1. The average annual compound growth rate increase of Gillian Pool and Spa Supplies is 14% over the past 5 years. The average was calculated as shown in the table below.
| Net Sales | 900000 | 982500 | 1170000 | 1310400 | 1520064 | Average |
| % change | 0.09 | 0.19 | 0.12 | 0.16 | 0.14 |
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In comparison, the net income declined from over $32,676 in 2011 to a total loss of $2,574 in 2015. Even though it had a net income, this net income turned into a loss 5 years later.
2. Denny’s analysis should be done by looking at the income statement and the balance sheet in the past 3-5 years. Additionally, he has to prepare a cash flow statement, a common size balance sheet, and a common size income statement for each year. He should then calculate various financial ratios such as profitability, liquidity, leverage, coverage, and coverage ratios for the three-year period. A return on equity and Du Pont analysis should also be done to determine various factors that affected the profitability of the company.
Accounting statements provide raw data by which other statements can then be prepared and financial ratios are then calculated. The cash flow statement will help determine the source of the cash and how it was spent. The common size statements provide critical information about the trends of liabilities, assets, expense items, and revenue sources.
3. Realizing that comparison with an appropriate benchmark is a key component of comprehensive ratio analysis, Denny should find a suitable benchmark by looking at the industry standards of financial ratios. One source of industry financial ratios is Dun & Bradstreet Industry Norms and Key Business Ratios, it gives an up to date benchmark for public and private businesses. Other useful sources for industry financial ratios include Moody’s, Value Line, and Standard & Poor. The internet presents a very good source for finding industry financial ratios. Marketguide.com is an example of a website to find standard financial ratios that can be used as a benchmark.
4. The common size income statements and balance sheets for the 5 year period between 2011 and 2015 are presented as shown in the following two tables.
|
Gillian Pool & Spa Supplies' |
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|
Income Statement |
||||||||||
|
2011 |
2011% |
2012 |
2012% |
2013 |
2013% |
2014 |
2014% |
2015 |
2015% |
|
| Net Sales | $ 900,000 |
100.0% |
$ 982,500 |
100.0% |
$ 1,170,000 |
100% |
$ 1,310,400 |
100.0% |
$ 1,520,064 |
100.0% |
| COGS | $ 729,000 |
81.0% |
$ 801,900 |
81.6% |
$ 962,280 |
82% |
$ 1,100,736 |
84.0% |
$ 1,305,000 |
85.9% |
| Gross Profit | $ 171,000 |
19.0% |
$ 180,600 |
18.4% |
$ 207,720 |
18% |
$ 209,664 |
16.0% |
$ 215,064 |
14.1% |
| Admin and Selling Exp | $ 45,000 |
5.0% |
$ 58,950 |
6.0% |
$ 64,350 |
6% |
$ 72,072 |
5.5% |
$ 91,204 |
6.0% |
| Depreciation | $ 37,500 |
4.2% |
$ 40,000 |
4.1% |
$ 50,000 |
4% |
$ 50,000 |
3.8% |
$ 50,000 |
3.3% |
| Miscellaneous Expenses | $ 3,041 |
0.3% |
$ 3,557 |
0.4% |
$ 4,680 |
0% |
$ 14,414 |
1.1% |
$ 22,801 |
1.5% |
| Total Operating Exp | $ 85,541 |
9.5% |
$ 102,507 |
10.4% |
$ 119,030 |
10% |
$ 136,486 |
10.4% |
$ 164,005 |
10.8% |
| EBIT | $ 85,460 |
9.5% |
$ 78,093 |
7.9% |
