to be
declining because the return on total assets decreased from 7.1% to 6.4%.
While the total asset turnover favorably increased slightly from 2013 to
2014, the profit margin unfavorably decreased from 5.5% to 4.6%. The
decline in profit margin indicates that Simon's ability to generate net
income from sales has declined.
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any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part.
736
Financial & Managerial Accounting, 5th Edition
Exercise 13-12 (20 minutes)
1.
2.
Return on common stockholders' equity
2014:
$31,100
($294,600 + $268,250)/2
= 11.1%
2013:
$29,375
($268,250 + $242,750)/2
= 11.5%
Price-earnings ratio, December 31
2014: $30 / $1.90 = 15.8
2013: $28 / $1.80 = 15.6
3.
Dividend yield
2014: $0.29 / $30 = 0.1%
2013: $0.24 / $28 = 0.9%
Analysis and interpretation
 The company’s return on common stockholders’ equity is good, but not
great. An 11% return likely makes it an acceptable investment (in the
business world) provided its risk is not too high.
 The company’s price-earnings ratio is around 16. This suggests that the
market does view this company to have some growth potential.
 The dividend yield is on the low side. Thus, this stock would likely be
classified as a “growth” stock, and the price-earnings ratio suggests
that the market does perceive a high likelihood of some growth.
Exercise 13-13A (10 minutes)
1.
2.
3.
4.
5.
6.
7.
8
A
C
A
A
A
B
B
A
Income (loss) from continuing operations
Extraordinary gain (loss)
Income (loss) from continuing operations
Income (loss) from continuing operations
Income (loss) from continuing operations
Gain (loss) from disposing of a discontinued segment
Income (loss) from operating a discontinued segment
Income (loss) from continuing operations
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any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part.
Solutions Manual, Chapter 13
737
Exercise 13-14 (15 minutes)
RANDA MERCHANDISING, INC.
Income Statement
For Year Ended December 31, 2013
Net sales ..........................................................................
$2,900,000
Expenses
Cost of goods sold ......................................................$1,480,000
Salaries expense .........................................................
640,000
Depreciation expense .................................................
232,500
Total expenses ............................................................
2,352,500
Income from continuing operations before taxes .......
547,500
Income taxes expense ...................................................
217,000
Income from continuing operations .............................
330,500
Discontinued segment
Loss from operating wholesale business
segment (net of tax) ................................................. (444,000)
Gain on sale of wholesale business
segment (net of tax) .................................................
775,000
331,000
Income before extraordinary gain ................................
661,500
Extraordinary gain on condemnation of
company property (net of tax)....................................
230,000
Net income ......................................................................
$ 891,500
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any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part.
738
Financial & Managerial Accounting, 5th Edition
Exercise 13-15 (15 minutes)
1.
Current ratio =
(in ¥s)
¥ 1,468,706 / ¥ 333,301
= 4.41
(in $s)
$17,695,254 / $4,015,683
= 4.41
¥ 77,621 / ¥ 1,014,345
= 7.65%
(in $s)
$935,200 / $12,221,031
= 7.65%
(in ¥s)
¥ 1,014,345 / ¥ 1,634,297
= 0.62
(in $s)
$12,221,031 / $19,690,330
= 0.62
Net profit margin = (in ¥s)
Sales-to-assets =
2. The results in part 1 reveal that ratios can help us overcome
differences attributable to currencies. However, ratios do not overcome
potential differences in application of accounting principles.
©2013 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution in
any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part.
Solutions Manual, Chapter 13
739
PROBLEM SET A
Problem 13-1A (60 minutes)
Part 1
Current ratio:
December 31, 2014: $52,390 / $22,800 = 2.3 to 1
December 31, 2013: $37,924 / $19,960 = 1.9 to 1
December 31, 2012: $51,748 / $20,300 = 2.5 to 1
Part 2
KORBIN COMPANY
Common-Size Comparative Income Statements
For Years Ended December 31, 2014, 2013, and 2012
2014
2013
2012
100.00%
100.00%
Cost of goods sold ....................................51.08
62.50
55.36
Gross profit ................................................48.92
37.50
44.64
Selling expenses ........................................18.54
13.80
18.27
Administrative expenses .......................... 9.13
8.80
8.20
Total expenses ...........................................27.67
22.60
26.47
Income before taxes ..................................21.25
14.90
18.17
Income taxes .............................................. 7.35
3.05
5.64
11.85%
12.53%
Sales............................................................
100.00%
Net income .................................................13.90%
©2013 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution in
any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part.
740
Financial & Managerial Accounting, 5th Edition
Problem 13-1A (Concluded)
Part 3
KORBIN COMPANY
Balance Sheet Data in Trend Percents
December 31, 2014, 2013, and 2012
2014
2013
2012
Assets
Current assets ..................................
Long-term investments ...................
Plant assets, net...............................
Total assets ......................................
101.24% 73.29%
0.00
12.66
166.67
160.00
131.71
116.19
100.00%
100.00
100.00
100.00
Current liabilities..............................
Common stock .................................
Other paid-in capital ........................
Retained earnings ............................
112.32% 98.33%
120.00
120.00
150.00
150.00
165.28
113.83
100.00%
100.00
100.00
100.00
Total liabilities and equity ...............
