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Chapter Two

Financial Statement And Analysis


I have drawn liberally on chapter Two of Lawrence Gitman Principles of Managerial Finance Twelfth Edition, Harper Collins Publishers, 2009 Professor: Medhat Hassanein

(Part One)

Introduction to Chapter Two

1.Financial Statements Account Identification

2.Balance Sheet Preparation

3. Template Income Statement

4.Statement of Retained Earnings

1.Financial Statements Account Identification


Financial Statements account identification. Mark each of the accounts listed in the following table as follows: a) In Column (1), indicate in which statement income statement
(IS) or balance sheet (BS) the account belongs. b) In column (2), indicate whether the account is a current asset (CA), current liability (CL), expense (E), fixed asset (FA), longterm debt (LTD), revenue (R), or stockholders equity (SE).

Account name
Accounts payable Accounts receivable Accruals Accumulated depreciation Administrative expense Buildings Cash Common stock (at par) Cost of goods sold Depreciation Equipment General expense Interest expense Inventories Land Long-term debts Machinery Marketable securities

(1) Statement

(2) Type of account

Account name
Notes payable Operating expense Paid-in capital in excess of par Preferred stock Preferred stock dividends Retained earnings Sales revenue Selling expense Taxes Vehicles

(1) Statement

(2) Type of account

1.Financial Statements Account Identification


(Solution)
Financial Statements account identification. Mark each of the accounts listed in the following table as follows: c) In Column (1), indicate in which statement income statement
(IS) or balance sheet (BS) the account belongs. d) In column (2), indicate whether the account is a current asset (CA), current liability (CL), expense (E), fixed asset (FA), longterm debt (LTD), revenue (R), or stockholders equity (SE).

Account name
Accounts payable Accounts receivable Accruals Accumulated depreciation Administrative expense Buildings Cash Common stock (at par) Cost of goods sold Depreciation Equipment General expense Interest expense Inventories Land Long-term debts Machinery Marketable securities

(1) Statement
BS BS BS BS IS BS BS BS IS IS BS IS IS BS BS BS BS BS
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(2) Type of account


CL CA CL EA E FA CA SE E E FA E E CA FA LTD FA CA

Account name
Notes payable Operating expense Paid-in capital in excess of par Preferred stock Preferred stock dividends Retained earnings Sales revenue Selling expense Taxes Vehicles

(1) Statement
BS IS BS BS I/S BS IS IS IS BS

(2) Type of account


CL E SE SE E SE R E E FA

2. Balance Sheet Preparation


Balance Sheet Preparation Use the appropriate items from the
following list to prepare in good form Owen Davis Companys balance sheet at December 31, 2011.

Item
Account payable Account receivable Accruals Accumulated depreciation Buildings Cash Common stock (at par) Cost of goods sold Depreciation expense Equipment Furniture and fixure General expense Inventories Land Long-term debts Machinery Marketable securities Notes payable

Value ($000) at December 31, 2011 $ 220


450 55 265 225 215 90 2,500 45 140 170 320 375 100 420 420 75 475

Item
Paid-in capital in excess of par Preferred stock Retained earnings Sales revenue Vehicles

Value ($000) at December 31, 2011


360 100 210 3,600 25

2. Balance Sheet Preparation


(Solution)
Owen Davis Company Balance Sheet December 31, 2011 Assets
Current assets: Cash Marketable securities Accounts receivable Inventories Total current assets Gross fixed assets Land and buildings Machinery and equipment Furniture and fixtures Vehicles Total gross fixed assets Less: accumulated depreciation Net fixed assets Total assets $ 215,000 75,000 450,000 375,000 $ 1,115,000

325,000 560,000 170,000 25,000 $ 1,080,000 265,000 $ 815,000 $ 1,930,000

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Liabilities and stockholders equity


