Chapter 13
________
Financial
Statement Analysis
Key Concepts
n What
are the limitations of financial statement analysis? n What
is horizontal analysis and how is it used? n What is vertical analysis
and how is it used? n How are ratios used to assess
liquidity? n How are ratios used to assess solvency? n How
are ratios used to assess profitability?
Chapter Outline
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LO
1
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Precautions
in Statement Analysis
Underlying assumptions to
financial statements, and changes in these assumptions, require that the
reader use the footnotes to aid in comparing one company with another.
No one ratio can tell a reader everything they need to know;
comparisons are needed:
n Comparison
of a number of ratios
n
Comparison of one ratio for a number of periods of time n Comparison with other
companies within the same industry
•
conglomerates
operate in a number of industries, making comparisons more difficult
• nonoperating
items, accounting changes, and differing accounting methods add to confusion
Effects of inflation:
n Statements
are prepared using historical costs, which do not reflect the difference
between actual growth in unit sales and growth in sales dollars caused by
increases in costs
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LO
2
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Horizontal
Analysis
Horizontal
analysis: analysis of financial results over a series of years (Exhibit 13-1, 13-2) n Increases or decreases, compared to a base year, are in
absolute dollars and as percentages of the base year
n Publicly held companies must show, annually, the three
most recent years in the income statement and statement of cash flows, and
two years for the balance sheet
• many
annual reports include a multi-year analysis of selected items and
ratios (Exhibit 13-3)
•
trend
analysis: tracking items over a series of years
•
changes in the elements of the statement of cash flows are receiving
increased attention from analysts
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LO
3
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Vertical
Analysis
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Common size statements recast all items on the statement as a
percentage of a selected item on the statement.
n On
the income statement, this item is net sales. (Exhibit 13-6)
• two important relationships
are
♦
gross profit ratio, or the ratio of gross profit to sales, shows
the relative growth of cost of goods sold compared to growth in sales
♦
profit margin ratio, the ratio of net income to sales, measures
management's ability to control expenses
♦ often
measured using income before tax because management cannot control income tax
expense
n On
the balance sheet, all assets are a percent of total assets. Liability and equity accounts are each a
percent of total liabilities plus equity
(Exhibit 13-5)
n Allows
comparison of two companies that are very different in size n Can
also be used for one company over a number of years
13-2
Liquidity Analysis and the Management of Working Capital
Liquidity is a measure of how close to cash the various assets and
liabilities of a company are, that is, the length of time before cash will be
realized.
n Working capital is the dollar excess of
current assets over current liabilities at a point in time.
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LO 4
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• it
is of limited value, since it tells nothing about the composition of working
capital, and cannot be used in comparing companies of different sizes
• management
of working capital, however, is essential to a company's short-term success
Current Assets
• Current ratio =
Current Liabilities
• Standards exist for different industries despite the 2:1 rule of
thumb analysts use
• Composition of current assets and
current liabilities is important in interpretation, particularly the proportion
of noncash assets
Acid test ratio, also known as quick
ratio, is a stricter measure of the ability to pay current debts.
n Excludes
inventory and prepaid assets
• Quick
assets =
cash + marketable securities +
accounts receivable
Cash + Marketable
Securities + Short
term Receivables
Acid
test ratio =
Current Liabilities
n Quick
ratio of below 1:1 may indicate a need to liquidate marketable securities to
pay obligations, regardless of market prices of the securities at the time
n In
assessing this ratio, information such as credit terms extended to the company
by its creditors, and by the company to its customers, along with due dates of
other obligations, are important
n For
many companies, an acid-test ratio below 1 is not desirable
Limitations of both ratios: n Almost
all debts require payment in cash n Both ratios measure liquidity at one
point in time
Cash
flow from operations to current liabilities ratio: since cash flow from
operating activities looks at cash flow over time, it can be used to measure
cash flow over the year available to cover debts.
