All Cases for
Foundations of Financial Management 17th Edition by Stanley Block, Geoffrey Hirt, Bartley Danielsen
Chapter 1-35
Harrod's Sporting Goods Case 1
Ratio Analysis
Purpose: thecase allows thestudent to examine ratio analysis within thecontext of a customer-banking
arrangement. thefirm has a disagreement with thebank over how much it should be paying in relation to
prime (no prior knowledge of banking is required forthe case). An item of particular interest is theimpact
of an extraordinary loss on thefirm's income statement. It has a major effect on theanalysis of
thecompany. Industry comparisons also are utilized.
Relation to Text: thecase should follow Chapter 3.
Complexity: thecase is moderately complex. It should require 1 to 1½ hours.
Solutions
1. Ratios 2013 2014 2015
Net income
1. 4.52 5.42% 3.99%
Sales
Net income
2a. 6.09% 7.23% 5.71%
Total assets
b. Net income sales x sales / total assets 4.52 x 1.35 5.42% x 1.33 3.99% x 1.43
Net income
3a. 16.04% 18.55% 15.02%
Stockholder's equity
Net income / total assets 6.09% 7.23% 5.71%
b.
(1 – debt / total assets) (1 – .620) (1 – .610) (1 – .620)
2. Harrod's has suffered a sharp decline in its profit margin, particularly between 2014 and 2015 (5.42%
down to 3.99%). Return on assets is also down, but not quite as much due to a slight increase in asset
turnover. Return on stockholders' equity is also down.
3. 2013 2014 2015
Net income
1. 4.522 5.42% 6.19%
Sales
Net income
2a. 6.09% 7.23% 8.85%
Total assets
b. Net income sales x sales / total assets 4.52 x 1.35 5.42% x 1.33 6.19% x 1.43
3a. Net income 16.04% 18.55% 23.30%
, Stockholder's equity
Net income / total assets 6.09% 7.23% 8.85%
b.
(1 – debt / total assets) (1 – .620) (1 – .610) (1 – .620)
4. After eliminating theeffect of thenonrecurring extraordinary loss, thetrend is clearly up over all three years.
Particularly impressive is theincrease in return on stockholders' equity from 16.04% in 2013 to 23.30% in
2015 .
5. Harrod has a clear superiority in theprofit margin (6.19% vs. 4.51%). This is further enhanced by a more
rapid asset turnover (1.43 vs. 1.13) to give an even more superior return on total assets (8.85% vs. 5.1%).
Finally, return on stockholders' equity greatly benefits from a higher debt ratio (62% vs. 48%) to provide
an even larger gap between thefirm and theindustry (23.30% vs. 9.80%). While debt is not necessarily
good, it has hiked up thereturn on equity to well over twice theindustry figure.
6. Ratios 2015 Industry
Sales
1. 6.31 5.75
Receivables
Sales
2. 4.75 3.01
Inventory
Sales
3. 2.77 3.20
Fixed assets
Harrod's is clearly superior to theindustry in receivables turnover (6.31 vs. 5.75) and inventory turnover
(4.75 vs. 3.01) and this more than compensates fora lower sales to fixed assets ratio (2.77 vs. 3.20).
7. Becky would appear to have strong grounds fora complaint. It appears that thebanker was using
unadjusted income statement numbers to arrive at theconclusion that Harrod's was on a downward trend in
terms of theprofitability ratios. Also, using unadjusted data theprofit margin was below theindustry
average.
However, theinferior performance was due to an extraordinary, nonrecurring loss. In terms of normal
operating performance, thecompany is clearly on an upward trend and well above theindustry averages on
all counts. One percent over prime appears to be much more reasonable than 2½ percent over prime.
,Chem-Med Company Case 2
Ratio Analysis
Purpose: thecase allows thestudent to go into financial analyses in more depth than in possible with end-
of-chapter problems. In addition to computing a series of ratios, thestudent must consider industry data
and trends forthe purpose of evaluating relative performance. thestudent must also make use of theDu
Pont system of analysis. Of special interest are thedebt and performance covenants established by
thepotential financier. Finally, thestudent is forced to identify theimpact of extraordinary income on ratio
analysis and how it can distort one year’s performance.
Relation to Text: thecase should follow Chapter 3.
Complexity: thecase is moderately complex. It should require 1-1½ hours.
, Solutions
1. Sales Growth = (Sales this year – Sales last year) / Sales last year
for 2015 $ 3,814 – $3,051 / $3,051 = + 25%
for 2016 5,340 – 3,814 / 3,814 = + 40%
for 2017 7,475 – 5,340 / 5,340 = + 40%
for 2018 10,466 – 7,475 / 7,475 = + 40%
2. Net income growth = (Net income this year – Net income last year) / Net Income last year
for 2015 $1,150 – $ 766 / $ 766 = + 50%
for 2016 1,609 – 1,150 / 1,150 = + 40%
for 2017 1,943 – 1,609 / 1,609 = + 21%
for 2018 2,903 – 1,943 / 1,943 = + 49%
According to Dr. Swan’s estimates net income growth will exceed sales growth in 2015, match sales
growth in 2016, then slack off and rebound in 2018. However, Dr. Swan’s figures are misleading: in
2016 they include $500,000 worth of extraordinary income expected to be received from
thesettlement of thesuit with Pharmacia. theastute analyst will realize that this amount should be
excluded from his/her calculations because (1) receiving theamount is by no means certain, and (2) it
is a one-time event which has nothing to do with theoperations of thecompany. When theamount is
excluded from 2016’s figures we see that net income growth for2016 is actually considerably less
than 40%.
Aftertax effect of removing $500,000 from gross income = $500 x (1 – tax rate) = $500 x
(1 – .33) = – $335
New net income = $1,609 – $335 = $1,274
Appropriate net income growth for2016 = ($1,274 – $1,150) / $1,150
= + 11%
Also changes 2017 net income growth = 1,943 – 1,274
= + 53%
1,274
Failing to exclude theextraordinary amount has theeffect of obscuring the―real‖ profitability ratios—
ROE in 2016 would be 23%, not 29%. Net profit margin would be 24%, not 30%. These are facts a
potential investor would want to know.
3. Chem-Med’s current ratio = Current Assets / Current Liabilities:
for 2015 = $1,720 / $ 593 = 2.90
for 2018 = $3,261 / $1,647 = 1.98
Pharmacia had a current ratio in 2015 of 2.8, and theindustry average was 2.4. Chem-Med, therefore,
in 2015 was slightly more liquid than theaverage company. This would probably be looked upon
favorably by someone considering loaning money to thecompany; however, thebanker with whom
Dr. Swan had lunch would have a problem with Chem-Med’s current ratio for2018: it falls below
the2.25 to 1 limit he would establish as a restrictive covenant. In view of that, Dr. Swan needs to
revise his financial plan for2018 in such a way that less money is invested in fixed assets, and more
is held in cash & equivalents (or, alternatively, shift some current liabilities to long-term debt and/or
equity).
