Using Ratios to Compare Alternative Investment Opportunities

The 2007 financial statements for Armstrong and Blair companies are summarized here:

               

	Armstrong Company	Blair Company
Balance Sheet
Cash	$ 35,000	$ 22,000
Accounts receivable (net)	40,000	30,000
Inventory	100,000	40,000
Property and equipment (net)	180,000	300,000
Other assets	45,000	408,000
Total assets	$400,000	$800,000
Current liabilities	$ 100,000	$ 50,000
Long-term debt	60,000	370,000
Total liabilities	160,000	420,000
Common stock (par $10)	150,000	200,000
Additional paid-in capital	30,000	110,000
Retained earnings	60,000	70,000
Total liabilities and stockholders’ equity	$400,000	$800,000
Income Statement
Sales revenue (1/3 on credit)	$450,000	$ 810,000
Cost of goods sold	(245,000)	(405,000)
Expenses (including interest and income tax)	(160,000)	(315,000)
Net income	$ 45,000	$ 90,000
Selected Data from 2005 Statements
Accounts receivable (net)	$ 20,000	$ 38,000
Inventory	92,000	45,000
Property and equipment (net)	180,000	300,000
Long-term debt	60,000	70,000
Total stockholders’ equity	231,000	440,000
Other Data
Estimated value of each share at end of 2006	$   18	$   27
Average income tax rate	30%	30%
Dividends declared and paid in 2006	$ 36,000	$ 150,000

The companies are in the same line of business and are direct competitors in a large metropolitan area. Both have been in business approximately 10 years, and each has had steady growth. The management of each has a different viewpoint in many respects. Blair is more conservative, and as its president said, “We avoid what we consider to be undue risk.” Both companies use straight-line depreciation, but Blair estimates slightly shorter useful lives than Armstrong. Neither company is publicly held. Blair Company has an annual audit by a CPA but Armstrong Company does not.

Required:

1. Calculate the ratios in Exhibit 13.4 for which sufficient information is available. Round all calculations to two decimal places.

TIP: To calculate EPS, use the balance in the common stock account to determine the number of shares outstanding. The common stock balance includes the par value per share times the number of shares.

2. A client of yours has decided to buy shares in one of the two companies. Based on the data given, prepare a comparative written evaluation of the ratio analyses (and any other available information) and conclude with your recommended choice.

TIP: Comment on how accounting differences affect your evaluations, if at all.

Answer rating: 100% (QA)

Stepbystep solution Step 1 of 2 1 Gross profit Net sales 100 Blair 810000 405000 405000 50 Gross pro... View the full answer