Cash
flow from operations to = Net Cash Provided by Operating Activities
current
liabilities ratio Average Current Liabilities
Accounts receivable
turnover ratio measures the efficiency of the collection process:
Accounts
receivable Net Credit Sales
turnover
ratio =
Average Accounts Receivable
n An
activity ratio, over a period of time, not just one point
n Another
way to measure efficiency is by measuring how long accounts remain in
accounts receivable:
number of days
in period
Number
of Days Sales in Receivable =
accounts receivable turnover
Inventory can also be measured for efficiency of management:
n Inventory turnover measures number of
times inventory is purchased, sold, and replaced during a year
Cost of Goods
Sold
Inventory
Turnover Ratio =
Average Inventory
n Number of days' sales in inventory tells
us how long it will take to sell the average item of inventory
days in period
Number of Days’ sales in inventory
= inventory
turnover • increase
could signal obsolete inventory, problems with sales, or high prices causing
reduced demand
Cash to cash
operating cycle is the time between purchase of merchandise and receipt of
cash from sale of that merchandise:
Cash to cash cycle = days' sales in inventory +
days' sales in accounts receivable
LO 5 Solvency
Analysis
Solvency is the
ability to remain in business over the long term, and to remain financially
healthy over the period during which both long- and short-term debt will be
outstanding.
Debt-to-equity ratio measures the relationship between liabilities
and equity:
Total Liabilities
Debt to equity ratio =
Total Stockholders' Equity
total liabilities
n Sometimes measured as
total liabilities + total
stockholders' equity
Times interest earned measures the ability to meet current-year
interest payments:
Net Income
+ Interest Expense + Income Tax Expense
Times interest earned = Interest
Expense
n Limitations are that
•
it only covers interest, not principal
• it
is accrual-based, and does not measure cash
available to meet obligations
♦
numerator contains various
noncash adjustments and denominator measures interest expense, not cash
interest payments
Debt service coverage ratio measures the adequacy of cash generated
by operations in covering debt obligations:
cash flow from operations before interest and tax payments
Debt service coverage ratio = interest
and principal payments
n Sometimes
the numerator used is earnings before interest, taxes, depreciation and
amortization
n The
usefulness depends on changes in current assets and liabilities during a period
n Numerator and denominator figures can be found in the
statement of cash flows or footnotes
13-4
Cash flow from
operations to capital expenditures ratio measures the ability of a company
to finance acquisitions of long-lived assets from operations:
Cash
flow from operations to cash flow from operations − total
dividends
capital
expenditures ratio =
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LO 6
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cash paid for acquisitions
Profitability Analysis
Profitability
measures management's ability to use resources available to earn a return on
funds invested. n Return
is a relationship between income earned by the company and investments made by
various groups
n Return on assets is the broadest
measure, calculating return on investments by all providers of capital
• denominator
is average total assets, the sum of all the investments
• numerator
is some measure of income that reflects all providers of capital
♦
interest expense must be added back to net
income, so that we have income before anyone's return, creditors or
stockholders, is deducted
♦
should add back interest net of
tax, since net income is net of tax
Net Income + Interest
Expense, Net of Tax
Return
on assets =
Average Total Assets
Components
of return on assets
return
on sales * turnover or
net income net sales
*
net sales average total
assets
Return
on stockholders' equity measures the return to common stockholders, after the debt return is accounted for:
Net Income
− Preferred
Dividends
Return
on stockholders’ equity =
Average Common Stockholders' Equity
n Net
income is measured after interest is
deducted; common equity equals assets less
liabilities n Return on assets and return on equity
are tied together in a phenomenon called leverage,
the practice of using borrowed funds and amounts received from preferred
shareholders to earn a higher overall return on common equity
n If
the company can earn an overall rate that is higher than the rates they pay to
preferred shareholders and debtholders, it has been successful in its use of
outside money, or can be said to have employed favorable leverage
n If
the company's net income should fall, and they pay more to these groups than
they earn overall, they will have unfavorable
leverage and be at risk
Earnings
per share (EPS) allows shareholders to calculate what their share of
earnings is, and compare it to what they paid for the stock:
Net Income
− Preferred
Dividends
Earnings
per share =
Weighted Average Number of Common Shares Outstanding
Price-earnings
(PE) ratio relates the price of a share of stock to earnings per share:
current maret price per share
PE
ratio =
earnings per share
Dividend ratios evaluate a
company's dividend policies.
n Dividend payout ratio measures how much
of the earnings actually go to the shareholders:
common dividends per share
Dividend
payout ratio =
earnings per share
n Dividend yield ratio measures the return
on an investment measured by dividends paid:
common dividends per share
Dividend
yield ratio =
market price per share
NOTE: Exhibit [1]-8
in the textbook summarizes the most commonly used financial ratios. Students may want to mark it for reference.