Current liabilities: Accounts payable Notes payable Accruals Total Current liabilities Long-term debt Total liabilities Stockholders equity Preferred stock Common stock (at par) Paid-in capital in excess of par Retained earnings Total stockholders equity Total liabilities and stockholders equity 220,000 475,000 55,000 $ 750,000 420,000 $ 1,170,000 $ 100,000 90,000 360,000 210,000 $ 760,000 $ 1,930,000 $

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3. Template Income Statement


Technica, Inc Income statement For the Year Ended December 31, 2011
Sales revenue Less: Cost of goods sold Gross profits Less: Operating expenses General and administrative Selling expenses Lease (rent) expense Total operating expenses $ 600000 460000 140000 30000 0 0 30000

Earnings before interest, taxes, depreciation and amortization (EBITDA) Less: Depreciation allowance Earnings before interest and taxes = EBIT = operating profits Less: Interest Earnings before tax = EBT = Profits before taxes Less: Taxes Earnings after tax = EAT = NI Less: Preferred stock dividends Earnings available to shareholders

110000 30000

80000 10000

70000 27100 42900 0 42900

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4. Statement of Retained Earnings


Bartlett Company Statement of Retained Earnings ($000) for the Year Ended December 31, 2011 Retained earnings balance (January 1, 2011) $ 1,012 Plus: Net profits after taxes (for 2011) 231 Less: Cash dividends (paid during 2011) Preferred stock ($10) Common stock ( 98) Total dividends paid ( 108) Retained earnings balance (December 31, 2011) $ 1,135

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Chapter Two (Part Two)

Financial Ratio Analysis

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Fox Manufacturing Financial Ratio Analysis (Case Study)


Revisited by Professor: Medhat Hassanein

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Cross-sectional ratio analysis Use the following financial statements for Fox Manufacturing Company for the year ended December 31, 2011, along with the industry average ratios also given in what follows, to: a- Prepare and interpret a complete ratio analysis of the firms 2011 operations. b- Summarize your findings and make recommendations. Fox Manufacturing Company Income Statement for the year Ended December 31, 2011

Sales revenue $600,000 Less: Cost of goods sold 460,000 Gross profits $140,000 Less: Operating expenses General and administrative expense $30,000 Depreciation expenses $30,000 Total operating expense 60,000 Operating Profits $ 80,000 Less: Interest expense 10,000 Net profits before taxes $ 70,000 Less: Taxes 27,100 Net profits after taxes (earnings available for common stockholders) $ 42,900 Earnings per share (EPS) $2.15

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Fox Manufacturing Company Balance Sheet December 31, 2011 Assets Cash Marketable Securities Accounts receivable Inventories Total current assets Net fixed assets Total assets $ 15,000 7,200 34,100 82,000 $138,300 $270,000 $408,300

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Liabilities and stockholders Equity:

Accounts payable Notes payable Accruals Total current liabilities Long term debt Stockholders equity Common stock equity (20,000 shares outstanding) Retained earnings Total stockholders equity Total liabilities and stockholdersequity

$ 57,000 13,000 5,000 $ 75,000 $150,000

$110,200 73,100 $183,300 $408,300

* Note: Industry averages appear at the top of the following page.

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Ratio Current ratio Quick ratio Inventory turnover Average collection Period Total asset turnover Debt ratio Times interest earned ratio Gross profit margin Operating profit margin Net profit margin Return on total assets (ROA) Return on common equity (ROE) Earnings per share (EPS)

Industry average, 2011 2.35 0.87 4.55 35.3days 1.09 0.300 12.3 0.202 0.135 0.091 0.099 0.167 $ 3.10

Based on a 360-day year and on end-of-year figures.

