Question

A large loss occurred in 2017 at Transpire Inc in Canterbury, rather than the expected profit. As a result, its stakeholders are concerned about the firm’s performance.

You are hired as the new Chief Financial Officer and are given the task of getting the company back into a sound financial position. Transpire’s 2016 and 2017 balance sheets and income statements, together with projections for 2018, are shown in the following tables. The tables also show the 2016 and 2017 financial ratios, along with industry average data. The 2018 projected financial statement data represent the best projection for 2018 results, assuming that some new financing is arranged to get the company “over the hump” and back on track.

You must prepare an analysis of where the company is now, what it must do to regain its financial health, and what actions should be taken.

Table 1. Transpire Inc. Balance Sheets

Assets

2016

2017

2018e

($‘000)

($‘000)

($‘000)

Cash

8,000

7,482

15,000

Short-Term Investments

48,600

20,000

71,632

Accounts Receivable

351,200

652,160

878,000

Inventories

715,200

1,287,360

1,816,480

Total Current Assets

1,123,000

1,967,002

2,781,112

Gross Fixed Assets

491,000

1,202,950

1,220,000

Less: Accumulated Depreciation

146,200

263,160

383,160

Net Fixed Assets

344,800

939,790

836,840

Total Assets

1,467,800

2,906,792

3,617,952

	Liabilities And Equity	2016		2017			2018e
			($‘000)		($‘000)		($‘000)
	Accounts Payable	145,600		324,000		359,800
	Notes Payable	200,000		701,800		301,000
	Accruals	135,000		284,960		380,000
	Total Current Liabilities	480,600		1,310,760		1,040,800
	Long-Term Debt	323,432		1,000,000		600,000
	Common Stock	460,000		536,800		1,680,936
	Retained Earnings	203,768		59,232		296,216
	Total Equity	663,768		596,032		1,977,152
	Total Liabilities And Equity	1,467,800		2,906,792		3,617,952

Table 2. Transpire Inc. Income Statements

	2016			2017		2018e
		($‘000)		($‘000)		($‘000)
Sales	4,432,000			5,834,400	8,035,600
COGS excluding depreciation	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	1,209,100			17,440	1,502,640
Interest Expense	62,500			176,000	80,000
EBT	1,146,600		-	158,560	1,422,640
Taxes (40%)		458,640		-		569,056
Net Income	687,960		-	158,560	853,584

Table 3 Transpire Inc. other data

Stock Price ($)	85.00		60.00	78.00
Shares (units)	100,000		100,000	250,000
Earnings per Share ($)	6.88	-	1.59	3.41
Dividend per Share ($)	0.22		-	0.22
Tax Rate (%)	40.00		40.00	40.00
Book Value per Share ($)	6.638		5.960	7.909
Lease Payments ($)	40,000		40,000	40,000

Table 4 Transpire Inc. Ratio Analysis

	2016		2017	2018e	Industry
					Average
Current Ratio (X)	2.34		1.50	2.67	2.00
Quick Ratio (X)	0.85		0.52	0.93	1.00
Inventory Turnover (X)	4.00		3.87	3.19	5.00
Average Age of Inventory (days)	91.15		94.35	114.31	45.00
Average Collection Period (days)	28.92		40.80	39.88	30.00
Average Payment Period (days)	18.56		23.75	22.64	60.00
Fixed Asset Turnover (X)	12.85		6.21	9.60	8.00
Total Asset Turnover (X)	3.02		2.01	2.22	2.50
Debt Ratio (X)	0.55		0.79	0.45	0.35
Debt to Equity Ratio (X)	1.21		3.88	0.83	0.80
Times Interest Earned (X)	19.35		0.10	18.78	25.00
Gross Profit Margin (%)	35.38		14.64	27.82	28.00
Operating Profit Margin (%)	27.28		0.30	18.70	17.00
Net Profit Margin (%)	15.52	-	2.72	10.62	12.00
Return on Total Assets (%)	46.87	-	5.45	23.59	30.00
Return on Equity (%)	103.64	-	26.60	43.17	35.00
Price/Earnings (P/E) Ratio (X)	12.36	-	37.84	22.84	10.00
Market/Book Value Ratio (X)	12.81		10.07	9.86	7.00

Required:

Prepare a financial statement analysis of Transpire Inc. Your analysis should cover each of the following:

1. Why are ratios useful? Which three groups uses ratio analysis and for what reasons?

2.Transpire’s liquidity position (using current and quick ratios) in 2016, 2017, and projected for 2018. Compare it to the industry averages. What actions should be taken to improve its liquidity position?

3.Transpire’s operating and utilisation of assets projected (using inventory turnover, average age of inventory, average collection period, average payment period, fixed asset turnover, and total asset turnover) in 2016, 2017, and projected for 2018. Compare it to the industry averages. What actions should be taken to improve its operating and utilisation of assets position?

4.Transpire’s financial leverage (using debt ratio, debt to equity ratio, and times-interest-earned) in 2016, 2017, and projected for 2018. What actions should be taken to improve its financial leverage position?

5.Transpire’s profitability (using gross profit margin, operating profit margin, net profit margin, return on assets (ROA), and return on equity (ROE)) in 2016, 2017, and projected for 2018. Compare it to the industry averages. What actions should be taken to improve its profitability position?

6.Analyse the projected 2018 price/earnings ratio and market/book value ratio. Do these ratios indicate that investors are expected to have a high or low opinion of the company? Explain your answers

7. Discuss the major strengths and weaknesses of the firm using the results of Du Pont analysis as projected for 2018

8.Perform a common size analysis and percent change analysis. What do these analyses tell you about Transpire? What actions should be taken to improve its overall financial position?

9.If one uses the industry average P/E ratio to estimate the firm’s share price in 2018, how much should it be? Comment on this method.

10.What are some potential problems and limitations of financial ratio analysis?