Lecture
Suggestions
|
The
Wrigley comparative statistics in Exhibit 13-3 can generate a good discussion
of what can be found by comparing more than one statistic without doing any
calculations.
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LO 2
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If
students have been assigned exercises from the "Activities" section
of this book involving comparison of companies, they will have encountered
situations where companies of very different sizes had to be compared. Relating common size statements to students'
ways of dealing with these differences can launch a discussion on the use of
common size statements.
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LO 3
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The
cash to cash cycle and its components, the days in inventory and the days in
accounts receivable, can be explained in conjunction with the current ratio
to assess the adequacy of the company's current ratio. Similarly, days in accounts receivable
measures how "quick" accounts receivable actually is.
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LO 4
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Students understand
the concept of interest as the return on their investment in a bank
account. From there, they can make the
transition to a stockholder's investment in a company, and the return the
company produces, in the form of net income.
In a bank account, interest is not always withdrawn, but is left to
earn more interest than that which would be earned on the initial investment
alone.
Stockholders do not
withdraw as dividends all net income, but leave some invested in the company
to generate greater future income.
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LO 6
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The Review Problem at the end of the chapter, using the
Wrigley statements, contains sufficient
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information to use as an in-class
example for most of the ratios, including solutions for many ratios. Since students have the statements before
them in their books, it is not necessary to reproduce them. Detailed clarification and comment as you
review the ratios add to what is given in the solution to the Problem.
Projects and Activities
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LO 2
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Horizontal Analysis
In-class
exercise: Wrigley income statement
The income statements for 1998,
1997, and 1996 for William Wrigley Jr. Company are presented in the review
problem in your textbook. Set up a
worksheet with columns similar to the Henderson Company example (Exhibit 13-1)
in your textbook to do a horizontal analysis of Wrigley’s income
statements. Round numbers to tenths of a
percent to minimize rounding problems.
n Do
you find any changes that you would consider significant and worthy of further
investigation? If so, what are
they? Why are they important?
n Does
the horizontal analysis make the comparative income statements more meaningful
to you as you try to evaluate Wrigley’s performance?
n If
you wished to evaluate the influence of inflation on the Wrigley income
statements, what factors would complicate your attempts to do so?
Solution
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($
million)
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||||||
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1997 to 1998 change 1996
to 1997 change
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|||||
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Year ended December 31 Revenues:
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1998 1997 1996
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$
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%
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$
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%
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||
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Net sales
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$ 2004.7
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$ 1937.0
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$ 1835.9
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67.7
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3.4
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101.1
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5.5
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Investment & other
income
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18.6
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17.1
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14.6
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1.5
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8.7
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2.5
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17.1
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Total revenues
Costs and expenses
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2023.3
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1954.1
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1850.5
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69.2
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3.5
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103.6
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5.5
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Cost of sales
Cost (gains) related to factory
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848.3
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847.3
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814.5
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1.0
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.1
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32.8
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4.0
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Closure and sale
Selling, distribution and
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(10.4)
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3.3
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19.4
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(13.7)
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(415.1)
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(16.1)
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(82.9)
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general
administrative
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743.9
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708.3
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656.4
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35.6
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5.0
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51.9
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7.9
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Interest
|
.6
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.9
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1.1
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(.3)
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(33.3)
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(.2)
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(18.1)
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Total costs and expenses
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1582.4
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1559.8
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1491.4
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22.6
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(1.4)
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68.4
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4.5
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Earnings before income taxes
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400.8
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394.2
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359.1
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6.6
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1.6
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35.1
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9.7
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Income taxes
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136.3
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122.6
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128.8
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13.7
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11.1
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(6.2)
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(4.8)
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Net earnings
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$ 304.5
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$ 271.6
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$ 230.3
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32.9
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12.1
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41.4
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17.9
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If you require or encourage the use
of personal computers by your students, either at home or in an oncampus lab,
students can set up the table on their own as an outside assignment, using a
spreadsheet, and come into class ready to discuss their findings. This will save class time.
