Chapter 7: MINI CASE The first part of the case, presented in Chapter 6, discussed the situation of Computron Industries after an expansion program. A large loss occurred in 2018, rather than the expected profit. As a result, its managers, directors, and investors are concerned about the firm's survival. Jenny Cochran was brought in as assistant to Computron's chairman, who had the task of getting the company back into a sound financial position. Cochran must prepare an analysis of where the company is now, what it must do to regain its financial health, and what actions to take. Your assignment is to help her answer the following questions, using the recent and projected financial information shown next. Provide clear explanations, not yes or no answers. Balance Sheets Assets Cash Short-Term Investments. Accounts Receivable Inventories Total Current Assets Gross Fixed Assets Less: Accumulated Depreciation Net Fixed Assets Total Assets 2017 2018 2019E $ 9,000 $ 7,282 $ 14,000 48,600 20,000 71,632 351,200 632,160 878,000 715,200 1,287,360 1,716,480 $ 1,124,000 $ 1,946,802 $ 2,680,112 491,000 1,202,950 1,220,000 146,200 263,160 383,160 $ 344,800 $ 939,790 $ 836,840 $ 1,468,800 $ 2,886,592 $ 3,516,952 Liabilities And Equity Accounts Payable Notes Payable Accruals Total Current Liabilities Long-Term Debt Common Stock (100,000 Shares) Retained Earnings Total Equity Total Liabilities And Equity 2017 2018 2019e $ 145,600 $ 324,000 $ 359,800 200,000 720,000 300,000 136,000 284,960 380,000 $ 481,600 $ 1,328,960 $ 1,039,800 323,432 1,000,000 500,000 460,000 460,000 1,680,936 203,768 97,632 296,216 $ 663,768 $ 557,632 $ 1,977,152 $ 1,468,800 $2,886,592 $ 3,516,952 Income Statements 2017 2018 2019E Sales $ 3,432,000 $5,834,400 $ 7,035,600 COGS except depr. 2,864,000 4,980,000 5,800,000 Depreciation 18,900 116,960 120,000 Other Expenses 340,000 720,000 612,960 Total Operating costs $ 3,222,900 $5,816,960 $ 6,532,960 EBIT $ 209,100 $ 17,440 $ 502,640 Interest Expense 62,500 176,000 80,000 EBT $ 146,600 $ (158,560) $ 422,640 Taxes (40%) 58,640 (63,424) 169,056 Net Income $ 87,960 $ (95,136) $ 253,584 Other Data Stock Price Shares Outstanding EPS DPS $ Tax Rate Book Value Per Share $ Lease Payments $ 2017 2018 2019E 8.50 $ 6.00 $ 12.17 100,000 100,000 250,000 0.880 $ (0.951) $ 1.014 0.220 $ 0.110 $ 0.220 40% 40% 40% 6.638 $ 5.576 $ 7.909 40,000 $ 40,000 $ 40,000 2019E Ind. Average 2.7 1.0 6.1 Ratio Analysis Current Quick Inventory Turnover Days Sales Outstanding Fixed Assets Turnover Total Assets Turnover Debt Ratio Liabilities/Assets Ratio TIE EBITDA Coverage Profit Margin Basic Earning Power ROA ROE Price/Earnings (P/E) Price/Cash Flow Market/Book 2017 2.3 0.8 4.0 37.4 10.0 2.3 35.6% 54.8% 3.3 2.6 2.6% 14.2% 6.0% 13.3% 2018 1.5 0.5 4.0 39.5 6.2 2.0 59.6% 80.7% 0.1 0.8 -1.6% 0.6% -3.3% -17.1% -6.3 27.5 1.1 32.0 7.0 2.5 32.0% 50.0% 6.2 8.0 3.6% 17.8% 9.0% 17.9% 16.2 7.6 2.9 9.7 8.0 1.3 a. Why are ratios useful? What three groups use ratio analysis and for what reasons? b. Calculate the 2019 current and quick ratios based on the projected balance sheet and income statement data. What can you say about the company's liquidity position in 2017, 2018, and as projected for 2019? We often think of ratios as being useful (1) to managers to help run the business, (2) to bankers for credit analysis, and (3) to stockholders for stock valuation. Would these different types of analysts have an equal interest in the liquidity ratios? Calculate the 2019 inventory turnover, days sales outstanding (DSO), fixed assets turnover, and total assets turnover. How does Computron's utilization of assets stack up against other firms in its industry? c. d. e. Calculate the 2019 debt ratio, liabilities-to-assets ratio, times-interest-earned, and EBITDA coverage ratios. How does Computron compare with the industry with respect to financial leverage? What can you conclude from these ratios? Calculate the 2019 profit margin, basic earning power (BEP), return on assets (ROA), and return on equity (ROE). What can you say about these ratios? Calculate the 2019 price/earnings ratio, price/cash flow ratios, and market/book ratio. Do these ratios indicate that investors are expected to have a high or low opinion of the company? f. 6 h. Perform a common size analysis and percent change analysis. What do these analyses tell you about Computron? Use the extended DuPont equation to provide a summary and overview of Computron's financial condition as projected for 2019. What are the firm's major strengths and weaknesses? i. j. What are some potential problems and limitations of financial ratio analysis? What are some qualitative factors analysts should consider when evaluating a company's likely future financial performance? Chapter 