ACC10007 Lecture Notes - Lecture 6: Gross Profit, Asset Turnover, Asset

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30 May 2018

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Lecture 6 Accounting For Decision Making

Stakeholders of a business

Analytical methods of key

ﬁnancial statements Data

•Common size analysis

•Horizontal analysis

•Vertical analysis

•Trend analysis

•Ratio analysis

Common Size Analysis

Common size analysis is the restatement of ﬁnancial statement information in a

standardized form.

Horizontal analysis uses the amounts in accounts in a speciﬁed year as the base,

and subsequent years’ amounts are stated as a percentage of the base value.

Useful when comparing growth of different accounts over time.

Vertical common-size analysis uses the aggregate value in a ﬁnancial statement

for a given year as the base, and each account’s amount is restated as a

percentage of the aggregate.

Balance sheet: Aggregate amount is total assets.

Income statement: Aggregate amount is revenues or sales.

Consider the below data

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Create the vertical common-size analysis for the CS Company’s assets.

Create the horizontal common-size analysis for CS Company’s assets, using 2008 as

the base year.

Vertical Analysis

Horizontal Common-size Analysis

Trend Analysis

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•Tries to predict the future direction of various items on the basis of the direction of

the items in the past

•To calculate a trend, it is necessary to have at least three years of data

•Examines changes, movements and patterns in data over a number of time

periods

Example:

JBhiﬁ

In this graph 2010 is used as a base year, with subsequent figures expressed relative to

it.

Ratio Analysis

Ratio analysis provides a quick means of examining the ﬁnancial health of a business.

This nature of analyses express the relationship between values within or between the

ﬁnancial statements.

Ratios facilitate comparison of:

One company over time

One company versus other companies

Ratios are used by:

Lenders to determine creditworthiness

Stockholders to estimate future cash ﬂows and risk

Managers to identify areas of weakness and strength

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Document Summary

Nancial statements data: common size analysis, horizontal analysis, vertical analysis, trend analysis, ratio analysis. Common size analysis is the restatement of nancial statement information in a standardized form. Horizontal analysis uses the amounts in accounts in a speci ed year as the base, and subsequent years" amounts are stated as a percentage of the base value. Useful when comparing growth of different accounts over time. Vertical common-size analysis uses the aggregate value in a nancial statement for a given year as the base, and each account"s amount is restated as a percentage of the aggregate. Income statement: aggregate amount is revenues or sales. Create the vertical common-size analysis for the cs company"s assets. Create the horizontal common-size analysis for cs company"s assets, using 2008 as the base year. In this graph 2010 is used as a base year, with subsequent figures expressed relative to it. Ratio analysis provides a quick means of examining the nancial health of a business.

Related Questions

1. Which of the following would NOT be considered a significantnon cash transaction?

Issuing debt to purchase plant assets

Exchanging plant assets

Paying stock dividends

All of the above are significant non cash transactions

2. During 2018, ABC Company reports the following activities

1. Net Income was recorded in the amount of $75,000

2. Depreciation expense was $10,000

3. Repaid a loan of $10,000 cash

4. Issued stock in exchange for $30,000

5. Sold equipment which had a book value of $20,000 for $17,000(recognizing a $3,000 loss).

6. Accounts Receivable decreased by $5,000

7. Accounts Payable decreased by $2,000

Calculate the cash provided by operating activities given theabove information.

3. ABC Company reports cash flows from operating activities of$30,000. In addition, ABC Company pays dividends of $5,000 and doesnot purchase any fixed assets during the year. Interest expense forthe year was $7,000. Calculate free cash flows for ABC Company.

4. The net income reported on the income statement for thecurrent year was $245,000. Depreciation was $40,000. Accountreceivable and inventories decreased by $12,000 and $35,000,respectively. Prepaid expenses and accounts payable increased,respectively, by $1,000 and $8,000. How much cash was provided byoperating activities?