n Growth
in expenses outpaced revenue growth. In
general, 1998 was a more difficult year than 1997 for the company. The growth rate slowed. Cost of interest and
plant closure were significant items.
n This
is not a “right answer” question.
Students are being asked to respond subjectively to the effect of seeing
the same information in a different format.
Few would have noticed, for example, the relatively smaller growth
between 1997 and 1998 compared to 1996 and 1997.
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LO 3
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n Inflation
can be measured in more than one way.
One could look at the growth in costs versus the growth in
revenues. Alternatively, inflation could
be measured by published “standards” that record inflation in the economy. This is where problems arise. Since Wrigley does business throughout the
world, many inflation rates would be applied to the appropriate figures to make
this assessment, and the overall analysis would be difficult and perhaps
pointless.
Vertical Analysis
In-class
exercise: Wrigley balance sheet
Vertical analysis involves
recasting a financial statement in a form that eliminates absolute size as a
variable, and instead looks at the relative size of each element of the
statement. Use the Wrigley comparative
balance sheets for 1997 and 1998 in the Review Problem in your textbook. Prepare a set of common size comparative
balance sheets. What number will you
measure each asset against? What will
each liability and equity item be expressed as a percent of? Use a four-column format such as the one in
Exhibit 13-5.
Consider
the following questions:
n Did
any items change significantly? If so,
can you explain the change? n Explain the foreign currency
conversion: How did the foreign
currencies fare against the U.S.
dollar,
overall, in each of the two years? How
did the two years compare? n What does this format show that you
did not see when you merely compared the two balance sheets?
Solution
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($
and shares million)
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1998
|
1997
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Assets
Current assets:
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$
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% *
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$
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%*
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Cash and cash equivalents
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214.5
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14.10
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206.6
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15.38
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Short-term investments, at amortized cost
Accounts receivable
(less allowance for doubtful
|
137.7
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9.05
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120.7
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8.98
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accounts: 1998–$7.5; 1997–$7.5)
Inventories—
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194.9
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12.81
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175.91
|
13.09
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Finished goods
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64.9
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4.26
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63.9
|
4.75
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Raw materials and
supplies
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191.1
|
12.56
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183.4
|
13.65
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Other current assets
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25.3
|
1.66
|
30.5
|
2.27
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Deferred income
taxes—current
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15.0
|
.98
|
16.4
|
1.22
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Total current
assets
|
843.1
|
55.44
|
797.6
|
59.38
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Marketable securities at fair value
|
39.8
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2.61
|
26.3
|
1.95
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Deferred charges and other assets
|
92.1
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6.05
|
59.5
|
4.43
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Deferred income taxes—noncurrent
Property, plant, and equipment at cost:
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25.5
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1.67
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29.0
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2.15
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Land
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36.0
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2.36
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26.2
|
1.95
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Buildings and building equipment
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310.2
|
20.39
|
277.8
|
20.68