131.71
100.00
Liabilities and Equity
116.19
Part 4
Significant relations revealed
Korbin’s selling expenses and income taxes consumed smaller portions of
each sales dollar in 2013 than 2012. However, cost of goods sold and
administrative expenses consumed a larger portion in 2013. Therefore, income
as a percent of sales declined from 2012 to 2013. In 2014, selling expenses,
administrative expenses, and income tax took a greater portion of each sales
dollar while the gross profit portion improved. The reduction in cost of goods
sold allowed income as a percent of sales to increase from 2013 to 2014
Korbin expanded its plant assets in 2013, financing the expansion through the
sale of long-term investments, through a reduction in working capital (the
current ratio decreased from 2.5-to-1 to 1.9-to-1), and perhaps through the sale
of a small amount of stock. As to the stock increase, it is not possible to tell
from these two statements whether the company sold shares or declared a
stock dividend. In either case, the increase in retained earnings during 2013
indicates that net income was larger than the reductions from cash (and
perhaps stock) dividends. In 2014, working capital increased, the current ratio
increased from 1.9-to-1 to 2.3-to-1, and cash dividends were paid.
©2013 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution in
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Solutions Manual, Chapter 13
741
Problem 13-2A (120 minutes)
Part 1
HAROUN COMPANY
Income Statement Trends
For Years Ended December 31, 2014-2008
2014
2013
2012
2011
2010
2009
2008
Sales .....................................182.5% 161.2% 147.6% 136.2% 127.8% 119.6% 100.0%
Cost of goods sold ..............212.6
176.1
153.9
136.9
128.3
121.2
100.0
Gross profit ..........................131.0
135.7
136.8
135.1
126.9
117.0
100.0
Operating expenses ............279.7
216.9
198.3
144.1
123.7
122.0
100.0
Net income ........................... 52.7
92.9
104.5
130.4
128.6
114.3
100.0
2008
HAROUN COMPANY
Balance Sheet Trends
December 31, 2014-2008
2014
2012
2011
2010
2009
Cash ...................................... 65.2% 87.6%
92.1%
94.4%
98.9%
96.6% 100.0%
Accounts recble., net ..........226.9
238.0
215.7
166.7
147.2
139.8
100.0
Merchandise inventory........298.9
221.8
195.8
167.8
152.2
131.7
100.0
Other current assets............400.0
355.6
155.6
377.8
311.1
311.1
100.0
—
—
100.0
100.0
100.0
100.0
Plant assets, net ..................278.6
277.8
241.7
130.2
134.9
118.6
100.0
Total assets ..........................246.8
222.3
195.4
144.4
138.6
124.0
100.0
Current liabilities .................432.6
369.5
254.6
217.7
193.6
185.1
100.0
Long-term liabilities.............323.5
285.0
278.0
142.5
145.0
155.0
100.0
Common stock .....................153.8
153.8
153.8
130.8
130.8
100.0
100.0
Other paid-in capital ............166.7
166.7
166.7
113.3
113.3
100.0
100.0
Retained earnings................213.2
179.2
137.7
124.5
109.4
91.2
100.0
Total liabilities & equity.......246.8
222.3
195.4
144.4
138.6
124.0
100.0
Long-term investments ....... —
2013
©2013 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution in
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742
Financial & Managerial Accounting, 5th Edition
Problem 13-2A (concluded)
Part 2
Analysis and Interpretation
 The statements and the trend percent data indicate that the company
significantly expanded its plant assets in 2012. Prior to that time, the
company enjoyed increasing gross profit and net income.
 Sales grew steadily for the entire period of 2008 to 2014. However,
beginning in 2012, cost of goods sold and operating expenses increased
dramatically relative to sales, resulting in a significant reduction in net
income.
 In 2014, net income was only 52.7% of the 2008 base year amount.
 At the same time that net income was declining, assets were increasing.
This indicates that Haroun was becoming less efficient in using its
assets to generate income.
 The short-term liquidity of the company continued to decline. Accounts
receivable did not change significantly for the period of 2012 to 2014,
but cash steadily declined and inventory sharply increased as did
current liabilities.
©2013 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution in
any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part.
Solutions Manual, Chapter 13
743
Problem 13-3A (60 minutes)
Transaction
Current
Assets
Quick
Assets
Current
Liabilities
Beginning*
$700,000
$308,000
$280,000
2.50
1.10
$420,000
May 2
+ 50,000
_______
+ 50,000
____
____
_______
750,000
308,000
330,000
2.27
0.93
420,000
+110,000
+110,000
- 55,000
_______
_______
____
____
_______
805,000
418,000
330,000
2.44
1.27
475,000
+ 20,000
+ 20,000
- 20,000
- 20,000
_______
____
____
_______
805,000
418,000
330,000
2.44
1.27
475,000
- 22,000
- 22,000
- 22,000
____
____
_______
783,000
396,000
308,000
2.54
1.29
475,000
+0
+0
_______
____
____
_______
Bal.
783,000
396,000
308,000
2.54
1.29
475,000
May 22
_______
_______
+ 50,000
____
____
_______
Bal.
783,000
396,000
358,000
2.19
1.11
425,000
- 50,000
- 50,000
- 50,000
____
____
_______
733,000
346,000
308,000
2.38
1.12
425,000
+100,000
+100,000
+100,000
____
____
_______
833,000
446,000
408,000
2.04
1.09
425,000
+ 80,000
+ 80,000
________
____
____
_______
913,000
526,000
408,000
2.24
1.29
505,000
May 29
- 180,000
- 180,000
________
____
____
_______
Bal.
$733,000
$346,000
$408,000
1.80
0.85
$325,000
Bal.
