Answered: One of the most important applications…

Managerial Accounting

15th Edition

ISBN:9781337912020

Author:Carl Warren, Ph.d. Cma William B. Tayler

Publisher:Carl Warren, Ph.d. Cma William B. Tayler

Chapter16: Financial Statement Analysis

Section: Chapter Questions

Problem 1BE

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Question

One of the most important applications of ratio analysis is to compare a company’s performance with that of other players in the industry or to compare its own performance over a period of time. Such analyses are referred to as a comparative analysis and trend analysis, respectively.

A common size analysis requires the representation of financial statement data relative to a single financial statement item (or base account or value).

What is the most commonly used base item for a common size balance sheet?

A. Earnings before interest and taxes

B. Total assets

C. Net sales

D. Net income

Suppose you are conducting an analysis of the financial performance of Blue Hamster Manufacturing Inc. over the past three years.

The company did not issue new shares during these three years and has faced some operational difficulties. The company has thus pilot tested some new forecasting strategies for better operations management. You have collected the company’s relevant financial data, made reasonable assumptions based on the information available, and calculated the following ratios.

	Ratios Calculated
	Year 1	Year 2	Year 3
Price-to-cash-flow	6.40	8.32	9.32
Inventory turnover	12.80	15.36	17.20
Debt-to-equity	0.20	0.21	0.25

Based on the preceding information, your calculations, and your assumptions, which of the following statements can be included in your analysis report? Check all that apply.

A. The company’s creditworthiness has improved over these three years as evidenced by the increase in its debt-to-equity ratio over time.

B. Blue Hamster Manufacturing Inc.’s ability to meet its debt obligations has worsened since its debt-to-equity ratio increased from 0.20 to 0.25.

C. An improvement in the inventory turnover ratio could likely be explained by the new sales-forecasting strategies that led to better inventory management.

D. The market value of Blue Hamster Manufacturing Inc.’s common shares declined over the three years.

Definition Definition Financial statement that provides a snapshot of an organization's financial position at a specific point in time. It summarizes a company's assets, liabilities, and shareholder's equity, detailing what the company owns, what it owes, and what is left over for its owners. The balance sheet serves as a crucial tool to assess the financial health and stability of a company, as well as to help management make informed decisions about its future investments and financial obligations.

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