Dave Schonhardt, president of Schonhardt Industries, wishes to issue a press release to bolster his company’s image and maybe even its stock price, which has been gradually falling. As controller, you have been asked to provide a list of 20 financial ratios along with some other operating statistics relative to Schonhardt Industries’ first quarter financials and operations. Two days after you provide the ratios and data requested, Steven Verlin, the public relations director of Schonhardt, asks you to prove the accuracy of the financial and operating data contained in the press release written by the president and edited by Steven. In the press release, the president highlights the sales increase of 25% over last year’s fi rst quarter and the positive change in the current ratio from 1.5:1 last year to 3:1 this year. He also emphasizes that production was up 50% over the prior year’s first quarter. You note that the press release contains only positive or improved ratios and none of the negative or deteriorated ratios. For instance, no mention is made that the debt to assets ratio has increased from 35% to 55%, that inventories are up 89%, and that while the current ratio improved, the acid-test ratio fell from 1:1 to 0.5:1. Nor is there any mention that the reported profit for the quarter would have been a loss had not the estimated lives of Schonhardt’s plant and machinery been increased by 30%. Steven emphasizes, “The prez wants this release by early this afternoon.” Instructions (a) Who are the stakeholders in this situation? (b) Is there anything unethical in president Schonhardt’s actions? (c) Should you as controller remain silent? Does Steven have any responsibility?
Dave Schonhardt, president of Schonhardt Industries, wishes to issue a press release to bolster his company’s image and maybe even its stock price, which has been gradually falling. As controller, you have been asked to provide a list of 20 financial ratios along with some other operating statistics relative to Schonhardt Industries’ first quarter financials and operations. Two days after you provide the ratios and data requested, Steven Verlin, the public relations director of Schonhardt, asks you to prove the accuracy of the financial and operating data contained in the press release written by the president and edited by Steven. In the press release, the president highlights the sales increase of 25% over last year’s fi rst quarter and the positive change in the current ratio from 1.5:1 last year to 3:1 this year. He also emphasizes that production was up 50% over the prior year’s first quarter. You note that the press release contains only positive or improved ratios and none of the negative or deteriorated ratios. For instance, no mention is made that the debt to assets ratio has increased from 35% to 55%, that inventories are up 89%, and that while the current ratio improved, the acid-test ratio fell from 1:1 to 0.5:1. Nor is there any mention that the reported profit for the quarter would have been a loss had not the estimated lives of Schonhardt’s plant and machinery been increased by 30%. Steven emphasizes, “The prez wants this release by early this afternoon.” Instructions (a) Who are the stakeholders in this situation? (b) Is there anything unethical in president Schonhardt’s actions? (c) Should you as controller remain silent? Does Steven have any responsibility?
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You have just been hired as a loan officer at San Diego StateBank. Your supervisor has given you a file containing a requestfrom Mobile Company, a manufacturer of auto components, for a$1,000,000 five-year loan. Financial statement data on the companyfor the last two years are given below: |
Mobile Company | ||||
Comparative Balance Sheet | ||||
This Year | Last Year | |||
Assets | ||||
Current assets: | ||||
Cash | $ | 289,600 | $ | 369,400 |
Marketablesecurities | 0 | 111,000 | ||
Accounts receivable,net | 928,000 | 631,000 | ||
Inventory | 1,348,000 | 748,000 | ||
Prepaid expenses | 95,800 | 80,800 | ||
Total currentassets | 2,661,400 | 1,940,200 | ||
Plant and equipment,net | 3,447,800 | 3,103,400 | ||
Total assets | $ | 6,109,200 | $ | 5,043,600 |
Liabilitiesand Stockholdersâ Equity | ||||
Liabilities: | ||||
Current liabilities | $ | 1,269,200 | $ | 759,600 |
Bonds payable | 1,304,000 | 1,104,000 | ||
Totalliabilities | 2,573,200 | 1,863,600 | ||
