GMCR analysis of financial problems

FINANCIAL STATEMENT ANALYSIS OF GMCR 1
GENERAL INTRODUCTION
Green Mountain Coffee Roasters, Inc. (“the Company” or “GMCR”) was founded in 1981 and has
become a leader in the specialty coffee and coffee maker businesses. The company is a fast growing
candidate in specialty coffee and coffee maker industry. Its stock price fluctuated significantly during
2008 to 2012, despite its ongoing increasing sales growth. The sudden decrease in stock price in 2010
must reflect that the market found something unhealthy about the firm. After the analysis of the financial
statements from 2008 to 2012, some major accounting issues have been examined. The company
inflated its revenue via some aggressive accounting methods, and they did not perform well as it looks
like on their financial statements. This report will firstly argue for the usefulness of financial statements
analysis as to predict future problems of a company. Then after found some red flags appeared in
financial statements, the major accounting issues and their outcomes will be detailed discussed after that.
Ratio analysis will be separately examined to prove the issues we found and will reveal some concerns
of the company’s financial health.
USERS OF FINANCIAL STATEMENTS COULD HAVE REASONABLY PREDICTED FUTURE
PROBLEMS OF THE COMPANY. BUT IT IS DIFFICULT.
Financial statements are periodic reports published by the company for the purpose of providing
information to external users. The two primary functions of financial statements are to measure business
activities of a company and to communicate those measurements to external parties for decision-making
purposes.
The primary objectives of financial reporting are providing information useful in investment and credit
decisions for individuals who have a reasonable understanding of business, providing information useful
in assessing future cash flows, providing information about enterprise resources, claims to these
resources, and changes in them. Investors can make use of the figures in each statement to evaluate the
performance of a company. By calculating some standard ratios, one can find the trend of the company’s
performance through a period of time. And also by comparing these ratios with those of its competitors
or the average in the industry, the general position of the company may be evaluated. Through this
process, some abnormal figures will show up, then we can do some further analysis based on these red
flags.
However, according to Fridson and Alvarez (2011): “the purpose of financial reporting is to obtain
cheap capital, the issuers of financial statements must have the motivation to make their own statements
as reliable as possible and hide their bona fide performance.” Therefore, there are still some flaws of
only using financial statements to predict accounting issues.
One of the biggest problems is that you cannot make apples to apples comparisons. Many investors use
financial statements as a way to compare one company against another. But the companies may not use
the same accounting policies or the same fiscal years. Like in this analysis, GMCR use FIFO inventory
methods while another competitor uses the average cost method. This makes it complicated to have a
comparison.
Another potential problem is that financial reporters might mislead investors and managers to rely on
numbers and financial ratios. While looking at financial ratios can be beneficial, it often does not give
you the whole picture. A company might be working on something completely groundbreaking but

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currently it is not making much money. If you do not invest in a company only because it has a poor
price-earnings ratio, you also might miss out on some truly solid investments.
Finally, it is hard to get an accurate picture of what a company actually represents. A diversified
company may be difficult to fit into a particular classification of companies. For example, GMCR has
three segments of business, which are SCBU, KBU, and CBU, and each of them has different market
and competitors, even involved in different industries. When dealing with very large companies that
have many different sources of income, the financial statements do not give you the entire picture and all
the activities that financial accounting measures.
As discussed above, the motivations of corporate managers, different accounting polices as well as the
dynamics of the organizations in which they work will all lead to false assumptions about the underlying
intent of issuers’ communications with users of financial statements. What’s more, lacking of the
information of the related industry, world or national economy and the changes of managers may distort
the understanding of genuine performance of a company. Therefore, it will be hard for us to predict
accounting issues only using the financial statement. However, the figures in the financial statement can
help us have the first impression of a company, and by comparing the changes in each account, we can
at least find some red flags in the financial situation. Numbers do not lie after all. That is only the person
behind those numbers lies.
RED FLAGS APPEAR:
We examine the ratios of GMCR for the last six years (2007 to 2012), and compare them in four aspects
– profitability, liquidity, efficiency and leverage ratios. We also look up its competitors` relevant ratios
as well as the industry`s at the same period. Some of GMCR`s ratios in 2009, 2010, 2011 turned
abnormal. The decreasing ratios of gross margin in 2009, 2010 and 2011 reflect its profitability problem.
Also the liquidity and efficiency ratios performed undesirable as can be seen in the Excel. Hence we
made a guess that something was wrong with GMCR in year 2009, 2010 and 2011.
In addition, GMCR stock price was relatively flat before year 2009. The stock price tripled in year 2009
and had fluctuation in the following year. Then in year 2011, the stock price had big dipper performance.
It rocketed 260% from $32 to $110 and then dropped to $43 at the end of the year. It also had 55%
growth and 71% decrease in 2011. The huge volatility of the stock price from 2009 to 2011 raises
suspicions about GMCR’s situation.
Therefore, via evaluating the company started from those abnormal figures, we determined that GMCR
has a series of accounting issues that raise concerns about GMCR’s ongoing business.
THE NATURE OF ACCOUNTING ISSUES HAPPENED IN GMCR AND THEIR ULTIMATE
OUTCOMES:
Revenue Inflation
One of the most significant accounting issues of GMCR relates to its revenue recognition. The reality of
GMCR’s sales income is under suspicion due to its unreliable revenue recognition methods and heavily
inflated receivables. However, the flows of cash reveal the truth that GMCR was not performing as it
looked like.