$ 88,690 |
8% |
$ 73,178 |
5.6% |
$ 51,059 |
3.4% |
| Interest on ST Loans | $ 9,600 |
1.1% |
$ 9,600 |
1.0% |
$ 9,600 |
1% |
$ 17,760 |
1.4% |
$ 17,760 |
1.2% |
| Interest on LT Loans | $ 5,400 |
0.6% |
$ 5,400 |
0.5% |
$ 5,400 |
0% |
$ 13,500 |
1.0% |
$ 16,470 |
1.1% |
| Interest on Mortgage | $ 16,000 |
1.8% |
$ 13,840 |
1.4% |
$ 12,240 |
1% |
$ 21,440 |
1.6% |
$ 21,120 |
1.4% |
| Total Interest | $ 31,000 |
3.4% |
$ 28,840 |
2.9% |
$ 27,240 |
2% |
$ 52,700 |
4.0% |
$ 55,350 |
3.6% |
| Before-Tax Earnings | $ 54,460 |
6.1% |
$ 49,253 |
5.0% |
$ 61,450 |
5% |
$ 20,478 |
1.6% |
$ (4,291) |
-0.3% |
| Taxes | $ 21,784 |
2.4% |
$ 19,701 |
2.0% |
$ 24,580 |
2% |
$ 8,191 |
0.6% |
$ (1,716) |
-0.1% |
| Net Income | $ 32,676 |
3.6% |
$ 28,552 |
2.9% |
$ 36,870 |
3% |
$ 12,287 |
0.9% |
$ (2,574) |
-0.2% |
| Dividends on Stock | $ - | $ - | $ - | $ - | $ - | |||||
| Additions to Retained Earnings | $ 32,676 | $ 28,552 | $ 36,870 | $ 12,287 | $ (2,574) | |||||
The common size income statement shows that the company’s cost of goods has doubled since its operation in 2011. This is not a good indicator as it can reduce the company profits. Miscellaneous expenses have increased and are its all-time high in 2015, they rose from 0.3% in 2011 to 1.5% in 2015. While the company has increased its gross profit over the past years, it is not significant enough when compared to the percentage increase in cost of goods. The company should thus look keenly at its cost structure and then try to reduce the overall costs involved in order to realize significant profits.
|
Gillian Pool & Spa Supplies |
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|
Balance Sheet |
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| Assets |
2011 |
% |
2012 |
% |
2013 |
% |
2014 |
% |
2015 |
% |
| Cash and Marketable Securities | $ 155,000.00 |
24% |
$ 309,099.00 |
39% |
$ 75,948.00 |
8% |
$ 28,826.00 |
3% |
$ 18,425.00 |
2% |
| Accounts Receivable | $ 10,000.00 |
2% |
$ 12,000.00 |
2% |
$ 20,000.00 |
2% |
$ 77,653.00 |
8% |
$ 90,078.00 |
9% |
| Inventory | $ 250,000.00 |
39% |
$ 270,000.00 |
34% |
$ 500,000.00 |
50% |
$ 520,000.00 |
53% |
$ 560,000.00 |
58% |
| Current Assets | $ 415,000.00 |
65% |
$ 591,099.00 |
75% |
$ 595,948.00 |
60% |
$ 626,480.00 |
64% |
$ 668,503.00 |
69% |
| Land, Buildings, Plant, and Equipment | $ 250,000.00 |
39% |
$ 250,000.00 |
32% |
$ 500,000.00 |
50% |
$ 500,000.00 |
51% |
$ 500,000.00 |
52% |
| Accumulated Depreciation | $ (25,000.00) |
-4% |
$ (50,000.00) |
-6% |
$ (100,000.00) |
-10% |
$ (150,000.00) |
-15% |
$ (200,000.00) |
-21% |
| Net Fixed Assets | $ 225,000.00 |
35% |
$ 200,000.00 |
25% |
$ 400,000.00 |
40% |
$ 350,000.00 |
36% |
$ 300,000.00 |
31% |
| Total Assets | $ 640,000.00 |
100% |
$ 791,099.00 |
100% |
$ 995,948.00 |
100% |
$ 976,480.00 |
100% |
$ 968,503.00 |
100% |
| Liabilities & Equities | ||||||||||
| Short-Term Bank Loans | $ 50,000.00 |
8% |
$ 145,000.00 |
18% |
$ 140,000.00 |
14% |
$ 148,000.00 |
15% |
$ 148,000.00 |
15% |
| Accounts Payable | $ 10,000.00 |
2% |
$ 10,506.00 |
1% |
$ 19,998.00 |
2% |
$ 15,995.00 |
2% |
$ 16,795.00 |
2% |
| Accruals | $ 5,000.00 |
1% |
$ 5,100.00 |
1% |
$ 7,331.00 |
1% |
$ 9,301.00 |
1% |
$ 11,626.00 |
1% |
| Current Assets | $ 65,000.00 |
10% |
$ 160,606.00 |
20% |
