1. Prentice Hall, Inc. © 200615-1 STRATEGIC MANAGEMENT & BUSINESS POLICY 10 TH EDITION THOMAS L. WHEELEN J. DAVID HUNGER CHAPTER 15 Suggestions for Case Analysis

2. Prentice Hall, Inc. © 200615-2 Suggestions for Case Analysis Checklist for Red Flags – –Cash flow from operations should exceed net income –Accounts receivable should not grow faster than sales

3. Prentice Hall, Inc. © 200615-3 Suggestions for Case Analysis Checklist for Red Flags – –Gross margins should not fluctuate over time –Information re: top management and Board should be examined carefully –Footnotes are important

4. Prentice Hall, Inc. © 200615-4 Suggestions for Case Analysis Research – –Reach beyond the information in the case –Focus on environmental setting –Check decision date of case

5. Prentice Hall, Inc. © 200615-5 Suggestions for Case Analysis Research – –Use information services COMPUSTATE Compact Disclosure CD/International www.hoovers.com www.sec.gov

6. Prentice Hall, Inc. © 200615-6 Suggestions for Case Analysis Financial Ratios are Important – –Ration Analysis Liquidity ratios Profitability ratios Activity ratios Leverage ratios

7. Prentice Hall, Inc. © 200615-7 Suggestions for Case Analysis Case Analysis – –Research Annual reports 10K forms Income statement Balance sheets

8. Prentice Hall, Inc. © 200615-8 Suggestions for Case Analysis Case Analysis – –Research Cash flow statements Economic conditions Industry information

9. Prentice Hall, Inc. © 200615-9 Suggestions for Case Analysis Financial Analysis – – 5 Basic Steps Historical income statements/balance sheets Compare historical statements over time Calculate changes individual items-cumulative Change as percentage and absolute amount Adjust for inflation if significant factor

10. Prentice Hall, Inc. © 200615-10 Financial Ratio Analysis -- Liquidity 1. Liquidity Ratios Current ratio Quick (acid test) ratio Inventory to net working capital Cash ratio How FormulaExpressedMeaning Current assets ————————— Current liabilities Decimal A short-term indicator of the company’s ability to pay its short-term liabilities from short-term assets; how much of current assets are available to cover each dollar of current liabilities. Measures the company’s ability to pay off its short-term obligations from current assets, excluding inventories. A measure of inventory balance; measures the extent to which the cushion of excess current assets over current liabilities may be threatened by unfavorable changes in inventory. Measures the extent to which the company’s capital is in cash or cash equivalents; shows how much of the current obligations can be paid from cash or near-cash assets. Current assets – Inventory ———————————— Current liabilities Inventory ——————————————— Current assets – Current liabilities Cash + Cash equivalents ——————————— Current liabilities

11. Prentice Hall, Inc. © 200615-11 Financial Ratio Analysis -- Profitability 2. Profitability Ratios Net profit margin Gross profit margin Return on investment (ROI) Return on equity (ROE) Earnings per share (EPS) How FormulaExpressedMeaning Net profit after taxes ————————— Net sales Percentage Dollars per share Shows how much after-tax profits are generated by each dollar of sales. Indicates the total margin available to cover other expenses beyond cost of goods sold, and still yield a profit. Measures the rate of return on the total assets utilized in the company; a measure of management’s efficiency, it shows the return on all the assets under its control regardless of source of financing. Measures the rate of return on the book value of shareholders’ total investment in the company. Shows the after-tax earnings generated for each share of common stock. Sales – Cost of goods sold ————————————— Net sales Net profit after taxes ————————— Shareholders’ equity Net profit after taxes – preferred stock dividends ———————————— Average number of common shares Net profit after taxes ————————— Total assets

12. Prentice Hall, Inc. © 200615-12 Financial Ratio Analysis -- Activity 3. Activity Ratios Inventory turnover Days of inventory Net working capital turnover Asset turnover Fixed asset turnover Average collection period Accounts receivable turnover Accounts payable period Days of cash How FormulaExpressedMeaning Net sales ——————— Inventory Decimal Days Decimal Days Decimal Days Measures the number of times that average inventory of finished goods was turned over or sold during a period of time, usually a year. Measures the number of one day’s worth of inventory that a company has on hand at any given time. Measures how effectively the net working capital is used to generate sales. Measures the utilization of all the company’s assets; measures how many sales are generated by each dollar of assets. Measures the utilization of the company’s fixed assets (i.e., plant and equipment); measures how many sales are generated by each dollar of fixed assets. Indicates the average length of time in days that a company must wait to collect a sale after making it; may be compared to the credit terms offered by the company to its customers. Indicates the number of times that accounts receivable are cycled during the period (usually a year). Indicates the average length of time in days that the company takes to pay its credit purchases. Indicates the number of days of cash on hand, at present sales levels. Inventory ——————————— Cost of goods sold ÷ 365 Net sales ————————— Net working capital Sales ————————— Total assets Sales ——————— Fixed assets Accounts receivable ————————— Sales for year ÷ 365 Annual credit sales ————————— Accounts receivable Accounts payable ———————————— Purchases for year ÷ 365 Cash ——————————— Net sales for year ÷ 365

