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Chapter 13 Mini Case

The first part of the case, presented in Chapter 3, discussed the situation that Computron Industries was in after and
expansion program. Thus far, sales have not been up to the forecasted level, cost have been higher than were projected, and a
large loss occurred in 2004, rather than the expected profit. As a result, its managagers, directors, and investors are
concerned about the firm's survival.
Donna Jamison was brought in as an assistant to Fred Campo, Computron's chairman, who had the task of getting the
company back into a sound financial position. Computron's 2003 and 2004 balance sheets and income statements, together
with projections for 2005, are shown in the following tables. Also, the tables show the 2003 and 2004 financial ratios along
with industry average data. The 2005 projected financial statement data represent Jamison's and Campo's best guess for
2005 results, assuming that some new financing is arranged to get the company "over the hump."
Input Data:
2003
$8.50
100,000
40%
$40,000

2004
$6.00
100,000
40%
$40,000

2005
$12.17
250,000
40%
$40,000

Assets
Cash and equivalents
Short-term investments
Accounts receivable
Inventories
Total current assets
Gross Fixed Assets
Less Accumulated Dep.
Net Fixed Assets
Total Assets

2003
$9,000
$48,600
$351,200
$715,200
$1,124,000
$491,000
$146,200
$344,800
$1,468,800

2004
$7,282
$20,000
$632,160
$1,287,360
$1,946,802
$1,202,950
$263,160
$939,790
$2,886,592

2005
$14,000
$71,632
$878,000
$1,716,480
$2,680,112
$1,220,000
$383,160
$836,840
$3,516,952

Liabilities and equity

Accounts payable
Notes payable
Accruals
Total current liabilities
Long-term bonds
Total liabilities
Common stock (100,000 shares)
Retained earnings
Total common equity
Total liabilities and equity

$145,600
$200,000
$136,000
$481,600
$323,432
$805,032
$460,000
$203,768
$663,768
$1,468,800

$324,000
$720,000
$284,960
$1,328,960
$1,000,000
$2,328,960
$460,000
$97,632
$557,632
$2,886,592

$359,800
$300,000
$380,000
$1,039,800
$500,000
$1,539,800
$1,680,936
$296,216
$1,977,152
$3,516,952

2003
$3,432,000
$2,864,000
$340,000
$18,900
$3,222,900
$209,100
$62,500
$146,600
$58,640
$87,960
$0.880
$0.220
$6.638

2004
$5,834,400
$4,980,000
$720,000
$116,960
$5,816,960
$17,440
$176,000
-$158,560
-$63,424
-$95,136
($0.951)
$0.110
$5.576

2005
$7,035,600
$5,800,000
$612,960
$120,000
$6,532,960
$502,640
$80,000
$422,640
$169,056
$253,584
$1.014
$0.220
$7.909

Year-end common stock price

Year-end shares outstanding
Tax rate
Lease payments
Balance Sheets

Income Statements

Net sales
Costs of Goods Sold
Other Expenses
Depreciation
Total Operating Cost
Earnings before interest and taxes (EBIT)
Less interest
Earnings before taxes (EBT)
Taxes (40%)
Net Income before preferred dividends
EPS
DPS
Book Value Per Share

Jamison examined monthly data for 2004 (not given in the case), and she detected an improving pattern during the year.
Monthly sales were rising, costs were falling, and large losses in the early months had turned to a small profit by December.
Thus, the annual data look somewhat worse than final monthly data. Also, it appears to be taking longer for the advertising
program to get the message across, for the new sales offices to generate sales, and for the new manufacturing facilities to
operate efficiently. In other words, the lags between spending money and deriving benefits were longer than Computron's
managers had anticipated. For these reasons, Jamison and Campo see hope for the companyprovided it can survive in the
short run.
Jamison 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. Your assignment is to help her answer the following questions. Provide clear explanations, not yes
or no answers.
a. Why are ratios useful? What are the five major categories of ratios? Answer: See Chapter 13 Mini Case Show
b. (1.) Calculate the 2005 current and quick ratios based on the projected balance sheet and income statement data.
Calculated Data: Ratios
Liquidity ratios
Current Ratio
Quick Ratio

2003

2004

2005

Industry
Average

2.33
0.85

1.46
0.50

2.58
0.93

2.70
1.00

(2.) What can you say about the company's liquidity position in 2003, 2004, and as projected for 2005? We often think of
ratios as being useful (1) to managers to help run the business, (2) to bankers for credit analysis, and (3) to stockholders for
stock valuation. Would these different types of analysts have an equal interest in the liquidity ratios? Answer: See Chapter
13 Mini Case Show

