Financial Reporting and Analysis - Assignment Example

Running Head: FIANANCIAL REPORTING AND ANALYSIS Case 6 steel making a)Working capital=current assets –Current Liabilities $2,002.8-$734.2=$1,268.6 b) LIFO reserve account records LIFO reserve which is the difference between the values of inventory accounting cost calculated using FIFO method and the one that is calculated using LIFO method. The LIFO reserve calculation in inflationary environment where the value of FIFO is higher than the value of LIFO inventory is LIFO Reserve=valuation by FIFO –valuation by LIFO. In a deflationary environment, LIFO Reserve has a possibility of having a negative balance caused by LIFO inventory valuation being higher than its FIFO valuation. LIFO reserve indicates the value which a business entity taxable income as a result of using LIFO method has subsequently been deferred. The balance on LIFO reserve account in 2008 is $524.4 c) If LIFO reserve account was added to the inventory at LIFO, the resulting inventory at the end of 2008 would be $1,346.8. I would consider inventory under LIFO to be more realistic. d) Use of LIFO or FIFO during price increase results to an inflated amount of income. During price decreases, it results to lower income. During constant prices, a normal income results when FIFO or LIFO is used. e) Use of LIFO or FIFO results to inflated cash flows during price increase, a lower cash flow during price decreases and a normal cash flows during normal costs assuming no increase or decrease in inventory quantity. This is a similar case in both pre-tax and after-tax cash flows. g) LIFO layer is an excess of the inventory at base of the current period and the inventory base of previous period LIFO liquidation occurs when the purchase are less than the sales that the inventory costs which are older are utilized in determining the costs of the goods sold. During the periods of rising and LIFO valuation is used, LIFO liquidation that occurs will result to a relatively low COGAS and an amount of income that is inflated. Case 6-4 Diversified Technology. (a)1)Day sales receivables =net sales/365 In 2007 $24,462/365 = $67.019 In 2008 $25,269/365 = $69.23 2) Accounts Receivable turnover = credit sales (net)/average accounts receivables Average account receivables= {($3195+$85) + ($3362+$75)}/2 = $3358.50 Receivable turnover =25269/3358.50 = 7.524 3) Day sales in inventory = number of days in a year (365)/inventory turnover ratio In 2008: 365/8.3867=43.521 In 2007: 365/8.577=42.555 4) Inventory turnover ratio=sales/inventory 2008: $25269/ 3013 =8.3867 2007: $24462/2852 =8.577 5) Working capital = current assets - current liabilities In 2008: $9598- $5,839 = $3759 1n 2007: $9838 - $5,362 = $4476 6) Current ratio = current assets/current liabilities In 2008 = $9598/$5839= 1.644 In 2007 $ 9,838 /$5362 = 1.835 7) Acid test ratio = (current assets – inventory)/current liabilities In 2008: ($9598-$3013)/$5839 = 1.179 In 2007 : (9838-$2852)/$5362 = 1.303 b) Comment on each ratio Day sales receivables indicate the total average number of days taken in collection of all the accounts receivable. It takes around 67 and 69 days in both years. Accounts Receivable turnover is seven as per the calculations. A lower the turnover means a longer the receivables are being held thus the company have an average turnover rate. Day sales in inventory are 43.5 and 42.5 in 2008 and 2007 respectively. It shows number of days in average to sell average inventory in a specified period that is obviously one year. The company is in a position to meet its current obligations within the two years because it had a positive working capital and this shows the company in short term, is healthy. The current ratio of 2:1 can be regarded as acceptable. The company current ratio is acceptable since it can be approximated to 2:1 in the two years. Acid test ratio indicates that the firm already has short term assets that are enough to cover the liabilities that are immediate because it is more than one in both years. c) Comment on liquidity: the current ratio is commonly put into use in measuring liquidity of a company. It gives the solution as to whether a company can be able to offset its liabilities that are short term with the assets that are short term. The company is in a better liquidity position however; other how quickly the assets are convertible to cash is a factor to be considered through the cycle called cash conversion. Case 7-7 a)Net Pension expense was $(84.6), $(72.1), and $(83.1) for year 2008, 2007, and 2006. The operating revenue was $ 965.3, $888.4 and $870.4 for the years 2008, 2007, and 2006 respectively. The income registered was higher because the net pension expense reduces the taxable income hence a lower income tax and a higher income. b) Net Pension expense was $(84.6), $(72.1), and $(83.1) for year 2008, 2007, and 2006 respectively. Income before income tax was $1504.6, $1403.6, and $1240.0 in year 2008, 2007 and 2006 respectively. The income registered was less. This was because this expense is deductable for tax purposes. c) Benefits obligations at the end of 2008 and 2007 are $2009.0 and $ 2342.0. The value of planned assets at the end of 2008 and 2007 are $1512.7 and 2295.6 respectively. The benefit obligations are higher than the value of the planned assets in both years. d) Safeway’s defined benefit, noncontributory retirement plans are underfunded. This is because the firm results to a positive pension expense. The fair value of the planned assets was less than the projected benefit obligation by $496.3 and $46.4 in years 2008 and 2007 respectively. This was the net amount recognized in the financial position statement as total liability. QUESTION 6-2 There are some possible reasons why a firm finds it difficult to meet its payroll and account payable. Mr. Jones should be informed that this will summarize the debt paying ability of the organization. The ability to pay Debt is determined and influenced by the status of cash flow. Cash flow problem can cause payroll and accounts payable meeting to be difficult. Cash flow problem can be due to accounts receivables that are slow may be because of methods of collection that are poor. Expenditures for business operations that are excessive can also cause difficulties in meeting accounts payable and payroll. Examples are payment of interests from debts in situations where leverage is high. There may be high growth rates that can cause a business to experience cash flow problems although the business may be on the rise. The profit margins may not accumulate funds that are sufficient in maintaining inventory that is needed to maintain a certain level sales. Question 6-19 a)The ideal number of inventory day’s sales varies from industry to industry. It shows average number of days to sell average inventory in a specified period of one year and it is usually determined by the company. b) Generally, a company may not want many days’ sales in inventory because it would mean longer period to sell average inventory and thus lower income. Day sales in inventory are high when the inventory turnover is low. c) A number of day’s sales in inventory that is lower are better than a number that is higher. This is because more inventories will be sold to realize higher profit margins for the company. P 6-1 (Current assets-inventory)/current liabilities = 2 therefore, 2current liabilities=current assets –inventory current assets/current liabilities=2.5 therefore, current assets=2.5 current liabilities 2 current liabilities=2.5 current liabilities – inventory therefore, Inventory = 0.5 liabilities Inventory =0.5*$400000 = $200,000 Inventory turnover = cost of goods sold/Average Inventory Cost of goods sold=inventory turnover* average inventory = $200,000*3 = $600, 000 P 6-12 Total current assets Totasl current liabilities Net working capital Current ratio Cash acquired through common stock issuance + 0 + + Merchandise sold for cash + 0 + + A fixed asset is sold more than book value + 0 + + Payment for previous purchases made - - 0 0 A cash dividends is declared and paid - 0 - - A stock divided is declared and paid - 0 - - Cash is obtained through long term loan + 0 + + A profitable firm increases its fixed assets dep. Allowance account 0 0 0 0 Current operating expenses are paid - 0 0 - Ten year notes are issued to pay off accounts payable - - 0 0 Accounts receivable are collected + - + + |Equipments is purchased with short term notes - 0 - - Merchandise is purchased on credit + + 0 0 The estimated tax payables are increased 0 0 0 0 Marketable securities are sold below cost - 0 - - P 7-9 i) Times Interest Earned Ratio = (Net Income +Interest Expense+ income Tax Expense)/Interest Expense Allen company: ($43000+$42 000+ $10 000)/$10 000 = 9.5 Barker Company: ($73 000+$65000+ $32 000) = 5.3125 ii) Debt Ratio= total debts/total assets Allen: $100 000/$356 000 = 0.28*100=28% Barker = $410 000/$985 000 = 0.416*100= 41.6% ii) Debt Equity ratio = total liabilities (Debt) /shareholders equity Allen: $100 000/$100000=1*100 = 100% Barker: $410 000/$280 000 = 1.46*100 = 146% iii) Debt to tangible net worth = total debts/tangible net worth Tangible net worth = Total assets – intangible assets – Liabilities Allen: $100 000/$185 000 = 0.54 Barker: $410 000$390 000 = 1.051 b) Barker is not in a position to take more debt because its debt ratio of 41.6% exceeds the industrial average of 40.3% c) Allen has a better Long Term debt position because it is far much lower than the industrial averages. References: Gibson H.Charles. (2008). Financial Reporting and Analysis. 11th Edition. Cengage Learning Read More