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Ratio Analysis (Solution)


Fox Manufacturing Company Year Ended December 31, 2011
I. Liquidity Ratios: F. Co. Industry 1.84 2.35

1. Current Ratio = Current Assets = 138,300 Current Liabilities 75,000 2. Quick Ratio = Current Assets Inventory Current Liabilities II. Activity Ratios: 3. Inventory Turnover

= 138,300 82,000= 75,000

.75

.87

= Cost of Goods Sold = 460,000 = Inventory 82,000 = 34,100 = 600,000/360

5.61

4.55

4. Average Collection Period = A/R Sales per Day 5. Fixed Assets Turnover =

20.46

35.3

= 600,000 = Sales N. Fixed Assets 270,000 = 600,000 = 408,300

2.2

6. Total Assets Turnover

= Sales Total Assets

1.47

1.09

III.

Debt Ratios / Coverage Ratios: 7. Debt Ratio = Total Liabilities Total Assets = Total Debt = 225,000 = Total Assets 408,300 = Total Debt = 225,000 = Stockholders Equity 183,300

.55

.30

8. Debt / Equity

1.23

= T. Debt /T. Assets = .55 1- T. Debt/T. Assets 1 - .55 = .55 = 1.22 .45 9. Times Interest Earned = EBIT Interest = 80,000 10,000 = 8.00 12.3

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F.Co 10. Fixed Payment Coverage = EBIT + Lease Payment Interest + Lease Payment = 80,000 + 0 = 10,000 + 0

Industry

8.00

IV.

Profitability Ratios:
= Gross Profit = 140,000 = Sales 600,000 .233 .202

11. Gross Profit Margin

12. Operating Profit Margin = Operating Profit = EBIT Sales Sales = 80,000 = .133 600,000 13. Net Profit Margin = Net Profit Available to Shareholders Sales = 42,900 = .072 600,000 14. Return on Total Assets = Net Profit Total Assets 15. Return on Equity = = 42,900 = 408,300 .105

.135

.091

.099

= 42,900 = .234 Net Profit Shareholders Equity 183,300

.167

16. Earnings per Share = Net Income =42,900 = $ 2.145 No. of Common Shares 20,000 17. Market B.V = PxS BV = $ 15x 20,000 183,300 = 1.64 times

$3.10

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Du Pont Equation
ROE = = = ROA * EM NPM * ATO * EM NPM * ATO * 1 1 Leverage

ROE (FOX Manufacturing) = .105 * 408,300 183,300 = .105 * 2.23 = .234 ROE Industry = .099 * 1.69 = .167

ROEFox = .072*1.47*2.23
= .236 ROE Industry = .091*1.09 *1.69 = .168

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Footnote: Current Ratio And Quick Ratio


Fox Manufacturing Company
Current Assets Current Liabilities

Cash M/S A/R Inventories


Total Current Assets

$15,000 7,200 34,100

A/P N/P Accruals


Total C/L

82,000
$138,300

$57,000 13,000 5,000 $75,000

Current Ratio = 138,300 = 1.84 75,000 Quick Ratio = 138,300 82,000 = 56,300 = .75 75,000 75,000

Assume a different C/A Structure


Current Assets Current Liabilities

Cash M/S A/R Inventories

$20,000 11,150 34,100

73,050
$138,300

Total C/L

$75,000

Current Ratio = 138,300 = 1.84 75,000 Quick Ratio = 138,300 73,050 = 65,250 = .87 75,000 75,000

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Average Age of Inventories for Fox Manufacturing Company


= 360 Inventory Turnover

= 360 5.61 = 64.17 days

Average Age of Inventories for the Industry


= 360 Inventory Turnover

= 360 4.55 = 79.12 days

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Debt Ratio:
= Total Debt Total Assets = Total Liabilities Total Assets = 225,000 = .55 408,300

Find the Debt / Equity Ratio:


Debt = 225,000 Equity 183,300 = 1.23

Or
Debt / Equity = Debt / Total Assets Debt = Debt / Total Assets 1 - Debt / Total Assets

= Debt Ratio 1- Debt Ratio = .55 1 - .55 = .55 = 1.22 .45

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Equity Multiplier:
EM = TA Equity TA TA debt 1 1 - Debt TA 1 1 - Leverage

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