5. In calculating cash flows from operating activities using theindirect method, a gain on the sale of equipment is

Ignored because it does not impact cash

Added to net income

Subtracted from net income

Not reported on the Statement of Cash Flows

6. The following data are availablefor ABC Corporation.

Sale ofland $225,000

Sale ofequipment $130,000

Issuance of commonstock 140,000

Purchase ofequipment 70,000

Payment of cashdividends 120,000

Net cash provided by investing activities is:

7. ABC Company issues $50,000 of common stock during the yearfor cash. How would this be reported on the statement of cashflows?

As an addition to financing activities

As an addition to planning activities

As an addition to investing activities

As a subtraction from operating activities

8. XYZ Store had net credit sales of $8,500,000 and cost ofgoods sold of $5,000,000 for the year. The Accounts Receivablebalances at the beginning and end of the year were $600,000 and$760,000, respectively. The accounts receivable turnover was

9. ABC Company reports net income of $50,000 for 2018. Theprofit margin for ABC Company is 5%. Calculate the net sales forABC Company

10. Turnbull Department Store had net credit sales of$18,000,000 and cost of goods sold of $15,000,000 for the year. Theaverage inventory for the year amounted to $2,500,000. The averagenumber of days that it took to convert inventory into cash for ABCwas

11. Each of the following is included in computing the acid-testratio EXCEPT

Net accounts receivable

Cash

Inventory

Short-term investments

12. ABC Corporation had net income of $240,000. The weightedaverage number of shares outstanding in 2017 was 60,000 shares. AleCorporation's common stock is selling for $76 per share on the NewYork Stock Exchange. ABC Corporation's price-earnings ratio is

13. ABC Company reports Sales revenue of the following amountsfor 2016, 2017 and 2018:

2016: $125,000

2017: $210,000

2018: $215,000

Calculate the percentage change in sales revenue from 2016 to2018

14. Horizontal analysis is also called:

Linear anlysis

Common sizing

Trend analysis

Vertical analysis

15. XYZ Company reports cost of goods sold of $80,000 in 2018and of $60,000 in 2017. Calculate the % change in cost of goodssold from 2017 to 2018.

16. ABC, Inc. has the following income statement (inmillions):

ABC,INC.

IncomeStatement

Forthe Year Ended December 31, 2017

NetSales $300

Cost of GoodsSold 180

GrossProfit 120

OperatingExpenses 45

NetIncome $75

Using vertical analysis, what percentage is assigned to NetIncome?

17. Vertical analysis is also called:

Ratio anlysis

Common sizing

Trend analysis

Horizontal analysis

18. Swiss Clothing Store had a balance in the AccountsReceivable account of $920,000 at the beginning of the year and abalance of $980,000 at the end of the year. Net credit sales duringthe year amounted to $6,650,000. The average collection period ofthe receivables in terms of days was

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PROBLEM 15-15 Comprehensive Ratio Analysis (L015-2, L015-3, L015-4, L015-5, L015-6] You have just been hired as a financial analyst for Lydex Company, a manufacturer of safety hel- mets. Your boss has asked you to perform a comprehensive analysis of the company's financial statements, including comparing Lydex's performance to its major competitors. The company's financial statements for the last two years are as follows: Lydex Company Comparative Balance Sheet This Year Last Year $ 960,000 0 2,700,000 3,900,000 240,000 7,800,000 9,300,000 $17,100,000 $ 1,260,000 300,000 1,800,000 2,400,000 180,000 5,940,000 8,940,000 $14,880,000 Assets Current assets: Cash .... Marketable securities ......... Accounts receivable, net ........ Inventory .......... Prepaid expenses.......... Total current assets. ........ Plant and equipment, net ..... Total assets ............. Liabilities and Stockholders' Equity Liabilities: Current liabilities. Note payable, 10% ................. Total liabilities .... .......... Stockholders' equity: Common stock, $78 par value ......... Retained earnings .................. Total stockholders' equity .............. Total liabilities and stockholders' equity.... $ 3,900,000 3,600,000 7,500,000 $2,760,000 3,000,000 5,760,000 7,800,000 1,800,000 9,600,000 $17,100,000 7,800,000 1,320,000 9,120,000 $14,880,000 Lydex Company Comparative Income Statement and Reconciliation This Year Last Year Sales (all on account) ........... $15,750,000 $12,480,000 Cost of goods sold ...... 12,600,000 9,900,000 Gross margin ....................... 3,150,000 2,580,000 Selling and administrative expenses ...... 1,590,000 1,560,000 Net operating income.................. 1,560,000 1,020,000 Interest expense ...................... 360,000 300,000 Net income before taxes ............. 1,200,000 720,000 Income taxes (30%) .......... 360.000 216,000 Net income ....... 840,000 504,000 Common dividends .... 360,000 252,000 Net income retained. 480,000 252,000 Beginning retained earnings ............ 1,320,000 1,068,000 Ending retained earnings .......... $ 1,800,000 $ 1,320,000 PROBLEM 15-16 Common-Size Financial Statements [L015-1] Refer to the financial statement data for Lydex Company given in Problem 15-15. Required: For both this year and last year: 1. Present the balance sheet in common-size format. 2. Present the income statement in common-size format down through net income. 3. Comment on the results of your analysis.