May 8
Bal.
May 10
Bal.
May 15
Bal.
May 17
May 26
Bal.
May 27
Bal.
May 28
Bal.
Current Acid-Test
Ratio
Ratio
Working
Capital
*Beginning balances
Current assets (given) ............................................
$700,000
Current liabilities ($700,000 / 2.50) ........................
280,000
Quick assets ($280,000 x 1.10)...............................
308,000
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744
Financial & Managerial Accounting, 5th Edition
Problem 13-4A (50 minutes)
1.
Current ratio
$10,000 + 8,400 + $29,200 + $4,500 + $32,150 + $2,650 = 3.6 to 1
$17,500 + $3,200 + $3,300
2.
Acid-test ratio
$10,000 + $8,400 + $29,200 + $4,500 = 2.2 to 1
$17,500 + $3,200 + $3,300
3.
Days' sales uncollected
$29,200 + $4,500
$448,600
4.
x 365 = 27.4 days
Inventory turnover
$297,250
($48,900 + $32,150)/2
5.
= 7.3 times
Days’ sales in inventory
$32,150 x 365 = 39.5 days
$297,250
6.
Debt-to-equity ratio
($17,500 + $3,200 + $3,300 + $63,400) / ($90,000 + $62,800) = 0.57 to 1
7.
Times interest earned
($151,350 - $98,600) / $4,100 = 12.9 times
8.
Profit margin ratio
$29,052
$448,600
= 6.5%
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Solutions Manual, Chapter 13
745
Problem 13-4A (Concluded)
9.
Total asset turnover
$448,600
= 2.1 times
($240,200 + $189,400)/2
10.
Return on total assets
$29,052
= 13.5%
($240,200 + $189,400)/2
11.
Return on common stockholders' equity
$29,052
= 21.9%
($152,800 + $112,748)/2
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746
Financial & Managerial Accounting, 5th Edition
Problem 13-5A (60 minutes)
Part 1
Barco Company
Kyan Company
a. Current ratio
$155,440*
= 2.5 to 1
$61,340
$238,050**
= 2.6 to 1
$93,300
* $19,500 + $37,400 + $9,100 + $84,440 + $5,000 = $155,440
**$34,000 + $57,400 + $7,200 + $132,500 + $6,950 = $238,050
b. Acid-test ratio
$66,000*
$61,340
= 1.1 to 1
$98,600**
$93,300 = 1.1 to 1
* $19,500 + $37,400 +$9,100 = $66,000
**$34,000 + $57,400 + $ 7,200 = $98,600
c. Accounts receivable turnover
$770,000
($37,400 + $9,100 + $29,800)/2 = 20.2 times
$880,200
($57,400 + $7,200 + $54,200)/2 = 14.8 times
d. Inventory turnover
$585,100
= 8.4 times
($84,440 + $55,600)/2
$632,500
= 5.3 times
($132,500 + $107,400)/2
e. Days’ sales in inventory
$84,440
x 365 = 52.7 days
$585,100
$132,500 x 365 = 76.5 days
$632,500
f. Days' sales uncollected
$37,400 + $9,100
x 365 = 22.0 days
$770,000
$57,400 + $7,200
$880,200
x 365 = 26.8 days
Short-term credit risk analysis: Barco and Kyan have essentially equal
current ratios and equal acid-test ratios. However, Barco both turns its
merchandise and collects its accounts receivable more rapidly than does
Kyan. On this basis, Barco probably is the better short-term credit risk.
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Solutions Manual, Chapter 13
747
Problem 13-5A (Concluded)
Part 2
Barco Company
Kyan Company
a. Profit margin ratio
$162,200
= 21.1%
$770,000
$210,400 = 23.9%
$880,200
b. Total asset turnover
$770,000
= 1.8 times
($445,440 + $398,000)/2
$880,200
= 1.9 times
($542,450 + $382,500)/2
c. Return on total assets
$162,200
= 38.5%
($445,440 + $398,000)/2
$210,400
($542,450 + $382,500)/2
= 45.5%
d. Return on common stockholders' equity
$162,200
= 55.8%
($303,300 + $278,300)/2
$210,400
= 65.0%
($348,150 + $299,600)/2
e. Price-earnings ratio
$75
$4.51
= 16.6
$75
$5.11
= 14.7
$3.80
$75
= 5.1%
f. Dividend yield
$3.80
$75
= 5.1%
Investment analysis: Kyan's profit margin ratio, total asset turnover, return on
total assets, and return on common stockholders' equity are all higher than
Barco’s. Although the companies pay the same dividend, Kyan's priceearnings ratio is lower. All of these factors suggest that Kyan's stock is likely
the better investment.
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any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part.
748
Financial & Managerial Accounting, 5th Edition
Problem 13-6AA (60 minutes)
Part 1
Effect of income taxes (debits or losses in parentheses)
Pretax
30% Tax
Effect After-Tax
i. Loss from operating a discontinued segment ..............(18,250)
(5,475)
(12,775)
j. Gain on insurance recovery of tornado damage...... 29,120
8,736
20,384
m. Correction of overstatement of prior year’s sales ........(16,000)
(4,800)
(11,200)
n. Gain on sale of discontinued segment’s assets ........... 34,000
10,200
23,800
Part 2 Income from continuing operations (and its components)
k.
Net sales ..................................................................
$ 998,500
a.
Interest revenue ......................................................
14,000
g.
