Using the financial ratios provided in Table 4.1 and the financial statement infor- mation presented below for Costco Wholesale Corporation, calculate the follow ing ratios for Costco for both 2013 and 2014: a. Gross profit margin b. Operating profit margin c. Net profit margin d. Times-interest-earned (or coverage) ratio e. Return on stockholders' equity 1. 1 f. Return on assets g. Debt-to-equity ratio h. Days of inventory . Inventory turnover ratio j. Average collection period Based on these ratios, did Costco's financial performance improve, weaken, or remain about the same from 2013 to 2014? Key Financial Ratios: How to Calculate Them and What They Mean TABLE 4.1 Ratio How Calculated What It Shows Profitability ratios Sales revenues-Cost of goods sold Sales revenues Sales revenues-Operating expenses Sales revenues 1. Gross profit margin Shows the percentage of revenues available to cover operating expenses and yield a profit. 2. Operating profit margin (or return on sales) Shows the profitability of current operations without regard to interest charges and income taxes. Earnings before interest and taxes is known or as EBIT in financial and business accounting Operating income Sales revenues Profits after taxes 3. Net profit margin (or net return on sales) Shows after-tax profits per dollar of sales. Sales revenues Profits after taxes + Interest Total assets A measure of the return on total investment in the enterprise. Interest is added to after-tax profits to form the numerator, since total assets are financed by creditors as well as by stockholders. 4. Total return on assets Profits after taxes Total assets 5. Net return on A measure of the return earned by stockholders on the firm's total assets. total assets (ROA) Profits after taxes Total stockholders' equity The return stockholders are earning on their capital investment in the enterprise. A return in the 12%-15% range is average. 6. Return on stockholders equity (ROE) Profits after taxes Long-term debt+Total stockholders' equity 7. Return on A measure of the return that shareholders are earning on the monetary capital invested in the enterprise. A higher return reflects greater bottom-line effectiveness in the use of long-term invested capital (ROIC) sometimes referred to as capital. return on capital employed (ROCE) Liquidity ratios Shows a firm's ability to pay current liabilities using assets that can be converted to cash in the near term. Ratio should be higher than 1.0. Current assets Current liabilities 1. Current ratio (continued) TABLE 4.1 (continued) Ratio How Calculated What It Shows Current assets-Current liabilities The cash available for a firm's day-to-day operations. Larger amounts mean the company has more intenal funds to (1) pay its current liabilities on a timely basis and (2) finance inventory expansion, additional accounts receivable, and a larger base of operations without resorting to borrowing or raising more equity capital. 2. Working capital Leverage ratios Total debt Total assets 1. Total debt-to- Measures the extent to which borrowed funds assets ratio (both short-term loans and long-term debt) have been used to finance the firm's operations. A low ratio is better-a high fraction indicates overuse of debt and greater risk of bankruptcy 2. Long-term debt- to-capital ratio Long-term debt Long-term debt+ Total stockholders' equity A measure of creditworthiness and balance sheet strength. It indicates the percentage of capital investment that has been financed by both long- term lenders and stockholders. A ratio below 0.25 is preferable since the lower the ratio, the greater the capacity to borrow additional funds Debt-to-capital ratios above 0.50 indicate an excessive reliance on long-term borrowing, lower creditworthiness, and weak balance sheet strength Total debt Total stockholders' equity 3. Debt-to-equity ratio Shows the balance between debt (funds borrowed both short term and long term) and the amount that stockholders have invested in the enterprise. The further the ratio is below 1.0, the greater the firm's ability to borrow additional funds. Ratios above 1.0 put creditors at greater risk, signal weaker balance sheet strength, and often result in lower credit ratings. 4. Long-term debt- to-equity ratio Long-term debt Total stockholders' equity Shows the balance between long-term debt and stockholders' equity in the firm's long-term capital structure. Low ratios indicate a greater capacity to borrow additional funds if needed. 5. Times-interest- Operating income Interest expenses Measures the ability to pay annual interest charges. Lenders usually insist on a minimum ratio of 2.0, but ratios above 3.0 signal progressively better creditworthiness earned (or coverage) ratio Activity ratios 1. Days of inventory Inventory Cost of goods sold+365 Measures inventory management efficiency. Fewer days of inventory are better. Cost of goods sold Inventory Measures the number of inventory turns per year Higher is better 2. Inventory turnover 3. Average collection Accounts receivable Indicates the average length of time the firm must wait after making a sale to receive cash payment A shorter collection time is better. Total sales+ 365 period or Accounts receivable Average daily sales (continued) Consolidated Income Statements for Costco Wholesale Corporation, 2013-2014 (in millions, except per share data) 2014 2013 Net sales $110,212 $102,870 Membership fees 2,428 2.286 Total revenue 112,640 105,156 $91,948 Merchandise costs 98,458 Selling, general, and administrative 10,899 10,155 Operating income 3,220 3,053 Other income (expense) Interest expense (113) (99) Interest income and other, net 90 97 Income before income taxes 3,197 3,051 990 Provision for income taxes 1,109 Net income including noncontrolling interests 2,06 2,088 (22) Net income attributable to noncontrolling interests (30) $ 2,039 $ Net income 2,058 Basic earnings per share $ $ 4.69 4.68 $ $ Diluted earnings per share 4.65 4.63 Source: Costco Wholesale Corporation 2014 10-K Consolidated Balance Sheets for Costco Wholesale Corporation, 2013-2014 (in millions, except per share data) August 31 2014 September 1, 2013 Assets Current Assets Cash and cash equivalents 5,738 $4,644 Short-term investments 1,577 1,480 Receivables, net 1,148 1,026 7,894 Merchandise inventories 8,456 (continued) August 31, 2014 September 1, 2013 Deferred income taxes and other current assets 669 621 $15,840 Total current assets 17,588 Property and Equipment $ 4,716 S 4,409 Land Buildings and improvements 12,522 11,556 Equipment and fixtures 4,845 4,472 Construction in progress 592 585 22.675 21,022 Less accumulated depreciation and amortization (7.845) (7.141) 13,88 Net property and equipment 14,830 Other assets 606 562 Total assets $33,024 $30,283 Liabilities and Equity Current Liabilities $ 8,491 $ 7,872 Accounts payable Accrued salaries and benefits 2.231 2,037 Accrued member rewards 773 710 Accrued sales and other taxes 442 382 Deferred membership fees 1,254 1,167 Other current liabilities 1,221 1,089 Total current liabilities 14,412 13,257 Long-term debt, excluding current portion 5,093 4,998 Deferred income taxes and other liabilities 1,004 1,016 $19,271 Total liabilities 20,509 Commitments and Contingencies Equity Preferred stock $0.005 par value; 100,000,000 shares authorized; no shares issued and outstanding Common stock $0.005 par value; 900,000,000 shares authorized; 436,839,000 and 432,350,000 shares issued and outstanding 2 2 Additional paid-in capital. $ 4,670 4,919 (76) (122) Accumulated other comprehensive (loss) income a (continued)