Accounting and Financial Management

Tutorial 5 Financial Statement Analysis

1.

(a) 2018 2017 2016 2015

Revenues $9,910 $9,700 $9,210 $9,110
Trend percentage 109% 106% 101% 100%
Net income $7,475 $7,400 $5,495 $4,690
Trend percentage 159% 158% 117% 100%

(b) Net income increased faster than revenues.

2.
(a)
Aruzhan Designs Co.
Comparative Income Statements
Years Ended 31 December 2016 and 2015
Increase (Decrease)
2019 2018 Amount Percentage
Net sales revenue $431,000 $372,350 $58,650 15.8%
Expenses:
Cost of goods sold $200,000 $187,550 $12,450 6.6%
Selling and general
expenses 99,000 91,050 7,950 8.7%
Other expense 8,350 6,850 1,500 21.9%
Total expenses $307,350 $285,450 $21,900 7.7%
Net income $123,650 $ 86,900 $36,750 42.3%

(b) Net income increased by a higher percentage than total revenues during 2019 because
revenues increased at a higher rate than total expenses.

(c)
Aruzhan Designs Co.
Comparative Common-Size Income Statements
Years Ended 31 December 2016 and 2015
2019 2018
Net sales revenue 100.0% 100.0%
Expenses:
Cost of goods sold 46.4 50.4
Selling and general expenses 23.0 24.5
Other expense 1.9 1.8
Total expenses 71.3% 76.7%
Net income 28.7% 23.3%

(d) An investor would be pleased with 2019 compared with 2018. Cost of goods sold and selling
and general expenses — the two largest expenses — consumed smaller percentages of net
sales revenue in 2019, and net income represents a higher percentage of net sales revenue.
Overall, sales and profits are rising.

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3.
(a)
Tepat Department Stores Bhd
Income Statement
Year Ended 31 December 2018
Percent of
Amount Total
Net sales RM778,000 100.0%
Cost of goods sold 522,816 67.2
Gross profit RM255,184 32.8
Operating expenses 161,046 20.7
Operating profit RM94,138 12.1
Other expenses 4,668 0.6
Net profit RM89,470 11.5%

Tepat Department Stores Bhd

Balance Sheet
As at 31 December 2018
Percent of
Amount Total
Current assets RM325,440 67.8%
Fixed assets, net 120,960 25.2
Intangible assets, net 8,640 1.8
Other assets 24,960 5.2
Total assets RM480,000 100.0%
Current liabilities RM222,720 46.4%
Long-term liabilities 107,520 22.4
Owners’ equity 149,760 31.2
Total Liabilities and Owners’ equity RM480,000 100.0%

(b)
Tepat Department Stores Bhd
Common-Size Income Statement Compared to Industry Average
Year Ended 31 December 2018
Industry
Tepat Average
Net sales 100.0% 100.0%
Cost of goods sold 67.2 65.8
Gross profit 32.8 34.2
Operating expenses 20.7 19.7
Operating profit 12.1 14.5
Other expenses 0.6 0.4
Net profit 11.5% 14.1%

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Tepat Department Stores Bhd

Common-Size Balance Sheet Compared to Industry Average
As at 31 December 2018
Industry
Tepat Average
Current assets 67.8% 70.9%
Fixed assets, net 25.2 23.6
Intangible assets, net 1.8 0.8
Other assets 5.2 4.7
Total assets 100.0% 100.0%

Current liabilities 46.4% 48.1%

Long-term liabilities 22.4 16.6
Owners’ equity 31.2 35.3
Total Liabilities and Owners’ equity 100.0% 100.0 %

(c) Tepat’s gross profit margin of 32.8% is worse than the industry average of 34.2% and net
profit margin of 11.5% is worse than the industry average of 14.1%.

Operating profit
(d) ROCE = × 100%
Owners' equity + Non-current liabilities

RM94,138
= × 100% = 36.6%
149,760 + 107,520

4. (a)
2015 2016 2017 2018
Current ratio 1.88 1.74 1.79 1.55
Quick ratio 1.22 1.19 1.24 1.14
Net working capital RM7,950 RM9,300 RM9,900 RM9,600

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(b) Both the current ratio and the quick ratio show declining trends. The pattern indicates a
deteriorating liquidity position. The decline is most pronounced for the current ratio which
includes inventory.
(c) NJT Company has low inventory turnover compared to industry average. It suggests that
liquidity is even worse than the declining liquidity measures indicate. Slow inventory
turnover may indicate obsolete inventory, poor pricing or the company overstocked due to
overestimating their sales.

