Question: You are an investment analyst for Timken Brothers a small

You are an investment analyst for Timken Brothers, a small brokerage firm. Recent developments in the medical equipment industry have caused a number of Timken’s customers to inquire about two particular companies, Technic Enterprises and Sonar-Sun Incorporated. You have been asked to analyze the financial statements of these two companies and—on that basis only—rate them on a scale from 1 (very weak) to 10 (very strong) with respect to (1) solvency position, (2) earning power and persistence, and (3) earnings quality. In addition to the ratings, you have been asked to provide a memo stating why the ratings on these three dimensions do (or do not) differ between the two companies. The ratings and the memo will compose part of a report that will be used by Timken’s brokers to guide their buy/sell recommendations. The financial statements of Technic Enterprises and Sonar-Sun Inc. follow.

Revenue Recognition All sales of inventory are made on account. Sonar-Sun recognizes revenue on such sales when goods are shipped. Revenues on services, where cash is received in advance, are estimated at year-end, based on the extent to which the service is completed.
Accounts Receivable Sonar-Sun uses the allowance method to account for uncollectible accounts. The dollar value in the allowance account as of the end of 2014 was $800. Outstanding receivables are written off when they are deemed uncollectible, and during 2014, $500 of such accounts were removed from the books.
Inventory is carried at the lower-of-cost-or-market rule using the last-in, first-out (LIFO) inventory cost flow assumption. Current costs of the inventory as of the end of 2014 and 2013 were $45,000 and $37,000, respectively.
Equity Investments
Equity investments listed as noncurrent are considered available-for-sale securities. No sales of such securities were made during 2014.
Investment in Affiliate Sonar-Sun owns 25 percent of the outstanding voting stock of EDM Suppliers, and this investment is carried on the financial statements under the equity method.
Property, Plant, and Equipment Sonar-Sun uses accelerated methods to depreciate its plant and equipment for both reporting and tax purposes. At the end of 2014 and 2013, accumulated depreciation totaled $12,000 and $8,000, respectively.
Wholly Owned Subsidiaries Sonar-Sun owns 100 percent of the outstanding voting stock of two companies: Kenworth South and Wallingford Atlantic. The stock of Kenworth South was purchased for cash on January 1, 2011. The stock of Wallingford Atlantic was purchased near the end of 2014. The purchase price consisted of $24,000 in cash and a $5,000 long-term note.
Wallingford was composed of machinery and real estate only.
Write-Downs Sonar-Sun reduced the book value of its inventory by $3,000 to replacement cost in accordance with the lower-of-cost-or-market rule. It also wrote off certain equipment at a book loss of $2,000.
Foreign Currency Sonar-Sun purchases a considerable portion of its inventory from a Mexican supplier, paying its accounts in pesos. Certain accounts payable owed to this supplier were revalued as of year-end to reflect the advance of the peso against the dollar (from 7 pesos per dollar to 8 pesos per dollar).
Income Taxes Sonar-Sun’s effective tax rate is 34 percent.

  • CreatedAugust 19, 2014
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