Gain from settling lawsuit ......................................
44,000
Total revenues and gains ......................................
1,056,500
q.
Cost of goods sold .................................................$482,500
b.
Depreciation expense—Equipment ......................
34,000
l.
Depreciation expense—Buildings ........................
52,000
e.
Other operating expenses ..................................... 106,400
c.
Loss on sale of equipment ....................................
25,850
o.
Loss from settling lawsuit .....................................
23,750
p.
Total expenses ........................................................
(724,500)
Income from continuing operations before taxes .....
332,000
Income taxes expense (30%) .................................
(99,600)
Income from continuing operations after taxes ........
$ 232,400
©2013 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution in
any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part.
Solutions Manual, Chapter 13
749
Problem 13-6AA (Concluded)
Part 3 Income from discontinued segment
i.
Loss from operating a discontinued
segment (after-tax) ....................................................................................
$ (12,775)
n.
Gain on sale of discontinued segment’s
assets (after-tax) .......................................................................................
23,800
Income from discontinued segment ..........................................................
$ 11,025
Part 4 Income before extraordinary items
Income from continuing oper. after taxes (from Part 2) ................................
$232,400
Income from discontinued segment (from Part 3) .........................................
11,025
Income before extraordinary items ............................................................
$221,375
Part 5 Net income
Income before extraordinary items ............................................................
$221,375
j.
Extraordinary item
Gain on insurance recovery of tornado damage
20,384
(after-tax) ..............................................................................................
Net income ....................................................................................................
$241,759
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any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part.
750
Financial & Managerial Accounting, 5th Edition
PROBLEM SET B
Problem 13-1B (60 minutes)
Part 1
Current ratio:
December 31, 2014: $54,860 / $22,370 = 2.5 to 1
December 31, 2013: $32,660 / $19,180 = 1.7 to 1
December 31, 2012: $36,300 / $16,500 = 2.2 to 1
Part 2
BLUEGRASS CORPORATION
Common-Size Comparative Income Statements
For Years Ended December 31, 2014, 2013, and 2012
2014
Sales............................................................
100.00%
2013
2012
100.00%
100.00%
Cost of goods sold ....................................54.77
51.91
46.04
Gross profit ................................................45.23
48.09
53.96
Selling expenses ........................................11.41
11.92
12.52
Administrative expenses .......................... 8.43
8.80
10.92
Total expenses ...........................................19.84
20.72
23.44
Income before taxes ..................................25.39
27.36
30.53
Income taxes .............................................. 3.04
3.56
3.69
23.80%
26.84%
Net income .................................................22.34%
* Some totals do not reconcile due to rounding.
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any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part.
Solutions Manual, Chapter 13
751
Problem 13-1B (Concluded)
Part 3
BLUEGRASS CORPORATION
Balance Sheet Data in Trend Percents
December 31, 2014, 2013, and 2012
2014
2013
2012
Assets
Current assets ............................................
151.13%
89.97%
100.00%
Long-term investments ............................. 0.00
16.04
100.00
Plant assets ................................................
142.80
143.87
100.00
Total assets ................................................
133.18
117.57
100.00
Liabilities and Equity
Current liabilities........................................
135.58% 116.24%
100.00%
Common stock ...........................................
125.68
125.68
100.00
Other paid in capital ..................................
122.57
122.57
100.00
Retained earnings ......................................
139.03
112.09
100.00
Total liabilities and equity .........................
133.18
117.57
100.00
Part 4
Significant relations revealed
Bluegrass's cost of goods sold took a larger percent of sales each year.
Selling and administrative expenses and income taxes took a somewhat
smaller portion each year, but not enough to offset the effect of cost of
goods sold. As a result, income became a smaller percent of sales each
year.
The large expansion of plant assets in 2013 was financed by a reduction in
current assets, an increase in current liabilities, a large reduction in longterm investments, and apparently by a stock sale. One effect of this plan
was to reduce the current ratio. However, the current ratio recovered in
2014. This apparently resulted from profits, limiting the amount of
dividends paid, and the liquidation of long-term investments.
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any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part.
752
Financial & Managerial Accounting, 5th Edition
Problem 13-2B (120 minutes)
Part 1
TRIPOLY COMPANY
Income Statement Trends
For Years Ended December 31, 2014-2008
2014
2013
2012
2011
2010
2009
2008
Sales ..................................... 65.1% 70.9%
73.3%
79.1%
86.0%
89.5% 100.0%
Cost of goods sold .............. 72.6
76.3
77.4
82.6
89.5
92.1
100.0
Gross profit .......................... 59.2
66.7
70.0
76.3
83.3
87.5
100.0
Operating expenses ............ 56.0
69.3
74.7
84.0
93.3
96.0
100.0
Net income ........................... 60.6
65.5
67.9
72.7
78.8
83.6
100.0
2010
2009
2008
TRIPOLY COMPANY
Balance Sheet Trends
December 31, 2014-2008
2014
Cash ....................................