Stockholders'equity: | ||||
Preferred stock, 8%, $30par value | 600,000 | 600,000 | ||
Common stock, $40 parvalue | 2,000,000 | 2,000,000 | ||
Retained earnings | 936,000 | 580,000 | ||
Total stockholders'equity | 3,536,000 | 3,180,000 | ||
Total liabilitiesand stockholders' equity | $ | 6,109,200 | $ | 5,043,600 |
Mobile Company | ||||
Comparative Income Statement and Reconciliation | ||||
This Year | Last Year | |||
Sales | $ | 5,472,000 | $ | 4,292,000 |
Cost of goodssold | 4,106,000 | 3,196,000 | ||
Gross margin | 1,366,000 | 1,096,000 | ||
Selling andadministrative expenses | 542,000 | 522,000 | ||
Net operatingincome | 824,000 | 574,000 | ||
Interestexpense | 134,000 | 114,000 | ||
Net income beforetaxes | 690,000 | 460,000 | ||
Income taxes(30%) | 207,000 | 138,000 | ||
Net income | 483,000 | 322,000 | ||
Dividends paid: | ||||
Preferred stock | 48,000 | 48,000 | ||
Common stock | 79,000 | 55,000 | ||
Total dividendspaid | 127,000 | 103,000 | ||
Net incomeretained | 356,000 | 219,000 | ||
Retained earnings,beginning of year | 580,000 | 361,000 | ||
Retained earnings,end of year | $ | 936,000 | $ | 580,000 |
Loretta Young, who just two yearsago was appointed president of Mobile Company, admits that thecompany has been âinconsistentâ in its performance over the pastseveral years. But Young argues that the company has its costsunder control and is now experiencing strong sales growth, asevidenced by the more than 27% increase in sales over the lastyear. Young also argues that investors have recognized theimproving situation at Mobile Company, as shown by the jump in theprice of its common stock from $50.00 per share last year to $54.00per share this year. Young believes that with strong leadership andwith the modernized equipment that the $1,000,000 loan will enablethe company to buy, profits will be even stronger in thefuture. |
Anxious to impress yoursupervisor, you decide to generate all the information you canabout the company. You determine that the following ratios aretypical of companies in Mobileâs industry: |
Current ratio | 2.3 | |
Acid-test ratio | 1.2 | |
Average collectionperiod | 31 | days |
Average saleperiod | 60 | days |
Return onassets | 9.5 | % |
Debt-to-equityratio | 0.65 | |
Times interestearned | 5.7 | |
Price-earningsratio | 10 | |
Required: |
1. | You decide first to assess the rate of return that the companyis generating. Compute the following for both this year and lastyear: |
a. | The return on total assets. (Total assets at the beginning oflast year were $4,384,000.) (Round your percentage answersto 1 decimal place i.e., 0.123 is considered as 12.3.) |
b. | The return on common stockholdersâ equity. (Stockholders' equityat the beginning of last year totaled $4,519,185. There has been nochange in preferred or common stock over the last two years.)(Do not round your intermediate calculations. Round yourpercentage answers to 1 decimal place i.e., 0.123 is considered as12.3.) |
c. | Is the companyâs financial leverage positive or negative? |
2. | You decide next to assess the well-being of the commonstockholders. For both this year and last year, compute: |
a. | The earnings per share. (Round your answers to 2 decimalplaces.) |
b. | The dividend yield ratio for common stock. (Round yourintermediate calculations to 2 decimal places and and yourpercentage answers to 1 decimal place i.e., 0.123 is considered as12.3.) |
d. | The price-earnings ratio. (Round your intermediatecalculations to 2 decimal places and final answers to 1 decimalplace.) |
e. | The book value per share of common stock. (Round youranswers to 2 decimal places.) |
f. | The gross margin percentage. (Round your percentageanswers to 1 decimal place i.e., 0.123 is considered as12.3.) |
3. | You decide, finally, to assess creditor ratios to determine bothshort-term and long-term debt paying ability. For both this yearand last year, compute: |
a. | Working capital. |
b. | The current ratio.(Round your answers to 2 decimal places.) |
c. | The acid-test ratio.(Round your answers to 2 decimal places.) |
e. | The average sale period. (The inventory at the beginning of lastyear totaled $650,000.) (Use 365 days in a year. Round yourintermediate calculations to 2 decimal and final answers to thenearest whole number.) |
f. | The debt-to-equity ratio.(Round your answers to 2 decimal places.) |
g. | The times interest earned.(Round your answers to 1 decimal place.) |