ACTG 212: Principles of Accounting II

Financial Analysis Project

Michael Masterson has brought you a set of financial statements of a company that he is considering investing in as a long-term investment. He is asking for your help in determining if the company would be a good investment for him.

Using the attached financial statements, you need to create a vertical analysis as percentage of Total Assets for the Balance Sheet and as a percentage of Sales for the Income Statement, as well as a horizontal analysis of the Balance Sheet and Income Statement. Complete this for both years. In addition to the vertical and horizontal analysis, you need to calculate the following ratios:

Liquidity & Efficiency:

Current Ratio

Acid-Test Ratio

Receivables Turnover & Days Sales Uncollected

Inventory Turnover & Days sales in Inventory

Solvency

Debt Ratio

Equity Ratio

Debt to Equity Ratio

Profitability

Profit Margin Ratio

Gross Margin Ratio

Return on Total Assets (ROA)

Return on Equity (ROE)

This information then needs to be incorporated into a written memo to Michael Masterson. Be sure to include the following information in your memo.

Introductory Paragraph This paragraph will be an introduction to your analysis. In this paragraph, explain the importance of analyzing financial statements before investing in a company. Be sure to answer the following questions in your introduction:

1. What is the purpose of creating a vertical analysis and why is it useful in analyzing a potential investment?

2. What is the purpose of creating a horizontal analysis and why is it useful in analyzing a potential investment?

3. Overall, what do each of the three sections of ratios (Profitability, Liquidity & Solvency) tell a person about a company?

Smith Enterprises Comparative Income Statement For the Years Ended December 31, 2015 and 2014

12/31/2015 12/31/2014 Sales $ 600,000 $ 500,000 Cost of Goods Sold 387,000 275,000 Gross Profit 213,000 225,000 Expenses Operating Expenses 128,000 94,000 Selling & Administrative Expenses 52,000 81,000 Operating Income 33,000 50,000 Interest Expense 10,000 10,000 Income Tax Expense 5,000 10,000 Net Income $ 18,000 $ 30,000

Smith Enterprises Comparative Balance Sheet December 31, 2015 and 2014

Assets: Current assets Cash $ 76,000 $ 70,000 Accounts Receivable 92,000 90,000 Inventory 110,000 80,000 Total Current Assets 278,000 240,000 Long-term assets Equipment 150,000 150,000 Accumulated Depreciation (60,000) (30,000) Total Assets $ 368,000 $ 360,000 Liabilities Current liabilities Accounts Payable $ 62,000 $ 69,000 Salaries Payable 8,000 11,000 Total Current Liabilities 70,000 80,000 Long-term liabilities Notes Payable 100,000 100,000 Total Liabilities 170,000 180,000 Shareholders' Equity Common Stock, $1 par 75,000 75,000 Paid in Capital in Excess of Par, Common Stock 25,000 25,000 Retained Earnings 98,000 80,000 Total Liabilities & Shareholders' Equity $ 368,000 $ 360,000