Appendix A
CASE PROBLEM

Introduction

The purpose of this section is to allow you to pull the information together and work with the systems explained earlier today. The problem allows you to use the causal ratios and the DuPont system of ratio analysis and to compare the results from the two systems. You must also use the percent of sales method to forecast the external financial needs of the company. Last, you must prepare pro forma statements under different financing alternatives to see the effect that this type of external financing has on the causal ratios and the DuPont system.

Marine supply company balance sheet

  Year 1 Year 2 Year 3 Year 4
Cash $12,100 $17,400 $19,500 $17,480
Receivables 31,400 35,600 46,500 53,700
Inventories 64,700 79,000 100,800 97,320
Total current assets 108,200 132,000 166,800 168,500
Net plant 46,200 58,600 68,900 72,020
Miscellaneous assets 10,700 11,900 12,700 15,440
Total assets $165,100 $202,500 $248,400 $255,960
Liabilities and capital
Accounts payable $7,000 $15,200 $24,600 $24,530
Other current liabilities 23,500 26,900 35,000 36,750
Total current liabilities 30,500 42,100 59,600 61,280
Long-term debt 12,400 28,700 45,700 46,040
Deferred taxes 2,570 4,580 5,380 7,140
Other liabilities 2,030 1,520 2,570 1,050
Total liabilities 47,500 76,900 113,250 115,510
Net worth 117,600 125,600 135,150 140,450
Total $165,100 $202,500 $248,400 $255,960

Marine supply company selected income figures

  Year 1 Year 2 Year 3 Year 4
Net sales $233,400 $280,200 $327,100 $304,480
Gross profit 83,970 95,290 111,999 107,840
Earnings before interest and taxes 29,930 33,300 40,550 34,850
Interest 1,230 2,100 4,730 6,600
Net income $15,230 $15,660 $17,080 $13,390
Dividend 6,070 7,660 7,530 8,090
Addition to net worth $9,160 $8,000 $9,550 $5,300

Marine supply company selected financial ratios

Causal Ratios Year 1 Year 2 Year 3 Year 4 Industry
Fixed assets to net worth 39.2% 46.7% 51.0% 51.3% 45.5%
Collection period * 49.1 days 46.4 days 51.9 days 64.4 days 44.0 days
Net sales to inventory 3.61x 3.55x 3.25x 3.13x 4.1x
Net sales to net worth 1.98x 2.23x 2.42x 2.17x 2.10x
Net profit to net sales 6.5% 5.6% 5.2% 4.4% 6.2%
Misc. assets to net worth 9.1% 9.5% 9.3% 10.9% **
DuPont analysis
Profit margin 6.5% 5.6% 5.2% 4.4% 6.2%
Asset turnover 1.41x 1.38x 1.32x 1.18x 1.5x
Return on assets 9.2% 7.7% 6.9% 5.2% 9.3%
Equity multiplier 1.402x 1.610x 1.841x 1.827x 1.376x
Return on equity 12.9% 12.4% 12.7% 9.5% 12.8%
Other ratios
Current ratio 3.55x 3.14x 2.80x 2.74x 2.40x
Current liab. to net worth 25.94% 33.52% 44.10% 46.63% 20.10%
Debt to asset ratio 28.8% 37.9% 45.6% 45.1% 27.3%
Times interest earned 24.3x 15.8x 8.6x 5.3x 8.6x
Inventory to working capital 83.3% 87.8% 94.0% 90.7% 91.07%
Receivables to working capital 40.4% 39.6% 43.4% 50.1% 44.9%
Net sales to fixed assets 5.1x 4.8x 4.7x 4.2x 6.4x
Net sales to working capital 3.0x 3.1x 3.1x 2.8x 4.0x

* Assume all sales are credit sales

** Industry ratio unavailable

Case problem requirements

  1. Discuss the causal ratios (as they relate to the other ratios) and point out this company’s strengths and weaknesses. If you were Marine Supply’s auditor, what advice would you give their management?

     

     

     

  2. Discuss the DuPont system of ratio analysis for the Marine Supply Company. Are the conclusions different from those drawn using the causal ratios? What can you tell your client, Marine Supply, about this system of ratios?

     

     

     

  3. Suppose that the United States Navy has proposed the purchase of $150,000 of marine supplies. This contract, if accepted, would be renewed year after year.

    Use the percent of sales method to forecast Marine Supply’s external financing requirements. Marine Supply will need to purchase new plant and equipment at a cost of $100,000 to meet these sales. In applying the percent of sales method, use Year 4 balance sheet relationships.