2013
2012
2011
64.7% 67.6% 76.5% 79.4% 88.2% 91.2% 100.0%
Accounts recble., net .......... 81.3
85.0
87.5
90.0
93.8
96.3
100.0
Merchandise inventory........ 79.8
82.7
85.6
86.5
89.4
91.3
100.0
Other current assets............ 85.0
85.0
90.0
95.0
95.0
100.0
100.0
Long-term investments ....... 32.7
27.3
23.6
100.0
100.0
100.0
100.0
Plant assets, net ..................112.3
113.2
114.5
90.7
92.5
94.3
100.0
Total assets .......................... 88.5
89.6
91.5
90.2
92.7
94.6
100.0
Current liabilities ................. 52.9
55.7
66.4
67.9
75.0
92.9
100.0
Long-term liabilities............. 35.4
46.2
54.6
56.9
74.6
82.3
100.0
Common stock .....................100.0
100.0
100.0
100.0
100.0
100.0
100.0
Other paid-in capital ............100.0
100.0
100.0
100.0
100.0
100.0
100.0
Retained earnings................166.7
157.8
145.9
137.0
122.2
103.7
100.0
Total liabilities & equity....... 88.5
89.6
91.5
90.2
92.7
94.6
100.0
©2013 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution in
any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part.
Solutions Manual, Chapter 13
753
Problem 13-2B (Concluded)
Part 2
Analysis and Interpretation
 The statements and the trend percent data show that sales declined
every year. However, cost of goods sold did not fall as rapidly as sales.
As a result, gross profit fell more rapidly than sales.
 Operating expenses fell less rapidly than gross profit, so the final result
was that net income fell to 60.6% of the base year.
 Management was not able to reduce costs and expenses fast enough to
keep up with the sales decline.
 Although the profits decreased during these years, the company did
continue to earn a net income.
 It appears that the cash generated from operations was used primarily
to reduce both current and long-term liabilities.
 The company made a large expansion of its plant assets during 2012,
financing this expansion primarily through the liquidation of long-term
investments.
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any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part.
754
Financial & Managerial Accounting, 5th Edition
Problem 13-3B (60 minutes)
Transaction
Current
Assets
Quick
Assets
Current
Liabilities
Beginning*
$300,000
$168,000
$120,000
2.50
1.40
$180,000
June 1
+120,000
+120,000
- 75,000
_______
________
____
____
_______
345,000
288,000
120,000
2.88
2.40
225,000
+ 88,000
+ 88,000
- 88,000
- 88,000
________
____
____
_______
345,000
288,000
120,000
2.88
2.40
225,000
+150,000 ________
+150,000
____
____
_______
Bal.
June 3
Bal.
June 5
Bal.
June 7
Bal.
June 10
Bal.
June 12
Bal.
June 15
Bal.
Current Acid-Test
Ratio
Ratio
Working
Capital
495,000
288,000
270,000
1.83
1.07
225,000
+100,000
+100,000
+100,000
____
____
_______
595,000
388,000
370,000
1.61
1.05
225,000
+120,000
+120,000
_______
____
____
_______
715,000
508,000
370,000
1.93
1.37
345,000
- 275,000
- 275,000
________
____
____
_______
440,000
233,000
370,000
1.19
0.63
70,000
________ ________
+ 80,000
____
____
_______
440,000
233,000
450,000
0.98
0.52
(10,000)
+0
+0
________
____
____
_______
440,000
233,000
450,000
0.98
0.52
(10,000)
- 12,000
- 12,000
- 12,000
____
____
_______
428,000
221,000
438,000
0.98
0.50
(10,000)
June 30
- 80,000
- 80,000
- 80,000
____
____
_______
Bal.
$348,000
$141,000
$358,000
0.97
0.39
(10,000)
June 19
Bal.
June 22
Bal.
*Beginning balances
Current assets (given) ............................................
$300,000
Current liabilities ($300,000 / 2.50).........................
120,000
Quick assets ($120,000 x 1.40) ...............................
168,000
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Solutions Manual, Chapter 13
755
Problem 13-4B (50 minutes)
1.
Current ratio
$6,100 + $6,900 + $12,100 + $3,000 + $13,500 + $2,000 = 2.5 to 1
$11,500 + $3,300 + $2,600
2.
Acid-test ratio
$6,100 + $6,900 + $12,100 + $3,000
$11,500 + $3,300 + $2,600
3.
= 1.6 to 1
Days' sales uncollected
$12,100 + $3,000 x 365 = 17.5 days
$315,500
4.
Inventory turnover
$236,100
= 15.3 times
($13,500 + $17,400)/2
5.
Days’ sales in inventory
$13,500 x 365 = 20.9 days
$236,100
6.
Debt-to-equity ratio
($11,500 + $3,300 + $2,600 + $30,000) / ($35,000 + $35,100) = 0.68 to 1
7.
Times interest earned
$30,200 / $2,200 = 13.73 times
8.
Profit margin ratio
$23,800 = 7.5%
$315,500
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756
Financial & Managerial Accounting, 5th Edition
Problem 13-4B (Concluded)
9.
Total asset turnover
$315,500
= 3.0 times
($117,500 + $94,900)/2
10.
Return on total assets
$23,800
= 22.4%
($117,500 + $94,900)/2
11.