5.
Average accounts receivable
(a) (i) Days’ sales in receivables (average collection period) =
Daily credit sales

2019 2018
RM550,000 + RM520,000 RM520,000 + RM530,000
( ) ( )
2 = 49.3 days 2 = 61.8 days
RM3,960,000 RM3,100,000
( 365 ) ( 365 )

Net credit sales

(ii) Receivables turnover =
Average accounts receivable

2019 2018
RM3,960,000 RM3,100,000
= 7.4 times = 5.9 times
RM550,000 + RM520,000 RM520,000 + RM530,000
( ) ( )
2 2

(b) Renu Company should be pleased with the effectiveness of its credit and collection policies.
The company has decreased its average collection period (days’ sales in receivables) by 12.5
days and the collection period of approximately 49 days is well within the 60 days allowed in
the credit terms. This contrast favourably with the poor average collection period in 2018,
which was longer than the 60-day credit period. This may indicate that many customers were
late in payment.

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6.
Average inventory
(a) (i) Days in inventory =
Daily cost of goods sold

2019 2018
1,020,000 + 980,000 980,000 + 860,000
( 2 ) ( 2 )
= 84.9 days = 73.9 days
RM4,300,000 RM4,541,000
( 365 ) ( 365 )

Cost of goods sold

(ii) Inventory turnover =
Average inventory

RM4,300,000 RM4,541,000
= 4.3 times = 4.9 times
1,020,000 + 980,000 980,000 + 860,000
( 2 ) ( 2 )

(b) Management should be concerned with the fact that inventory is moving slower in 2019 than
it did in 2018. The decrease in the turnover could be because of poor pricing decisions or
because the company is stuck with obsolete inventory.

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7.
(a) 2019 2018
(i) Current ratio 366 381
= 1.63 :1 = 1.55 :1
225 246

(ii) Quick ratio 97 + 112 95 + 118

= 0.93 times = 0.87 times
225 246

(iii) Average collection period 118 + 112 110 + 118

( 2 ) ( 2 )
× 365 = 89.9 days = 97.2 days
467 428

(iv) Inventory turnover 237 218

= 1.54 times = 1.43 times
145 + 163 163 + 142
( ) ( )
2 2
(v) Gross profit margin 230 210
= 49.3% = 49.1%
467 428

(vi) Operating profit margin 94 76

= 20.1% = 17.8%
467 428

(vii) Total asset turnover 467 428

= 82.1% = 79.0%
577+560 560+524
( 2 ) ( 2 )

(viii) Gearing ratio 114 97

= 32.4% = 30.9%
114 + 238 97 + 217

(ix) Times interest earned 94 76

= 10.4 times = 7.6 times
(interest coverage ratio) 9 10

(x) Return on capital 94 76

= 26.7% = 24.2%
employed (ROCE) 114 + 238 97 + 217

(xi) Earnings per share 61 39

= RM5.08 = RM3.90
12 10

(xii) Price/earnings ratio RM86.58 RM46.54

= 17.0 times = 11.9 times
RM5.08 RM3.90

(b) The company’s liquidity has improved as shown by higher ratios for both its current and quick
ratios.

The lower average collection period shows that the company has improved its collection from
customers. Further information is needed to assess how well the company is doing in managing
its debtors, eg, the credit terms given to its customers.

The higher inventory turnover ratio shows that the company improved its ability to sell inventory.
A higher inventory turnover ratio can also be due to the company better managing its inventory,
by reducing the average amount of inventory it keeps.

The company’s gross profit margin is slightly higher in 2019, showing that it has maintained its
selling prices relative to cost of goods sold. Operating profit margin is higher, due to improved
efficiency which kept operating expenses lower as a percentage of sales.

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The higher total asset turnover shows improvement in utilizing its assets to generate sales. Every
ringgit of assets generated higher sales in 2019 compared to 2018.

The gearing ratio has increased slightly, increasing financial risk but it is still relatively low. The
higher interest coverage ratio shows that the company’s ability to pay debts improved. The debt
is quite manageable as the company could generate an amount of income that easily covered
interest payments.

The investment attractiveness of its shares appears to have increased because its ROCE, EPS and
P/E ratios all improved.

The above ratios should be compared with its industry peers to assess the company’s performance
relative to its competitors. The ratios should also be analyzed in the context of the general
economic and industry factors that have an impact on the company.

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