Question

Connor Ltd. is a large private company owned by the Connor family. It operates a manufacturing business in northern Ontario. It has applied to the ICB bank for a new loan of $100 million to expand its manufacturing facilities.

You are a financial analyst with ICB. You have just been given an assignment to analyze Connor’s Year 7 financial statements and to identify any concerns about Connor’s performance and financial condition.

The following are financial statements for Connor Ltd. for Year 7:

BALANCE SHEETS (In 000s)
	Year 7			Year 6
Asset
Cash	$	13,000		$	34,000
Accounts receivable		209,000			198,000
Inventory		326,000			316,000
Property, plant and equipment		308,000			266,000
	$	856,000		$	814,000
Liabilities and Shareholders’ Equity
Accounts payable	$	206,000		$	212,600
Other accrued liabilities		68,000			56,400
Bonds payable		196,000			196,000
Common shares		174,000			186,000
Retained earnings		212,000			171,000
	$	856,000		$	822,000

INCOME STATEMENT (In 000s)
	Year 7				Year 6
Sales	$	1,940,000			$	1,890,000
Cost of goods sold		(1,366,000	)			(1,286,000	)
Gross margin		574,000				604,000
Depreciation expense		(46,000	)			(40,000	)
Other expenses		(412,000	)			(431,000	)
Income tax expense		(62,000	)			(69,000	)
Net income	$	54,000			$	64,000

Additional Information

• Connor uses the straight-line method when depreciating its property, plant, and equipment.

• Interest expense was $10,000 for Year 6 and Year 7.

Required:

(a) Convert Connor’s financial statements for both Year 7 and Year 6 into common-sized financial statements using: (Enter your answers in thousands. For E.g., 1,000,000 should be entered as 1,000. Input all amounts as positive values. Omit $ sign in your response. Round the final answer to the nearest whole dollar.)

(i) Vertical analysis

BALANCE SHEETS
	Year 7	Year 6
Asset
Cash	$		$
Accounts receivable
Inventory
Property, plant and equipment
	$		$
Liabilities and Shareholders’ Equity
Accounts payable	$		$
Other accrued liabilities
Bonds payable
Common shares
Retained earnings
	$		$

INCOME STATEMENT
	Year 7	Year 6
Sales	$		$
Cost of goods sold
Gross margin
Depreciation expense
Other expenses
Income tax expense
Net income	$		$

(ii) Horizontal analysis

BALANCE SHEETS
	Year 7	Year 6
Asset
Cash	$		$
Accounts receivable
Inventory
Property, plant and equipment
	$		$
Liabilities and Shareholders’ Equity
Accounts payable	$		$
Other accrued liabilities
Bonds payable
Common shares
Retained earnings
	$		$

INCOME STATEMENT
	Year 7	Year 6
Sales	$		$
Cost of goods sold
Gross margin
Depreciation expense
Other expenses
Income tax expense
Net income	$		$

(b) Identify any financial statement items that seem to be peculiar relative to expectations. (You may select more than one answer. Single click the box with the question mark to produce a check mark for a correct answer and double click the box with the question mark to empty the box for a wrong answer.)

• Income tax expenseunanswered
• Salesunanswered
• Cost of goodsunanswered
• Bonds payableunanswered
• Accounts payableunanswered
• Accrued liabilitiesunanswered
• Retained earningsunanswered
• Gross marginunanswered
• Accounts receivableunanswered
• Equipmentunanswered
• Depreciation expenseunanswered
• Inventoryunanswered
• Income tax expenseunanswered

(c) Calculate the current ratio, debt-to-equity ratio, return on assets, and return on equity for both Year 7 and Year 6. (Round the final answers for all the ratios to two decimal places. Omit $ sign in your response.)

	Year 7			Year 6
	$			$
Current ratio		=			=
	$			$
	$			$
Debt to equity		=			=
	$			$
	$			$
Return on assets		=	%		=	%
	$			$
	$			$
Return on equity		=	%		=	%
	$			$

(d) Determine whether Connor’s liquidity, solvency, and profitability have improved or deteriorated from Year 6 to Year 7.

Liquidity	(Click to select)  Deteriorated  Improved  Remains the same
Solvency	(Click to select)  Deteriorated  Improved  Remains the same
Profitability	(Click to select)  Deteriorated  Improved  Remains the same

Answer 1

(i) Vertical analysis 39 40 When we calculate the Vertical analysis of Balance Sheet we divide the each and every figure by Total assets 41 42 BALANCE SHEETS 43 Year 6 Year 7 44 Asset 45 Cash 13000 1.52% 4.18% 46 34000 Accounts receivable 209000 24.42% 24.32% 47 198000 Inventory 38.08% 38.82% 48 326000 316000 Property, plant and equipment 35.98% 32.68% 49 308000 266000 100.00% Total Assets 100.00% 50 856000 814000 51 Liabilities and Shareholders' Equity 52 Accounts payable 206000 24.07% 26.12% 53 212600 Other accrued liabilities 68000 7.94% 6.93% 54 56400 Bonds payable 22.90% 196000 24.08% 55 196000 Common shares 20.33% 22.85% 56 174000 186000 Retained earnings 212000 24.77% 20.02% 57 163000 Total Liabilities and Shareholders' Equity 100.00% 100.00% 58 856000 814000 59 Note; 60 As the balance sheet for year 6 is not tallied there is difference of 8000 in total of assets and liabilities I have reduced the amount of retained earnings by 8000 to tally it. If there is change in any there figure,Please let me know 61 62

INCOME STATEMENT 64 65 In Income Statement we divide each and every figure with Sales 66 67 Year 7 Year 6 68 100.00% Sales 1890000 100.00% 69 1940000 Cost of goods sold Gross margin Depreciation expense Other expenses -70.41% -1286000 -68.04% 70 -1366000 574000 29.59% 604000 31.96% 71 -2.37% -2.12% 72 -46000 -40000 -21.24% -431000 -22.80% 73 -412000 -3.65% Income tax expense -3.20% 74 -62000 -69000 Net income 54000 2.78% 3.39% 75 64000 76

(ii) Horizontal analysis 77 78 Under Horizontal Analysis difference of two years is taken and then that difference is divided by previous year i.e year 6 figures. 79 80 BALANCE SHEETS 81 % Change (C)/(B) Year 7 Year 6 Change 82 (A-B)= ( C ) (A) (B) 83 Asset 84 Cash -61.76% 85 13000 34000 -21000 Accounts receivable 11000 5.56% 86 209000 198000 Inventory Property, plant and equipment 316000 3.16% 87 326000 10000 308000 266000 15.79% 88 42000 Total Assets 856000 814000 42000 5.16% 89 90 Liabilities and Shareholders' Equity 91 Accounts payable 92 206000 212600 -6600 -3.10% Other accrued liabilities 68000 20.57% 93 56400 11600 Bonds payable 196000 0.00% 94 196000 Common shares 174000 -6.45% 95 186000 -12000 Retained earnings 212000 30.06% 96 163000 49000 Total Liabilities and Shareholders' Equity 42000 5.16% 97 856000 814000 98

INCOME STATEMENT 99 100 Year 6 % Change Year 7 Change 101 (A-B)= ( C ) (C)/(B) 102 (A) (B) Sales 2.65% 103 1940000 1890000 50000 104 Cost of goods sold Gross margin -1366000 -80000 6.22% -1286000 105 604000 -4.97% 574000 -30000 106 Depreciation expense -46000 -6000 15.00% -40000 Other expenses -412000 19000 -4.41% 107 -431000 Income tax expense 108 -62000 -69000 7000 -10.14% 109 Net income 64000 -15.63% 54000 -10000 110 111