Return on common stockholders' equity
$23,800
($70,100 + $54,300)/2
= 38.3%
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Solutions Manual, Chapter 13
757
Problem 13-5B (60 minutes)
Part 1
Fargo Company
Ball Company
a. Current ratio
$205,200
= 2.3 to 1
$90,500
$208,100
= 2.1 to 1
$97,000
$108,700
= 1.2 to 1
$90,500
$116,000
= 1.2 to 1
$97,000
b. Acid-test ratio
c. Accounts (and notes) receivable turnover
$393,600
= 4.9 times
($77,100 + $11,600 + $72,200)/2
$667,500
= 8.7 times
($70,500 + $9,000 + $73,300)/2
d. Inventory turnover
$290,600
= 3.0 times
($86,800 + $105,100)/2
$480,000
($82,000 + $80,500)/2
= 5.9 times
e. Days’ sales in inventory
$86,800
x 365 = 109.0 days
$290,600
$82,000
$480,000
x 365 = 62.4 days
f. Days' sales uncollected
$77,100 + $11,600
x 365 = 82.3 days
$393,600
$70,500 + $9,000
x 365 = 43.5 days
$667,500
Short-term credit risk analysis: Fargo and Ball have nearly equal current
ratios and equal acid-test ratios. However, Ball both turns its merchandise
and collects its accounts receivable much more rapidly than Fargo. On this
basis, Ball probably is the better short-term credit risk.
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758
Financial & Managerial Accounting, 5th Edition
Problem 13-5B (Concluded)
Part 2
Fargo Company
Ball Company
a. Profit margin ratio
$33,850
= 8.6%
$393,600
$61,700
$667,500
= 9.2%
b. Total asset turnover
$393,600
($382,100 + $383,400)/2
= 1.03 times
$667,500
= 1.48 times
($460,400 + $443,000)/2
c. Return on total assets
$33,850
($382,100 + $383,400)/2
= 8.8%
$61,700
= 13.7%
($460,400 + $443,000)/2
d. Return on common stockholders' equity
$33,850
($198,600 + $182,100)/2
= 17.8%
$61,700
($270,100 + $250,700)/2
= 23.7%
e. Price-earnings ratio
$25
= 19.7
$1.27
$25
= 11.4
$2.19
f. Dividend yield
$1.50
= 6.0%
$25
$1.50
= 6.0%
$25
Investment analysis: Ball’s profit margin, total asset turnover, return on total
assets, and return on common stockholders' equity are all higher than
Fargo's. Also, Ball has a lower price-earnings ratio, while paying the same
dividend. These factors indicate that Ball stock is likely the better investment.
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Solutions Manual, Chapter 13
759
Problem 13-6BA (60 minutes)
Part 1
Effect of income taxes (debits or losses in parentheses)
Pretax
25% Tax
Effect After-Tax
e. Loss on hurricane damage......................................................
(64,000) (16,000)
(48,000)
l. Loss from operating a discontinued segment.........................
(120,000) (30,000)
(90,000)
n. Correction of overstatement of prior year’s expense.............
48,000
12,000
36,000
p. Loss on sale of discontinued segment’s assets .....................
(180,000) (45,000) (135,000)
Part 2
Income from continuing operations (and its components)
c.
Net sales .........................................................................
$2,640,000
b.
Interest revenue .............................................................
20,000
j.
Gain from settling lawsuit .............................................
68,000
Total revenues and gains .............................................
2,728,000
o.
Cost of goods sold ........................................................
$1,040,000
h.
Depreciation expense—Equipment .............................
100,000
m.
Depreciation expense—Buildings ...............................
156,000
g.
Other operating expenses ............................................
328,000
k.
Loss on sale of equipment ...........................................
24,000
i.
Loss from settling lawsuit ............................................
36,000
d.
Total expenses and losses ...........................................
1,684,000
Income from continuing operations before taxes ............
1,044,000
Income taxes expense (25%) ........................................
Income from continuing operations after taxes ...............
(261,000)
$ 783,000
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760
Financial & Managerial Accounting, 5th Edition
Problem 13-6BA (Concluded)
Part 3
Income from discontinued segment
l.
Loss from operating a discontinued segment (after-tax)..................$ (90,000)
p.
Loss on sale of discontinued segment’s assets (after-tax) .............. (135,000)
Loss from discontinued segment ................................................$(225,000)
Part 4
Income before extraordinary items
Income from cont. operations after taxes (from Part 2) .................
$ 783,000
Loss from discontinued segment (from Part 3) ..............................(225,000)
Income before extraordinary items .............................................
$ 558,000
Part 5 Net income
Income before extraordinary items .............................................
$ 558,000
Extraordinary item:
e.
Loss on hurricane damage (after-tax) ......................................... (48,000)
Net income .....................................................................................
$ 510,000
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Solutions Manual, Chapter 13
761
SERIAL PROBLEM — SP 13
Serial Problem — SP 13, Success Systems (45 minutes)
1. Gross margin with services revenue
Gross margin
= Total revenue – Cost of goods sold
= $43,853 - $14,052
Gross margin ratio = $29,801 / $43,853
= $29,801
= 68.0%
Gross margin without services revenue
Gross margin
= Net (goods) sales – Cost of goods sold
= $18,693 - $14,052
= $4,641
Gross margin ratio = $4,641 / $18,693
= 24.8%
Profit margin ratio
= $18,686 / $43,853
= 42.6%
= $105,209 / $875
= 120.2
= $100,205 / $875
= 114.5
= $875 / $129,909
= 0.7%
= $129,034/$129,909
= 99.3%
2. Current ratio
Acid-test ratio
3. Debt ratio
Equity ratio
4. Current assets are 81.0% of total assets ($105,209/$129,909)
Long-term assets are 19.0% of total assets ($24,700/$129,909)
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762
Financial & Managerial Accounting, 5th Edition
Reporting in Action
— BTN 13-1
1. Trend percents for selected income statement accounts
($ in thousands)
2011
2010
2009
Revenues .............................................................. 169.7%
127.2%
100.0%
$2,656,949
$1,991,139
$1,565,887
Cost of goods sold .............................................. 163.4%
124.6%
100.0%
$1,916,366
$1,460,926
$1,172,668
Operating income ................................................ 212.1%
133.8%
100.0%
$349,924
$220,721
$164,970
Non-operating expense (income) ....................... 23.9%
15.8%
100.0%
$3,298
$2,180
$13,796
Income taxes (provision for income taxes) ....... 237.4%
142.4%
100.0%
$119,051
$71,403
$50,157
Net income............................................................ 225.3%
145.7%
100.0%
$227,575
$147,138
$101,017
2. Common-size percents for asset categories and accounts
($ in thousands)
2011
2010
Total current assets ............................................. 71.6%
76.1%
$878,676
$808,145
Property and equipment, net .............................. 17.4%
17.3%
$213,778
$184,011
Goodwill and other intangible assets ................
