Question

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A firm has been experiencing low profitability in recent years. Perform an analysis of the firm's financial position using the DuPont equation. The firm has no lease payments but has a $2 million sinking fund payment on its debt. The most recent industry average ratios, and Ferri's financial statements, are as follows: INDUSTRY AVERAGE RATIOS 3% Current ratio Debt/total assets Times interest earned EBITDA coverage Sales/inventory Days sales outstandinge Sales/fixed assets 30% Sales/total assets 7 Profit margin on sales Return on total assets 10 Return on common equity 24 days 9% 12.86% Calculation is based on a 365-day year. PROBLEM Ch4/Q23 Balance Sheet as of December 31, 2001 (Millions of Dollars) $ 45 45 Cash Net receivables Inventories Total current assets $78 66 159 $303 21 $111 24 Accounts payable Notes payable Other current liabilities Total current liabilities Long-term debt Total liabilities Common stock Retained earnings Total stockholders' equity Total liabilities and equity $135 225 78 Gross fixed assets Less depreciation Net fixed assets Total assets 114 - 201 $147 $450 $315 $450

Answer 1

a. Ratios Current Ratio b. Du Pont Equation: Total Current Assets Net Profit Total Sales x Total Assets 303 2.73 or, Total Sales Total Curr Liab 111.0 Total Assets Equity Debt/Total Assets = 27.0 x 24.0 or, 5% Long Term Debt 795.0 x 450 Total Assets 450 795.0 450 315.0 0.06 x 1,43 Times Interest Earned EBIT 49.5 or, 0.09 11 Interest Expense 4.5 EBITDA Coverage= EBITDA Except for remaining ratios which are better than or at par Industry Average 61.5 2.16 Long Term Debts and Interest 24+4.5 Co.'s EBITDA Coverage is poor Inventory Turnover Ratio is half the industry standards Inventory Turnover Ratio Net Sales 5.00 Day's Sales Outstanding is alarmingly high 795.0 and ROE is less in comparison to industry Average Average Inventory 159 Taken Inventories only as avergae Inventory not possible here. Generally COGS is taken but as industry Averages are shown as Sales/Inventory, so taking same Day Sales Outstanding 73.00 days 365 =73.00 Inventory Turnover Ratio Fixed Assets Turnover Net Sales 795.0 5.41 = Net Fixed Assets 147 Total Assets Turnover Net Sales 795.0 1.77 Total Assets 450 135.0= Profit Margin on Sales 17% Also called as Gross Profit Ratio Gross Profit Net Sales 795.0

Return on Total Assets 49.5= EBIT 11% Total Assets 450 Return on Common Equity Net Income Total Stockholder's Equity 27.0 9% 315.0

C. Company's collection team needs to buckle up so that Operating Cycle can be shortened. Despite having higher Gross Profit Ratio company has a lower ROE, which is alarming d. As collection cycle is poor company might be using more short term debt to meets its working capital requirement Notes Payable can be advised to be reduced