c. Calculate the 2005 inventory turnover, days sales outstanding (DSO), fixed assets turnover, operating capital requirement,
and total assets turnover. How does Computron's utilization of assets stack up against other firms in its industry?
Industry
Asset Management ratios
2003
2004
2005
Average
Inventory Turnover
4.80
4.53
4.10
6.10
Days Sales Outstanding
37.4
39.5
45.5
32.00
Fixed Asset Turnover
9.95
6.21
8.41
7.00
Total Asset Turnover
2.34
2.02
2.00
2.50
d. Calculate the 2005 debt, times-interest-earned, and EBITDA coverage ratios. How does Computron compare with the
industry with respect to financial leverage? What can you conclude from these ratios?
Industry
Debt Management ratios
2003
2004
2005
Average
Debt Ratio
54.8%
80.7%
43.8%
50.0%
Times Interest Earned
3.35
0.10
6.28
6.20
EBITDA Coverage Ratio
2.61
0.81
5.52
8.00
e. Calculate the 2005 profit margin, basic earning power (BEP), return on assets (ROA), and return on equity (ROE). What
can you say about these ratios?
Industry
Profitability ratios
2003
2004
2005
Average
Profit Margin
2.6%
-1.6%
3.6%
3.6%
Basic Earning Power
14.2%
0.6%
14.3%
17.8%
Return on Assets
6.0%
-3.3%
7.2%
9.0%
Return on Equity
13.3%
-17.1%
12.8%
18.0%
f. Calculate the 2005 price/earnings ratio, price/cash flow ratio, and market/book ratio. Do these ratios indicate that
investors are expected to have a high or low opinion of the company?
Industry
Market Value ratios
2003
2004
2005
Average
Price-to Earnings Ratio
9.66
-6.31
12.00
14.20
Price-to-Cash Flow Ratio
7.95
27.49
8.14
7.60
Market-to-Book Ratio
1.28
1.08
1.54
2.90
Book Value Per Share
6.64
5.58
7.91
na
g. Perform a common size analysis and percent change analysis. What do these analyses tell you about Computron?
See the worksheet with the TAB "Common Size and % Change"

h. Use the extended Du Pont equation to provide a summary and overview of Computron's financial condition as projected
for 2005. What are the firm's major strengths and weaknesses?
Du Pont Analysis
Computron
2003
Computron
2004
Computron
2005
Industry Average

ROE
13.3%
-17.1%
12.8%
18.00%

P.M.
2.6%
-1.6%
3.6%
3.6%

T.A.T.O.
Equity Multiplier
2.3
2.21
2.0
5.18
2.0
1.78
2.5
2.00

i. What are some potential problems and limitations of financial ratio analysis? Answer: See Chapter 13 Mini Case Show
j. What are some qualitative factors analysts should consider when evaluating a companys likely future financial
performance? Answer: See Chapter 13 Mini Case Show

Common Size Analysis and Percent Change Analysis

In
In common
common size
size analysis,
analysis, all
all income
income statement
statement items
items are
are divided
divided by
by sales,
sales, and
and all
all balance
balance sheet
sheet items
items are
are divided
divided by
by total
total
assets.
assets.
In
In percent
percent change
change analysis,
analysis, all
all items
items are
are expressed
expressed as
as aa percent
percent change
change from
from the
the first
first year,
year, called
called the
the base
base year,
year, of
of the
the analysis.
analysis.

Common Size Statements

Balance Sheets

2003

2004

2005

Industry

Assets
Cash and equivalents
Short-term investments
Accounts receivable
Inventories
Total Current Assets
Net Fixed Assets
Total Assets

0.6%
3.3%
23.9%
48.7%
76.5%
23.5%
100.0%

0.3%
0.7%
21.9%
44.6%
67.4%
32.6%
100.0%

0.4%
2.0%
25.0%
48.8%
76.2%
23.8%
100.0%

0.3%
0.3%
22.4%
41.2%
64.1%
35.9%
100.0%

Liabilities and equity

Accounts payable
Notes payable
Accruals
Total current liabilities
Long-term bonds
Total common equity
Total liabilities and equity

9.9%
13.6%
9.3%
32.8%
22.0%
45.2%
100.0%

11.2%
24.9%
9.9%
46.0%
34.6%
19.3%
100.0%

10.2%
8.5%
10.8%
29.6%
14.2%
56.2%
100.0%

11.9%
2.4%
9.5%
23.7%
26.3%
50.0%
100.0%

2003

2004

2005

Industry

100.0%
83.4%
9.9%
0.6%
6.1%
1.8%
4.3%
1.7%
2.6%

100.0%
85.4%
12.3%
2.0%
0.3%
3.0%
-2.7%
-1.1%
-1.6%

100.0%
82.4%
8.7%
1.7%
7.1%
1.1%
6.0%
2.4%
3.6%

100.0%
84.5%
4.4%
4.0%
7.1%
1.1%
5.9%
2.4%
3.6%

Income Statements

Net sales
Costs of Goods Sold
Other Expenses
Depreciation
EBIT
Less interest
Earnings before taxes (EBT)
Taxes (40%)
Net Income before preferred dividends

Percentage Change Analysis

Balance Sheets

2003

2004

2005

Assets
Cash and equivalents
Short-term investments
Accounts receivable
Inventories
Total Current Assets
Net Fixed Assets
Total Assets

0%
0%
0%
0%
0%
0%
0%

-19.1%
-58.8%
80.0%
80.0%
73.2%
172.6%
96.5%

55.6%
47.4%
150.0%
140.0%
138.4%
142.7%
139.4%

Liabilities and equity

Accounts payable
Notes payable
Accruals
Total current liabilities
Long-term bonds
Total common equity
Total liabilities and equity

0%
0%
0%
0%
0%
0%
0%

122.5%
260.0%
109.5%
175.9%
209.2%
-16.0%
96.5%

147.1%
50.0%
179.4%
115.9%
54.6%
197.9%
139.4%

2003

2004

2005

0%
0%
0%
0%
0%
0%
0%
0%
0%

70.0%
73.9%
111.8%
518.8%
-91.7%
181.6%
-208.2%
-208.2%
-208.2%

105.0%
102.5%
80.3%
534.9%
140.4%
28.0%
188.3%
188.3%
188.3%

Income Statements

Net sales
Costs of Goods Sold
Other Expenses
Depreciation
EBIT
Less interest
Earnings before taxes (EBT)
Taxes (40%)
Net Income before preferred dividends