6.3%
2.9%
$77,718
$31,313
Total assets for 2011 and 2010 are $1,228,024 and $1,061,647, respectively.
3. For 2011 and 2010, revenues grew at a higher rate than cost of goods
sold. Operating income grew at a higher rate than revenues for 2011 and
2010. Non-operating expenses declined substantially in 2011 and 2010.
Consequently, income increased for 2011 and 2010, at a higher rate than
revenue growth.
The common-size percent figures in part 2 show a shift away from
current assets (71.6% in 2011 vs. 76.1% in 2010) and greater investment
in goodwill and other intangible assets (6.3% in 2011 vs. 2.9% in 2010).
Intangible assets show flat to slightly increased investment (17.4% in
2011 vs. 17.3% in 2010).
4. Answers depend on the financial statement information obtained.
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Solutions Manual, Chapter 13
763
Comparative Analysis
— BTN 13-2
1.
Key figures ($ thousands)
Polaris
Arctic Cat
Cash and equivalents.............
26.5%
$325,336
5.4%
$14,700
Accounts receivable, net .......
9.4%
115,302
8.7%
23,732
Inventories ..............................
24.3%
298,042
22.5%
61,478
Retained earnings ..................
26.2%
321,831
65.0%
177,493
Cost of sales ...........................
72.1% 1,916,366
78.2%
363,142
Revenues ................................. 100.0% 2,656,949
100.0%
464,651
Total assets ............................. 100.0% 1,228,024
100.0%
272,906
2. Arctic Cat’s retained earnings make up a much greater percentage of
its total liabilities and equity (65.0%) vis-à-vis Polaris (26.2%).
3. Arctic Cat’s cost of sales percent is slightly higher at 78.2% compared
to Polaris’s at 72.1%.
This implies that Arctic Cat has the lower gross margin ratio on sales of
21.8%), while Polaris has the higher gross margin ratio at 27.9%.
4. Polaris has the higher percent of total assets in the form of inventory at
24.3%, compared to Arctic Cat’s 22.5%.
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764
Financial & Managerial Accounting, 5th Edition
Ethics Challenge
— BTN 13-3
1. The CEO appears to have selectively chosen from the 11 available
ratios to present only the ones that show trends that are favorable to
the company. (However, some analysts may not interpret a decline in
selling expenses as a percent of revenue as positive since it might
imply a scaling back on advertising or promotion campaigns.) The
CEO’s motivation might be to make her performance, or the company’s,
or both, appear better than it is in the eyes of the analysts.
2. The consequences of this action by the CEO might be mixed. It is likely
that the analysts will ask other questions that may reveal some
negative trends such as the trends in return and profit margins. The
CEO’s actions may become transparent to the analysts as they
discover the presence of less favorable trends through their questions.
If discovered, such a disclosure ploy by the CEO will not reflect
favorably on the company. Both the CEO and the company are likely to
suffer losses in reputation and credibility.
Even if the CEO is able to succeed with this strategy in the short term,
once the financial statements are issued all users can compile
additional ratio information and see that some of the trends are
unfavorable to the company. This is likely to damage the credibility of
the CEO.
Communicating in Practice
— BTN 13-4
There is no set solution to this activity. Each team’s memorandum will
vary based on the industry and companies chosen for analysis.
(Instructor: Consider having each team do a brief presentation discussing
the findings in their memorandum to engage in a classroom discussion of
the findings.)
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Solutions Manual, Chapter 13
765
Taking It to the Net
($ thousands)
— BTN 13-5
As of 12/31/2010
As of 12/31/2011
$509,799/$5,671,009 = 9.0%
1. Profit margin ratio .................
$628,962/$6,080,788 = 10.3%
$2,415,208/ $5,671,009 = 42.6% $2,531,892/$6,080,788 = 41.6%
2. Gross profit ratio ..................
$509,799 / ([$4,272,732 +
$628,962/ ([$4,412,199 +
3. Return on total
$3,675,031]/2)
=
12.8%
$4,272,732]/2) = 14.5%
assets ...................................
$509,799 / ([$937,601 +
$628,962/ ([$872,648 +
4. Return on common
$760,339]/2)
=
60.0%
$937,601]/2) = 69.5%
stockholders’ equity* ............
5. Basic net income per
common share** ...................
$ 2.29
$ 2.85
*An acceptable alternative solution would be to include minority interest in equity.
**Taken from consolidated statement of income.
Analysis and Interpretation: Hershey’s performance generally improved in
all areas evaluated for the profitability metrics reported in the table above.
