COMPREHENSIVE PROBLEM 4

Home Depot, Inc.

ANALYSIS OF THE FINANCIAL STATEMENTS OF A PUBLICLY OWNED CORPORATION

This Comprehensive Problem is to acquaint you with the content of the 2018 financial statements of Home Depot, Inc., reproduced in Appendix A of this textbook. (The 2018 financial statements are for the fiscal year ended February 3, 2019.) The problem contains three major parts, which are independent of one another: Part I is designed to familiarize you with the general contents of a companys financial statements; Part II involves analysis of the companys liquidity; and Part III analyzes the trend in its profitability. If you work this problem as a group assignment, each group member should be prepared to discuss the groups findings and conclusions in class. A good starting point for understanding the financial statements of a company such as Home Depot, Inc., is to understand the accounting policies used in preparing those statements. The first note accompanying the financial statements provides a brief description of the major accounting policies the company used. Many of the areas discussed in this note have been covered in this text.

Part I Annual reports include not only comparative financial statements but also other sources of information, such as: A multiyear summary of selected information comparing key financial and other statistics for the past 5 or 10 years. Several pages of Notes that accompany the financial statements. Reports by management and by the independent auditors in which they express their respective responsibilities for the financial statements.

Instructions

Answer each of the following questions and explain where in the statements, notes, or other sections of the annual report you located the information used in your answer.

a. How many years are covered in each of the primary comparative financial statements? Were all of these statements audited? Name the auditors. What were the auditors conclusions concerning these statements? b. Home Depot, Inc., combines its statement of retained earnings with another financial statement. Where are details about changes in the amount of retained earnings found? c. Over the years presented, have the companys annual net cash flows been positive or negative from (1) operating activities, (2) investing activities, and (3) financing activities? Has the companys cash balance increased or decreased during each of these years?

Part II Assume that you are the credit manager of a medium-size supplier of building materials and related products. Home Depot wants to make credit purchases from your company, with payment due in 60 days.

Instructions

a. As general background, read the first note to the financial statements, Summary of Significant Accounting Policies. Next, compute the following for the 2018 and 2017 fiscal years. Round your Current and Quick ratios to two decimal places. Some calculations may require information from the five-year summary of Selected Financial Data. 1. Current ratio. 2. Quick ratio. COMPREHENSIVE PROBLEM 4 690 Chapter 14 Financial Statement Analysis 3. Amount of working capital. 4. Change in working capital from the prior year. b. On the basis of your analysis in part a, does the companys liquidity appear to have increased or decreased during the most recent fiscal year? Does the 2018 change in cash and cash equivalents affect your decision? c. Other than the ability of Home Depot to pay for its purchases, do you see any major considerations that should enter into your companys decision to sell products to Home Depot on credit? Explain. d. Your company assigns each customer one of the four credit ratings listed below. Assign a credit rating to Home Depot, Inc., and write a memorandum explaining your decision. (In your memorandum, you may refer to any of your computations or observations in parts a through c, and to any information contained in the annual report.) POSSIBLE CREDIT RATINGS A. Outstanding Little or no risk of inability to pay. For customers in this category, we fill any reasonable order without imposing a credit limit. The customers credit is reevaluated annually. B. Good Customer has good debt-paying ability but is assigned a credit limit that is reviewed every 90 days. Orders above the credit limit are accepted only on a cash basis. C. Marginal Customer appears sound, but credit should be extended only on a 30-day basis and with a relatively low credit limit. Creditworthiness and credit limit are reevaluated every 90 days. D. Unacceptable Customer does not qualify for credit.

Part III As general background, study the five-year summary of Selected Financial Data.

Instructions

a. Compute the following for the 2018 and 2017 fiscal years, rounding percentages to one decimal place. Some calculations may require information from the five-year summary of Selected Financial Data. 1. Percentage change in net sales (relative to the prior year). 2. Percentage change in net earnings. 3. Gross profit rate. 4. Net income as a percentage of sales. 5. Return on average total assets. b. Write a statement that describes your conclusion(s) concerning trends in Home Depots profitability during the period covered in your analysis in part a above. Justify your conclusion(s).