$ 167,329.00 |
17% |
$ 173,296.00 |
18% |
$ 176,421.00 |
18% |
| Long-Term Bank Loans | $ 63,366.00 |
10% |
$ 98,000.00 |
12% |
$ 196,000.00 |
20% |
$ 190,000.00 |
19% |
$ 183,000.00 |
19% |
| Mortgage | $ 175,000.00 |
27% |
$ 173,000.00 |
22% |
$ 271,000.00 |
27% |
$ 268,000.00 |
27% |
$ 264,000.00 |
27% |
| Long-Term Debt | $ 238,366.00 |
37% |
$ 271,000.00 |
34% |
$ 467,000.00 |
47% |
$ 458,000.00 |
47% |
$ 447,000.00 |
46% |
| Total Liabilities | $ 303,366.00 |
47% |
$ 431,606.00 |
55% |
$ 634,329.00 |
64% |
$ 631,296.00 |
65% |
$ 623,421.00 |
64% |
| Common Stack | $ 320,000.00 |
50% |
$ 320,000.00 |
40% |
$ 320,000.00 |
32% |
$ 320,000.00 |
33% |
$ 320,000.00 |
33% |
| Retained Earnings | $ 16,634.00 |
3% |
$ 39,493.00 |
5% |
$ 41,619.00 |
4% |
$ 2,184.00 |
0% |
$ 25,082.00 |
3% |
| Total Equity | $ 336,634.00 |
53% |
$ 359,493.00 |
45% |
$ 361,619.00 |
36% |
$ 345,184.00 |
35% |
$ 345,082.00 |
36% |
| Total Liabilities and Equities | $ 640,000.00 |
100% |
$ 791,099.00 |
100% |
$ 995,948.00 |
100% |
$ 976,480.00 |
100% |
$ 968,503.00 |
100% |
The common size balance sheet shows that the firm had a sharp increase in its inventory that has doubled through the 5 years of its operation. The account receivables has increased indicating huge credits and poor credit collection policies. The cash balance has decreased consistently and is at its all-time low of $18.425. The firm has additionally taken more on the larger amounts of short and long-term debt compared to total assets. The loans may be used to finance its operations which may not be a good indicator. The total equity shows a sharp decrease and the firm’s return on equity has decreased. The
5. Various financial ratios of the firm were analyzed as shown below
| Ratio |
2011 |
2012 |
2013 |
2014 |
2015 |
Comments |
| Current Ratio |
6.38 |
3.68 |
3.56 |
3.62 |
3.79 |
Good |
| Quick Ratio |
2.54 |
2.00 |
0.57 |
0.61 |
0.62 |
Poor |
| Cash Ratio |
2.38 |
1.92 |
0.45 |
0.17 |
0.10 |
Low |
| Debt Ratio |
0.47 |
0.55 |
0.64 |
0.65 |
0.64 |
High |
| Equity Multiplier |
1.90 |
2.20 |
2.75 |
2.83 |
2.81 |
High |
| Debt-Equity Ratio |
0.90 |
1.20 |
1.75 |
1.83 |
1.81 |
High |
| Cash Coverage Ratio |
4.78 |
2.95 |
2.47 |
2.19 |
1.83 |
Declining |
| Inventory Turnover ratio |
2.92 |
2.97 |
1.92 |
2.12 |
2.33 |
Lower |
| Day’s Sales in Receivables |
4.06 |
4.46 |
6.24 |
21.63 |
21.63 |
Gone up significantly |
| Times Interest Earned Ratio |
2.76 |
2.71 |
3.26 |
1.39 |
0.92 |
low |
| Equity Multiplier |
1.90 |
2.20 |
2.75 |
2.83 |
2.81 |
High |
| Profit Margin |
3.63% |
2.91% |
3.15% |
0.94% |
-0.17% |
poor |
| ROA |
5.11% |
3.61% |
3.70% |
1.26% |
-0.27% |
poor |
| ROE |
9.71% |
7.94% |
10.20% |
3.56% |
-0.75% |
poor |
Liquidity Ratio: The firm’s overall liquidity ratio is good with a current ratio of 3.79. The ratio has improved over the past few years from3.68, 3.56, 3.62 to 3.79 in 2015.The firm has a poor quick ratio of 0.62 showing that most of its assets are tied in the inventory. Acceptable industry current ratios are between 1.5% and 3% for a healthy business. The current ratio measures the ability of a company to pay short-term and long-term obligation. The high current ratio shows that the company cannot pay off its short term and long-term obligations.