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Machinery and equipment
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642.5
|
42.24
|
566.7
|
42.19
|
|
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988.7
|
65.01
|
870.8
|
64.83
|
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Less accumulated
depreciation
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468.6
|
30.81
|
440.3
|
32.78
|
|
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520.0
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34.19
|
430.4
|
32.04
|
|
Total assets
Liabilities and shareholders' equity
Current liabilities
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$ 1520.8
|
100.00
|
1343.1
|
100.00
|
|
Accounts payable
|
76.6
|
5.03
|
71.0
|
5.28
|
|
Accrued expenses
|
67.8
|
4.45
|
78.3
|
5.82
|
|
Dividends payable
|
23.2
|
1.52
|
22.0
|
1.63
|
|
Income and other taxes payable
|
49.4
|
3.24
|
53.4
|
3.97
|
|
Deferred income
taxes—current
|
1.3
|
.08
|
.9
|
.06
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Total current liabilities
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218.6
|
14.37
|
225.8
|
16.81
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Deferred income taxes—noncurrent
|
40.3
|
2.64
|
30.8
|
2.29
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|
Other noncurrent liabilities Shareholders' equity:
Preferred stock—no par value
Authorized: 20,000 shares
|
104.8
|
6.89
|
101.0
|
7.51
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Issued: none
Common stock—no par value
Common stock
Authorized: 400,000 shares
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|
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Issued: 1998–93.0 shares; 1997–92.5 shares
Class B common stock—convertible
Authorized: 80,000 shares
Issued and
outstanding: 1998–23.2 shares;
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12.4
|
.81
|
12.3
|
.91
|
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1997–23.6
shares
|
3.0
|
.19
|
3.1
|
.23
|
|
Additional paid-in capital
|
.2
|
.01
|
.2
|
.01
|
|
Retained earnings
|
1184.6
|
77.89
|
1032.1
|
76.84
|
|
Foreign currency translation adjustment
Unrealized holding gains on marketable equity
|
(61.3) (4.03)
|
(65.0)
|
(4.83)
|
|
|
securities
Common stock in treasury, at cost
|
24.6 1.61
|
15.9
|
1.18
|
|
|
(1998—111 shares; 1997—252 shares)
|
(6.7) (.44)
|
(13.3)
|
(.99)
|
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Total stockholders’ equity
|
1157.0 76.07
|
985.3
|
73.36
|
|
|
Total
liabilities and stockholders' equity
|
$ 1520.8 100.00
|
$ 1343.1
|
100.00
|
|
* Each asset is expressed as a
percentage of total assets; each liability or equity account is expressed as a
percentage of total liabilities plus equity.
n Balance
sheet amounts are remarkable for their relative consistency. Changes in the percentages between the two
years were all immaterial. n Foreign currencies in which Wrigley
had holdings declined relative to the dollar in aggregate in both years.
The relative decline was slightly less in 1998.
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LO 4
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n The
absolute dollar statements let the reader see increases (or decreases) in
individual items; the common size statements show the relative proportions of
the balance sheet items (for example, current assets to total assets, or
liabilities to total liabilities plus equity), which may be useful in seeing
whether the perceived growth is uniform, or concentrated in certain areas, or
shifting between balance sheet accounts.
Liquidity Analysis and the Management of Working Capital
Outside
assignment: Dell liquidity
Use the income statement, balance
sheet, and statement cash flows from the 1998 Annual Report of Dell Computer
Corp.[2],
reproduced at the end of this Chapter in the book, to work on this and the
following exercises.
n Calculate
Dell's current ratio. n Use one of the references available in
your library to discover what the norm is for this ratio in Dell's
industry. How does Dell compare to the
norm?
n Calculate
Dell's quick ratio. Is the difference
significant between the current and quick ratios? Can you explain what the difference means?
n Use
the calculation of days in accounts receivable to evaluate Dell's current
ratio. Based upon the business Dell is
in, how would you expect their accounts receivable to differ from the
receivables of other companies?
n Calculate
days in inventory for Dell. How does the
type of business Dell is in influence the contents of Dell's inventories, and
how long these inventories are on hand?
n Calculate
Dell's cash to cash cycle. What factors affect the company’s ability to
generate cash?
n Is
the cash flow from operations to current liabilities ratio a better indicator
of Dell's ability to generate enough cash to satisfy short-term obligations? Why or why not?
Solution
current assets 3912
n 
= =
1.45 : 1 current liabilities 2697
= =
1.45 : 1 current liabilities 2697
n Current
ratios for some related companies:
Apple
Computer 2.25
Digital
Equipment Corp. 1.71
Hewlett
Packard 1.48
n The
quick ratio is somewhat smaller.
Students will probably use for quick assets, cash, shortterm
investments, and accounts receivable, which compared to current liabilities
yield
=
1.23 : 1
Dell’s inventories are not so
significant to distort the current ratio.