7: MINI CASE The first part of the case, presented in Chapter 6, discussed the situation of Computron Industries after an expansion program. A large loss occurred in 2018, rather than the expected profit. As a result, its managers, directors, and investors are concerned about the firm's survival. Jenny Cochran was brought in as assistant to Computron's chairman, who had the task of getting the company back into a sound financial position. Cochran must prepare an analysis of where the company is now, what it must do to regain its financial health, and what actions to take. Your assignment is to help her answer the following questions, using the recent and projected financial information shown next. Provide clear explanations, not yes or no answers. Balance Sheets Assets Cash Short-Term Investments. Accounts Receivable Inventories Total Current Assets Gross Fixed Assets Less: Accumulated Depreciation Net Fixed Assets Total Assets 2017 2018 2019E $ 9,000 $ 7,282 $ 14,000 48,600 20,000 71,632 351,200 632,160 878,000 715,200 1,287,360 1,716,480 $ 1,124,000 $ 1,946,802 $ 2,680,112 491,000 1,202,950 1,220,000 146,200 263,160 383,160 $ 344,800 $ 939,790 $ 836,840 $ 1,468,800 $ 2,886,592 $ 3,516,952 Liabilities And Equity Accounts Payable Notes Payable Accruals Total Current Liabilities Long-Term Debt Common Stock (100,000 Shares) Retained Earnings Total Equity Total Liabilities And Equity 2017 2018 2019e $ 145,600 $ 324,000 $ 359,800 200,000 720,000 300,000 136,000 284,960 380,000 $ 481,600 $ 1,328,960 $ 1,039,800 323,432 1,000,000 500,000 460,000 460,000 1,680,936 203,768 97,632 296,216 $ 663,768 $ 557,632 $ 1,977,152 $ 1,468,800 $2,886,592 $ 3,516,952 Income Statements 2017 2018 2019E Sales $ 3,432,000 $5,834,400 $ 7,035,600 COGS except depr. 2,864,000 4,980,000 5,800,000 Depreciation 18,900 116,960 120,000 Other Expenses 340,000 720,000 612,960 Total Operating costs $ 3,222,900 $5,816,960 $ 6,532,960 EBIT $ 209,100 $ 17,440 $ 502,640 Interest Expense 62,500 176,000 80,000 EBT $ 146,600 $ (158,560) $ 422,640 Taxes (40%) 58,640 (63,424) 169,056 Net Income $ 87,960 $ (95,136) $ 253,584 Other Data Stock Price Shares Outstanding EPS DPS $ Tax Rate Book Value Per Share $ Lease Payments $ 2017 2018 2019E 8.50 $ 6.00 $ 12.17 100,000 100,000 250,000 0.880 $ (0.951) $ 1.014 0.220 $ 0.110 $ 0.220 40% 40% 40% 6.638 $ 5.576 $ 7.909 40,000 $ 40,000 $ 40,000 2019E Ind. Average 2.7 1.0 6.1 Ratio Analysis Current Quick Inventory Turnover Days Sales Outstanding Fixed Assets Turnover Total Assets Turnover Debt Ratio Liabilities/Assets Ratio TIE EBITDA Coverage Profit Margin Basic Earning Power ROA ROE Price/Earnings (P/E) Price/Cash Flow Market/Book 2017 2.3 0.8 4.0 37.4 10.0 2.3 35.6% 54.8% 3.3 2.6 2.6% 14.2% 6.0% 13.3% 2018 1.5 0.5 4.0 39.5 6.2 2.0 59.6% 80.7% 0.1 0.8 -1.6% 0.6% -3.3% -17.1% -6.3 27.5 1.1 32.0 7.0 2.5 32.0% 50.0% 6.2 8.0 3.6% 17.8% 9.0% 17.9% 16.2 7.6 2.9 9.7 8.0 1.3 a. Why are ratios useful? What three groups use ratio analysis and for what reasons? b. Calculate the 2019 current and quick ratios based on the projected balance sheet and income statement data. What can you say about the company's liquidity position in 2017, 2018, and as projected for 2019? We often think of ratios as being useful (1) to managers to help run the business, (2) to bankers for credit analysis, and (3) to stockholders for stock valuation. Would these different types of analysts have an equal interest in the liquidity ratios? Calculate the 2019 inventory turnover, days sales outstanding (DSO), fixed assets turnover, and total assets turnover. How does Computron's utilization of assets stack up against other firms in its industry? c. d. e. Calculate the 2019 debt ratio, liabilities-to-assets ratio, times-interest-earned, and EBITDA coverage ratios. How does Computron compare with the industry with respect to financial leverage? What can you conclude from these ratios? Calculate the 2019 profit margin, basic earning power (BEP), return on assets (ROA), and return on equity (ROE). What can you say about these ratios? Calculate the 2019 price/earnings ratio, price/cash flow ratios, and market/book ratio. Do these ratios indicate that investors are expected to have a high or low opinion of the company? f. 6 h. Perform a common size analysis and percent change analysis. What do these analyses tell you about Computron? Use the extended DuPont equation to provide a summary and overview of Computron's financial condition as projected for 2019. What are the firm's major strengths and weaknesses? i. j. What are some potential problems and limitations of financial ratio analysis? What are some qualitative factors analysts should consider when evaluating a company's likely future financial performance