1. Which of thefollowing below generally is the most useful in analyzing companiesof different sizes

a.	comparative statements
b.	common-sized financialstatements
c.	price-level accounting
d.	audit report

2. What type ofanalysis is indicated by the following?

			Increase(Decrease*)
	2010	2009	Amount	Percent
Current assets	$ 380,000	$ 500,000	$120,000*	24%*
Fixed assets	1,680,000	1,500,000	180,000	12%

a.	vertical analysis
b.	horizontalanalysis
c.	liquidity analysis
d.	common-size analysis

3. Assume thefollowing sales data for a company:

	2010	750,000
	2009	500,000

What is the percentage increase in sales from 2009 to 2010?

a.	25%
b.	66.7%
c.	50% 250,000/500,000 = .5 or 50%
d.	150%

4. In performing avertical analysis, the base for cost of goods sold is

a.	Total selling expenses.
b.	Net sales.
c.	Total expenses.
d.	Total revenues.

5. The ability of abusiness to pay its debts as they come due and to earn a reasonableamount of income is referred to as

a.	solvency and leverage
b.	solvency and profitability
c.	solvency andliquidity
d.	solvency and equity

6. Which of thefollowing is not an analysis usedin assessing solvency?

a.	number of times interest charges are earned
b.	current position analysis
c.	ratio of net sales toassets
d.	inventory analysis

7. A company withworking capital of $500,000 and a current ratio of 2.5 pays a$85,000 short-term liability. The amount of working capitalimmediately after payment is

a.	$585,000
b.	$415,000
c.	$500,000
d.	$85,000

8. Based on thefollowing data for the current year, what is the accountsreceivable turnover?

Net sales on account during year	$500,000
Cost of merchandise sold during year	300,000
Accounts receivable, beginning of year	45,000
Accounts receivable, end of year	35,000
Inventory, beginning of year	90,000
Inventory, end of year	110,000

a.	12.5 =$500,000/ 40000 = 12.5 (45,000+35,000)/2 =40,000
b.	11.1
c.	10.0
d.	14.3

9. Based on thefollowing data for the current year, what is the inventoryturnover?

Net sales on account during year	$500,000
Cost of merchandise sold during year	330,000
Accounts receivable, beginning of year	45,000
Accounts receivable, end of year	35,000
Inventory, beginning of year	90,000
Inventory, end of year	110,000

a.	3.3 $330,000 /100,000 =3.3
b.	8.3
c.	3.7
d.	3.0

10. The primary advantages of theaverage rate of return method are its ease of computation and thefact that:

a.	it is especially useful to managers whose primary concern isliquidity
b.	there is less possibility of loss from changes in economicconditions and obsolescence when the commitment is short-term
c.	it emphasizes the amountof income earned over the life of the proposal
d.	rankings of proposals are necessary

11. The expected average rate ofreturn for a proposed investment of $800,000 in a fixed asset, witha useful life of four years, straight-line depreciation, noresidual value, and an expected total net income of $240,000 forthe 4 years, is:

a.	30%
b.	15%
c.	60%
d.	7.5%

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ACC10007 Lecture Notes - Lecture 6: Gross Profit, Asset Turnover, Asset

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