Thus the current ratio, subject to accounts receivable and inventory
turnover, is a fair indicator of liquidity.
n Accounts
receivable turnover =. 
=
10.31 times n Related companies:
=
10.31 times n Related companies:
Apple
Computer 5.5
Digital
Equipment Corp. 4.1
Hewlett
Packard 4.7
Days in accounts receivable = 
=
34.9 days
=
34.9 days
The company collects its accounts
receivable, on the average, in 35 days.
This does not appear a particularly long collection period, especially
when turnover for related companies is noted.
9,605 n Inventory
turnover = ( ) =
39.6 times. 233 +
251 / 2
Days in inventory
= 
=
9.07 days
=
9.07 days
For comparison, inventory turnover in other similar companies
is
Apple
Computer 4.6
Digital
Equipment Corp. 4.6
Hewlett
Packard 2.8
Inventories’ behavior will differ because of Dell's
business. The company buys inventory in
advance of its use in manufacturing.
Inventories are not immediately sold.
In addition, inventories contain labor and overhead, not just purchased
parts. This goes beyond the scope of the
course. However, in spite of these
factors, turnover is relatively short.
It should be noted when evaluating accounts receivable and inventory
that the cornerstone of Dell’s business approach is universal customization. Computers are sold directly to the customer
by Dell, and tailored to each customer’s needs.
Their products are built to order.
n Cash
to cash cycle = 35
+ 9 = 44
days. Key factors are the extra
steps involved in manufacturing, balanced by Dell’s efforts at quick turnaround
of inventories.
n Cash
flow from operating activities to current liabilities = 
=
.59 : 1.
=
.59 : 1.
Notwithstanding the fact that its focus is on cash, which is needed to satisfy
liabilities, it is only one
indicator. None are better, but must be
considered in the context of related ratios, and also in comparison to similar
companies. n Some comparisons:
Apple
Computer (.10)
Digital
Equipment Corp. (.08)
Hewlett
Packard .15
Solvency Analysis
Outside
assignment: Dell Computer Corp.
Dell Computer Corporation last year
was the third-largest and fastest growing among all major computer systems
companies worldwide.[3] They have not grown to that status while
ignoring profitability. People within
Dell as well as outside analysts pay attention to key measures of the company’s
ability to use the resources available to it.
|
LO 5
|
n Calculate
Dell's debt to total capitalization (a form of debt to equity) ratio (use total
liabilities
+ stockholders' equity as the denominator) for
1998 and 1997. How has it changed? Does Dell appear to depend heavily on debt
financing? How do they compare to
similar companies?
n Study
Dell’s Statement of Cash Flows. How is
Dell likely to finance fixed assets in the foreseeable future?
Solution n Debt
to total capitalization ratio for 1998
= 
=
69.7 %
=
69.7 %
and, for 1997,
= 
=
63.7%
=
63.7%
Compared to other companies, with debt at 75% to 90% of total
financing not uncommon, Dell does not look overly leveraged. The ratio changed little from 1997 to
1998. It is useful to remind students
that it is good management for a business to use debt for a portion of its
financing if it can earn a higher rate of return on the funds obtained than the
borrowing rate for the debt.
Apple
Computer 28.2 %
Digital
Equipment Corp. 22.5 %
Hewlett
Packard 51.5
%
|
LO 6
|
n Since
Dell has more than adequate cash flow from operations to pay back its current
debt in full even after capital expenditures, it is in a good position to
decide to either expand using operating cash, or to borrow additional money at
advantageous rates (see exercise on leverage) with no immediate risk of not
meeting principal or interest payments.
Profitability Analysis
Ethical
decision: Return on assets
A company owns two hotels, both in
large cities. Revenues for the two
hotels are similar. However, one
building is about two years old, and the other was built ten years ago. For each manager, a portion of annual
compensation is based on return on assets above a guideline set by the company
for all hotels in the chain. After
carefully studying the financial information available to her, the manager of
the new hotel decides that she is at a disadvantage because of this new
building, and decides to compensate by recalculating depreciation for the
building using an accelerated method.
n Why
does the new building put this manager at a disadvantage relative to her
compensation? n Can depreciation be calculated
differently for reporting and managerial evaluation? Why or why not?
n What
problem would this decision present for the company as a whole? n Do
you think that a company has any flexibility in how it calculates return on
assets (or any ratio, for that matter) for internal use?
n What
would you, as the company officer who supervises both managers, suggest as a
solution to this problem?