Asset utilization: The inventory turnover of the firm was 2.92 in 2011 and has since decreased to 2.33 in 2015. An improvement occurred between 2013 and 2014 where it rose from 1.92 to 2.12 but it was not significant enough. The average Day’s Sales in Receivables has gone up to 22 days which is quite high for the business.
Long-term solvency: The debt ratio of the firm is 64% of its total assets. The ratio has been rising up from 47% in 2011. A debt ratio greater than 0.5 shows that most of the company’s assets are financed through equity. This shows that the company has a high debt and is in a risky business situation. The coverage ratio of the firm is low and has been declining consistently from 4.78 in 2011 to 1.83 in 2015. A minimum coverage ratio of 2 is good for a company. The debt ratio and coverage ratio show that the financial structure of the firm is risky.
Profitability ratios: The profitability margin ratio was 3.98% in 2011 and has since decreased to -0.17% in 2015. The negative profitability ratio of the firm shows that it is currently operating on losses. Profitability gives the capacity of the firm to earn profit after subtracting costs. The negative profitability ratio shows that it has too much operating costs.
Arguments that can be made to get the loan: The current status of the firm can prove difficult to obtain a loan. The firm can argue that its current ratio is quite good and is on its way to improvement. The firm can also argue that it will improve its inventory management. This is through a massive marketing campaign that can help reduce the time taken by the inventory in the shelves.
6. I may not grant them a loan due to the company’s poor profitability and its cash flow situation. I would then advise them that if they can show improvement in inventory management and better profitability in the next 2 quarters, then giving them a loan can be considered.
7. The two biggest problems that the firm faces are its huge debts, poor management of inventory and low profits. The company should strive to increase the payment of its debts by reviewing its credit collection policies. A good inventory management can be achieved by engaging in a marketing campaign that should its sales go up. To improve on its profit, the firm can consider raising the overall price of its products or reducing the production costs. The firm had a good start in the year 2011 but has since decreased consistently. It should try to adjust with various changes that could be taking place in the market.
8. The general problems are that it could not make enough net sales for every year. However, there was a loss over the past five years and led to the debt. The debt level has grown up by 17% and would have to cope up later with the management of debt.
Financial statement analysis is important since there are things one can find in the financial statement that cannot be found in other problems. However, there is a limitation in the financial statement analysis like that in the time period. A user may gain an incorrect view of the financial results by looking at the financial results of one reporting period. The information may also not be predictive as it does not show results in the past. It thus cannot be used to predict the future accurately.
