CASE 10 Harper & Reiman, LLC Understanding a Firm's Financial Statements Harper & Reiman, LLC, is a consulting firm that caters to developed financial management software that centers on nonprofit organizations. The company is headquartered liquidity analytics and enables nonprofits to shorten cash in Dallas, Texas. and has recently expanded to include an conversion cycles and strengthen liquidity. They gradu- office in Amarillo, Texas, Harper's home town. ally expanded into other services, including sustainable The business was founded in 2000 by Brett Harper business solutions, infrastructure consulting, risk manage- and Anna Reiman, who met in an entrepreneurship class ment, and innovation services. in college and discovered that they shared a passion for The company has experienced significant growth, with serving and developing the nonprofit sphere. Following sales approaching $29 million in 2013-far beyond any- graduation, they both were employed by J.P. Morgan. thing the owners could have imagined. For one thing, the They frequently worked together on common assign- ments. On a number of occasions, they worked with non- company distinguished itself in the industry by designing a payment system that allows nonprofits to make payments profit organizations whose innovative processes allowed for Harper & Reiman services in seasons when dona- them to "do more with less." The not-for-profits simply tions are the highest. However, it also required Harper & were not able to throw a lot of cash at problems, as many Reiman to diversify its client base so that receivables are large business organizations do, and had to think and act consistently being collected. Essentially, the company has like entrepreneurs if they were to achieve their missions. Harper and Reiman soon came to believe that for-profit applied the advice it gives to clients to itself While the majority of consulting clients are located businesses could learn from the really good nonprofits. near the two regional offices, the firm's software has been After eight years at JP Morgan, Harper and Reiman decided to start their own consulting firm, Harper & Rei- sold nationwide on a limited basis. Wanting to enter new man, LLC. At first, they limited their work to financial geographical markets, Harper and Reiman are consider- advisory services, knowing that many nonprofits needed ing a marketing strategy to increase the firm's national help in managing their financial operations. The company visibility. However, before beginning a major expansion, they want to evaluate the firm's financial health. Harper & Reiman, LLC Balance Sheets for years ending 2012 and 2013 2012 2013 Changes Assets Current assets: Cash $ 15,500 218,500 $ 203,000 Accounts receivable 3,989,000 4,428,000 439,000 Inventory 4,155,000 4,678,000 523,000 Prepaid expenses and deposits 138,500 144,000 5,500 Other current assets 105,500 105,500 Total current assets $ 8,403,500 9,574,000 $1,170,500 Fixed assets: Gross fixed assets $ 7,541,000 $ 8,519,000 $ 978,000 Accumulated depreciation (3,822,500) (4,377,000) (554,500) Net fixed assets 3,718,500 4,142,000 423,500 662 Case 10 Harper & Reiman, LLCHarper & Reiman, LLC (continued) 2012 2013 Changes Other assets 11,500 1,000 (10,500) TOTAL ASSETS $ 12,133,500 $ 13,717,000 $ 1,583,500 Debt (Liabilities) and Equity Current liabilities: Notes payable to bank 1,100,000 $ 1,192,000 S 92,000 Accounts payable 1,931,000 2,238,500 307,500 Accrued expenses 920,500 384,000 36,500) Total current liabilities $ 3,951,500 $ 4,314,500 $ 363,000 Long-term debt 3,614,000 4,257,000 643,000 Total debt $ 7,565,500 $ 8,571,500 1,006,000 Stockholders' equity: Common stock S 356,000 $ 391,500 S 35,500 Additional paid-in capital 498,000 649,000 151,000 Retained earnings 3,714,000 4,105,000 391,000 Total stockholders' equity $ 4,568,000 $ 5,145,500 $ 577,500 TOTAL DEBT AND EQUITY $ 12,133,500 $ 13,717,000 $ 1,583,500 Income Statements for Years Ending 2012 and 2013 2012 2013 Net sales $ 27,069,000 $ 28,911,500 Cost of goods sold (18,880,500) (20,524,500) Gross profits $ 8,188,500 8,387,000 Selling and general and administrative expenses (6,805,500) (6,953,000) Operating profits $ 1,383,000 $ 1,434,000 Interest expense (481,500) (535,500) Interest income 5,500 10,000 Profits before tax S 907,000 908,500 Income taxes 385,000) (377,000) Net profits 522,000 531,500 Statement of Retained Earnings for years ending 2012 and 2013 2012 2013 Beginning retained earnings $ 3,298,000 $ 3,714,000 Net profits 522,000 531,500 Dividends 106,000) (140,500) Ending retained earnings $ 3,714,000 4,105,000 (Continued) Case 10 Harper & Reiman, LLC 663Harper & Reiman, LLC (continued) Statement of Cash Flows for years ending 2012 and 2013 2012 2013 Operating activities: Net profits $ 522,000 $ 531,500 Depreciation 564,500 554,500 Profits before depreciation $ 1,086,500 $ 1,086,000 Increase in accounts receivable $ (464,000) S (439,000) Payments for inventory: . Increase in inventory (572,000) (523,000) Increase in accounts payable 68,500 307,500 Total payment for inventory (503,500) (215,500) Increase in prepaid expenses (19,000) (5,500) Increase (decrease) in accrued expenses 87,500 (36,500) Cash flows from operations 187,500 389,500 Investing activities: Increase in gross fixed assets $ (861,500) S (978,000) Decrease (increase) in other assets 10,500 Cash flows from investing activities $ (861,500) S (967,500) Financing activities Increase in notes payable 625,000 92,000 Increase (decrease) in long-term debt (1 12,500) 643,000 Issued common stock 77,500 186,500 Cash dividends paid 81,000) (140,500) Cash flows from financing activities 509,000 781,000 Net change in cash $ (165,000) 203,000 Beginning cash 180,500 15,500 Ending cash 15,500 218,500 Industry norms: Current ratio 2.2 Return on assets 12.6% Operating profit margin 6.3% Total asset turnover 2.00 Debt ratio 40.0% Return on common equity 15.0% Question want to have a good sense of the sources and uses of 1. Harper and Reiman are interested in examining four cash flows in the business. Given the firm's recent specific issues: liquidity, profitability, the risk occur- financial results, as shown above, evaluate the com- ring from debt financing, and the rate of return the pany's financial situation as it relates to the owners' business is providing to them as owners. They also concerns. What advice would you give to Harper and Reiman? Source: This case was prepared by Lauren Houser, April 2013. 664 Case 10 Harper & Reiman, LLC