Solution n The
manager is at a disadvantage because the net book value of her assets, which
will include the new building and fixtures, will be much higher than that of
the older building. Thus, for comparable
net income, she will show a lower return on assets. n The
increase in performance would not be a genuine improvement, merely a form of “book cooking.” It would be surprising if she had the freedom
to unilaterally make this decision.
However, the company’s formula for calculating executive compensation is
not subject to the rules of reporting, but is an internally governed matter.
n For
the company as a whole, unless they can show some justification to the
contrary, like assets should be treated in the same way. Thus, they would not use two different
depreciation methods for two managers..
Although different assets can be depreciated differently, it would be
difficult to make a distinction between two buildings.
n For
internal purposes—that is for numbers that will not be published—the company
does have flexibility. They can change
the definition of “total assets” to, for example, cost rather than net book
value, or even to current market value.
Even in published figures, some variation is found, leading the wise
reader to conclude that it is best, if you want to be sure you are comparing
the same numbers for two companies, to calculate the ratios yourself.
n “Book
cooking” notwithstanding, the manager of the newer building does have a
legitimate complaint. The two managers
are not being evaluated equally. The
supervisor could set different standards for each hotel, or change the elements
of the calculation to compensate for differences between facilities. Evaluation systems frequently raise
controversy, and companies resort to detailed, complex bonus formulae to
eliminate bias. The use of target
figures for return can serve as a disincentive to capital investments if new
assets appear to penalize managers.
|
Note to instructor:
For the sake
of consistency, and to show how the ratios taken together present a more
complete picture, Dell was used for most ratio calculations in this Chapter.
However, many of the ratios were introduced earlier in the text, and
exercises for them appear in this manual using other companies.
|
Consolidated Statement of Financial
Position[4]
Dell
Computer Corporation
($
000)
February
1, February 2,
1998 1997
Assets
(in
millions) Current assets:
|
Cash
|
$ 320
|
$
115
|
|
Marketable securities
|
1,524
|
1,237
|
|
Accounts receivable, net
|
1,486
|
903
|
|
Inventories
|
233
|
251
|
|
Other current assets
|
349
|
241
|
|
Total current
assets
|
3,912
|
2,747
|
|
Property and equipment, net
|
342
|
235
|
|
Other assets
|
14
|
11
|
|
Total Assets
Liabilities and
Stockholders’ Equity Current liabilities:
|
$4,268
|
$2,993¸
|
|
Accounts payable
|
$ 1,643
|
$
1,040
|
|
Accrued liabilities
|
1,054
|
618
|
|
Total current liabilities
|
2,697
|
1,658
|
|
Long-term debt
|
17
|
18
|
|
Deferred revenue on warranty contracts
|
225
|
219
|
|
Other liabilities
|
36
|
13
|
|
Commitments on contingent liabilities
|
----
|
----
|
|
Total liabilities
|
2,975
|
1,908
|
|
Put options
Stockholders’ equity:
|
----
|
279
|
|
Preferred stock: $.01 par value; shares issued:
|
||
|
shares outstanding: none
Common stock: $.01 par value; shares
|
----
|
----
|
|
issued and