Teamwork in Action
— BTN 13-6
Part 1
Team reports should look something like the following:
Horizontal Analysis
Horizontal analysis is comparing a company’s financial statement amounts
across time. We compare data from comparative statements that are
horizontally aligned; that is, we compare the same items from one period to
another period. The change disclosed by the comparison is generally
expressed as a dollar amount and/or as a percent. For instance, we
compare sales of one period to sales of another and determine the dollar
amount of the increase or decrease.
We also determine the percent of increase or decrease in sales that this
change represents. This type of comparison is generally completed on a
line-by-line basis for both income statement and balance sheet items (and
sometimes for other financial statements).
Example: Assume that prior year sales equal $240,000, and current year
sales equal $300,000. Horizontal analysis of sales yields a $60,000 increase
or a 25% increase in sales. (Computation is defined as:
Amount of change / Base year [or $60,000/$240,000].)
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766
Financial & Managerial Accounting, 5th Edition
Teamwork in Action (Concluded)
If a horizontal comparison is made over a number of periods, the
comparisons are made to corresponding amounts in a selected period
called the base period. Each subsequent period’s amount is compared to
the base period. The change is expressed as a percent of the base period.
This is commonly referred to as trend analysis.
Vertical Analysis
Vertical analysis is comparing a company's financial statement amounts to
a base amount. Usually this base amount is a total or aggregate amount.
An income statement's base is usually total revenue and a balance sheet's
base is usually total assets. We analyze what percent of the total (or base)
the individual statement items represent.
Example: Total assets for the period being analyzed = $500,000 (base
number). Cash balance is $100,000. Cash is computed to be 20% of total
assets. (Computation is defined as: Individual amount / Aggregate amount
[or $100,000/$500,000].)
Part 2
Explanations of the four categories or areas of ratio analysis follow:
a. Liquidity analysis measures the availability of resources to meet shortterm cash requirements. Efficiency analysis measures how productive a
company is in using its assets.
b. Solvency analysis measures a company's long-run financial viability and
its ability to cover long-term obligations.
c. Profitability analysis measures a company's ability to generate an
adequate return on invested capital.
d. Market analysis measures the company’s returns (for example, EPS and
dividend) relative to its market price.
Note: Students will select various ratios to illustrate these categories. Use
Exhibit 13.16 to verify the category, measurement, and use of each ratio.
Part 3
Each team member presents results to the entire team.
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Solutions Manual, Chapter 13
767
Entrepreneurial Decision
— BTN 13-7
1. No. Although the current ratio improved over the three-year period, the
acid-test ratio declined and accounts receivable and merchandise
inventory turned more slowly. These conditions indicate that an
increasing portion of the current assets consisted of accounts
receivable and inventories from which current liabilities could not be
paid.
2. No. The decreasing turnover of accounts receivable indicates the
company is collecting its receivables more slowly.
3. No. Sales are increasing and accounts receivable are turning more
slowly. Either or both of these trends would produce an increase in
accounts receivable, even if the other remained unchanged.
4. Yes. To illustrate, if sales are assumed to equal $100 in 2010, the sales
trend shows that they would equal $125 in 2011 and $137 in 2012. Then,
dividing each sales figure by its ratio of sales to plant assets would give
$33.33 for plant assets in 2010 ($100/ 3.0), $37.88 in 2011 ($125/ 3.3) and
$39.14 in 2012 ($137/ 3.5).
5. No. The percent of return on equity declines from 12.25% in 2010 to
9.75% in 2012.
6. The dollar amount of selling expenses increased in 2011 and decreased
sharply in 2012. Again assuming sales figures of $100 in 2010, $125 in
2011, and $137 in 2012, and multiplying each by its selling expense to
net sales ratio gives $15.30 of selling expenses in 2010, $17.13 in 2011,
and $13.43 in 2012.
Hitting the Road
— BTN 13-8
One possible strategy to fulfill the requirements of this assignment is:
Assume that a $37,500 salary will be earned upon graduation at age 25.
Also, assume that the level of investment will be at 8% of your salary (or
$3,000 annually) starting at age 25. By starting at age 25 there will be 40
annual compounding periods until age 65.
If the annual amount invested does not change and you earn 10% for 40
years, then the investment will grow to $1,327,779 ($3,000 x 442.593 from
Table B.4) at age 65. The $1,000,000 goal can also be reached at age 65 if
the investment earns 9% ($3,000 x 337.882 = $1,013,646).
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768
Financial & Managerial Accounting, 5th Edition
Global Decision
— BTN 13-9
Key figures (Euro in thousands)
KTM
Cash and equivalents ........................................
3.1%
$ 14,962
Accounts receivable, net ...................................
11.0%
53,594
Inventories ..........................................................
23.5%
113,979
Retained earnings ..............................................
43.0%
208,987
Cost of sales .......................................................
70.6%
371,752
Revenues ............................................................
100.0%
526,801
Total assets ........................................................
100.0%
485,775
Comparisons and comments:
 KTM’s cash and equivalents is less than that of Polaris and Arctic Cat as
a percent of assets.
 KTM has the highest percentage of accounts receivable as a percentage
of total assets as compared to both Polaris and Arctic Cat.
 KTM’s retained earnings make up a smaller percentage of its total
financing (liabilities and equity) compared to that of Arctic Cat.
Conversely, KTM’s retained earnings make up a larger percentage of its
total financing (liabilities and equity) compared to Polaris.
 KTM’s cost of sales is lower than either of the other two companies.
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Solutions Manual, Chapter 13
769