13. Prentice Hall, Inc. © 200615-13 Financial Ratio Analysis -- Leverage 4. Leverage Ratios Debt to asset ratio Debt to equity ratio Long-term debt to capital structure Times interest earned Coverage of fixed charges Current liabilities to equity How FormulaExpressedMeaning Total debt ——————— Total assets Percentage Decimal Percentage Measures the extent to which borrowed funds have been used to finance the company’s assets. Measures the funds provided by creditors versus the funds provided by owners. Measures the long-term component of capital structure. Indicates the ability of the company to meet its annual interest costs. A measure of the company’s ability to meet all of its fixed-charge obligations. Measures the short-term financing portion versus that provided by owners. Total debt ————————— Shareholders’ equity Long-term debt ————————— Shareholders’ equity Profit before taxes + Interest charges + Lease charges ———————————————— Interest charges + Lease obligations Profit before taxes + Interest charges ———————————————— Interest charges Current liabilities ————————— Shareholders’ equity

14. Prentice Hall, Inc. © 200615-14 Financial Ratio Analysis -- Other Financial Ratio Analysis — Other 5. Other Ratios Price/earning ratio Dividend payout ratio Dividend yield on common stock How FormulaExpressedMeaning Market price per share ————————— Earnings per share Decimal Percentage Shows the current market’s evaluation of a stock, based on its earnings; shows how much the investor is willing to pay for each dollar of earnings. Indicates the percentage of profit that is paid out as dividends. Indicates the dividend rate of return to common shareholders at the current market price. Annual dividends per share ———————————— Annual earnings per share Annual dividends per share ——————————————— Current market price per share Note: In using ratios for analysis, calculate ratios for the corporation and compare them to the average and quartile ratios for the particular industry. Refer to Standard and Poor’s and Robert Morris Associates for average industry data. Special thanks to Dr. Moustafa H. Abdelsamad, Dean, Business School, Texas A&M University–Corpus Christi, Corpus Christi, Texas, for his definitions of these ratios.

15. Prentice Hall, Inc. © 200615-15 Suggestions for Case Analysis Resources – Library – – Moody’s Manuals on Investment –Standard & Poor’s Register –Value Line’s Investment Survey –Findex: The Directory of Market Research..

16. Prentice Hall, Inc. © 200615-16 Suggestions for Case Analysis Resources – Economic Information – – Business Cycle Development –U.S. Census Bureau –Current Business Reports –Economic Indicators

17. Prentice Hall, Inc. © 200615-17 Suggestions for Case Analysis Resources – Economic Information – – Long-Term Economic Growth –Monthly Labor Review –U.s. Industrial Outlook –Overseas Business Reports

18. Prentice Hall, Inc. © 200615-18 Suggestions for Case Analysis Resources – Industry – – Business Week –Fortune –Industry Survey –Industry Week –Forbes –Inc

19. Prentice Hall, Inc. © 200615-19 Suggestions for Case Analysis Resources – Directories – – Business Periodical Index –Directory of National Trade Associations –Encyclopedia of Associations

20. Prentice Hall, Inc. © 200615-20 Suggestions for Case Analysis Resources – Directories – – Funk & Scott’s Index of Corporations and Industries –Thomas’ Register of American Manufacturers –Wall Street Journal Index

21. Prentice Hall, Inc. © 200615-21 Suggestions for Case Analysis Resources – Ratio Analysis – – Almanac of Business & Industrial Financial Ratios –Annual Statement Studies –Dun’s Review –Industry Norms and Key Business Ratios

22. Prentice Hall, Inc. © 200615-22 Suggestions for Case Analysis Common Size Statements -- – Income statements and balance sheets in which the dollar figures have been converted into percentages

23. Prentice Hall, Inc. © 200615-23 Altman’s Bankruptcy Formula Z =1.2x 1 + 1.4x 2 + 3.3x 3 + 0.6x 4 + 1.0x 5 where x 1 =Working capital divided by total assets. x 2 =Retained earnings divided by total assets. x 3 =Earnings before interest and taxes divided by total assets. x 4 =Market value of equity divided by total liabilities. x 5 =Sales divided by total assets. Z =Overall index of corporate fiscal health.

24. Prentice Hall, Inc. © 200615-24 Index of Sustainable Growth g*= [ p (1 – D) (1 + L)] / [T – P (1 – D) (1+L)] where P = Net profit before taxes/net sales x 100 D = Target dividends/profit after tax L = Total liabilities/net worth T = Total assets/net sales x 100

25. Prentice Hall, Inc. © 200615-25 Strategic Audit Worksheet Part I

26. Prentice Hall, Inc. © 200615-26 Strategic Audit Worksheet Part II

27. Prentice Hall, Inc. © 200615-27 Strategic Audit Convert the following two years of income statements from the Maytag Corporation into common-size statements. The dollar figures are in thousands. What does converting to a common size reveal? 1992%1991% Net sales$3,041,223$2,970,626 Cost of sales2,339,4062,254,221 ———————————————————— Gross profits701,817716,405 Selling, general, and admin. 528,250 524,898 expenses Reorganization expenses95,000— ———————————————————— Operating income78,567191,507 Interest expense(75,004)(75,159) Other—net3,9837,069 ———————————————————— Income before taxes and accounting changes7,546123,417 Income taxes(15,900)(44,400) Income before accounting changes(8,354)79,017 Effects of accounting changes for post-retirement benefits(307,000)— ———————————————————— Net income (loss)$(315,354)$79,017 ————————————————————