outstanding: 644 and 692, respectively
|
747
|
195
|
|
Retained earnings
|
607
|
647
|
|
Other
|
(61)
|
(36)
|
|
Total stockholders’
equity
|
1,293
|
806
|
|
Total liabilities +
stockholders’ equity
|
$4,268
|
$2,993
|
Consolidated
Statement of Operations
Dell
Computer Corporation
|
|
|
($ 000)
|
|
|
|
|
February
1
|
Fiscal
Year
|
January
28
|
|
|
(in millions)
|
1998
|
1997
|
1996
|
|
|
Net revenue
|
$ 12,327
|
$ 7,759
|
$ 5,296
|
|
|
Cost of sales
|
9,605
|
6,093
|
4,229
|
|
|
Gross margin
Operating expenses:
|
2,722
|
1,666
|
1,067
|
|
|
Selling, general and administrative
|
1,202
|
826
|
595
|
|
|
Research, development and engineering
|
204
|
126
|
95
|
|
|
Total operating
expenses
|
1,406
|
952
|
690
|
|
|
Operating income
|
1,316
|
714
|
377
|
|
|
Financing and other income
|
52
|
33
|
6
|
|
|
Income before taxes and extraordinary loss
|
1,368
|
747
|
383
|
|
|
Provision for income taxes (benefit)
|
|
424
|
216
|
111
|
|
Net income before
extraordinary loss
|
|
944
|
531
|
272
|
|
Extraordinary loss, net of taxes
|
|
----
|
(13)
|
----
|
|
Net income
|
|
944
|
518
|
272
|
|
Preferred stock dividends
Net income available to common
|
|
----
|
----
|
(12)
|
|
stockholders
Earnings
per common share (in whole dollars):
|
|
$
944
|
$
518
|
$ 260
|
|
Income before extraordinary loss
|
|
$ 1.44
|
$ 0.75
|
$ 0.36
|
|
Extraordinary loss, net of taxes
|
|
----
|
(.02)
|
----
|
|
Earnings per common share
Diluted
earnings per common share (in whole dollars):
|
|
$ 1.44
|
$ 0.73
|
$ 0.36
|
|
Income before extraordinary loss
|
|
$ 1.28
|
$ 0.68 $ 0.33
|
|
|
Extraordinary loss, net of taxes
|
|
-----
|
(.02) -----
|
|
|
Earnings per common share
Weighted average shares outstanding:
|
|
$ 1.28
|
$ 0.66 $ 0.33
|
|
|
Basic
|
|
658
|
710 716
|
|
|
Fully diluted
|
|
738
|
782 790
|
|
Consolidated
Statement of Cash Flows
Dell
Computer Corporation
|
|
|
|
($
000)
|
|
|
|
|
February 1
|
Fiscal Year
|
January
28
|
|
(in millions)
Cash flows from operating activities:
|
|
1998
|
1997
|
1996
|
|
Net income
Adjustments
to reconcile net income to net cash
provided by operating activities:
|
|
$ 944
|
$ 518
|
$ 272
|
|
Depreciation and
amortization
|
|
67
|
47
|
38
|
|
Other
Changes in:
|
|
24
|
29
|
22
|
|
Operating working
capital
|
|
529
|
659
|
(195)
|
|
Non-current assets
and liabilities
|
|
28
|
109
|
39
|
|
Net cash provided by
operating activities Cash flows from investing activities:
Marketable securities:
|
|
1,592
|
1,362
|
176
|
|
Purchases
|
|
(12,305)
|
(9,538)
|
(4,545)
|
|
Maturities and
Sales
|
|
12,017
|
8,891
|
4,442
|
|
Capital expenditures
|
|
(187)
|
(114)
|
(101)
|
|
Net cash used in
investing activities
Cash flow from financing activities:
|
|
(475)
|
(761)
|
(204)
|
|
Purchase of common stock
|
|
(1,023)
|
(495)
|
-
|
|
Repurchase of 11% Senior Notes
|
|
-
|
(95)
|
-
|
|
Issuance of common stock under employee plans 88
|
57
|
48
|
||
|
Cash received from sale of equity options 38
|
-
|
-
|
||
|
Preferred stock dividends paid other (1)
|
-
|
(14)
|
||
|
Net cash provided by financing activities (898)
|
(533)
|
34
|
||
|
Effect of exchange rate changes on cash (14)
|
(8)
|
7
|
||
|
Net increase in cash 205
|
60
|
12
|
||
|
Cash at beginning of period 115
|
55
|
43
|
||
|
Cash at end of period $ 320
|
$ 115
|
$ 55
|
||
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