Sales data is considered most directly to the general performance of a company. But they are also the
easiest part to be manipulated as to mislead the market. As a fast growing company, GMCR was trying
to show its ambition to become stronger and have larger market share. Its operating margin and net
income increased 91% and 27 times. These data would be exciting and directly accepted by investors as
a sign that the firm is operating steadily better. However, fast growing sales revenue should be a major
part to be examined to avoid manipulation.
One of the common methods a company might use is CHANNEL STUFFING. A company can inflate
its sales revenue by deliberately sending more products to retailors along its distribution channel. The
problem is that this amount overweighs the amount that market could absorb. By channel stuffing, the
company beefs up their accounts receivables. However, after that retailers will send the excess items
instead of cash back to the distributor, who must readjust its accounts receivable and ultimately its
bottom line. In 2010, an analyst from Green Light Capital gave out a presentation as to short the GMCR
stock. He revealed the problem that GMCR was working together with MBlock, which is the major
underwriter of GMCR’s products, to manipulate the revenue. The accounting policy related to revenue
recognition before 2010 was fuzzy. It allows the company to recognize revenue by shipment to the
underwriter rather than actual delivery of products to customers. SEC then stepped into investigation but
there was no material conclusion of it. In 2010, GMCR restated their financial statements, a write down
of 2% and 1.6% of sales revenue in 2009 and 2008. After that, the revenue recognition method reported
in 10-K changed, but not intrinsically, leaves out continuous suspicion of GMCR’s future revenue data.
In addition, examined from financial statements of GMCR, it is clear that receivables rocketed from
2009 to 2012. Giving credits to customers is a common way to facilitate sales. But sales revenue will be
recognized without actual inflow of cash. Receivables must be subtracted from net income to show the
real cash inflow of the firm’s operating activities. There comes the suspicion that whether those credits
could be collected and how the cash flow from operation would be affected. As for the first question,
according to the restated data, it will take GMCR two times days than Starbucks to collect their
receivables. What’s worse, via common size financial statements, it can be a problem because it takes a
large portion of total sales and cash flow from operation (using OCF as abbreviation). Higher
receivables lead to lower OCF. And OCF is too low that it even turned to be negative in 2010. It is hard
to believe that company was really selling more than before to the real customers.
High COGS with low level of CapEx：
When we look at the profitability ratios, we found that there is an abnormal figure– Gross Margin. It fell
down in year 2008, 2009 and 2010 with 35.3%, 31.2% and 31.4%, while at the same time sales grew by
44.2%, 59.6% and 72.6%. Something might be wrong with the COGS.
The 2009 annual report gives a clear explanation of this gross margin decline of 2008 and 2009 (Fiscal
2009 annual report, 24) “primarily to the increase in sales of AH single-cup brewers, which are sold
approximately at cost as part of the Company’s strategy to increase the installed base of Keurig
brewers”. In other words, the manager of GMCR contributed the decline to the razor/razor blade model,
which seems not bad but rather a necessary result.
Is this really the truth? Some bad things might hide behind this decline. One potential reason for this
decline is that GMCR did not invest in their own business enough as the sales grew quickly. We can
search the asset turnover for answer. This ratio is 1.61 for 2008, 1.34 for 2009, 1.24 for 2010 and 1.16

for 2011. Asset turnover measures a firm`s efficiency at using its assets in generating sales, and this
number fell during the four years, indicating that GMCR should invest more in itself, such as buying
more and updating current equipment, technology breakthrough, etc.
On the other hand, the capital expenditures of fixed assets did not grow responsively. Capital
expenditures of year 2009 are $48.3 million, almost the same as year 2008, while sales grew at the same
period is 59.6%. So we draw the conclusion that GMCR did not make enough capital expenditures in
year 2008, 2009 and 2010 to support its high sales growth, and the decreasing gross margin is due to the
low producing efficiency as a result of not enough new plants and equipment, rather than the razor/razor
blade model. But were the situation of Gillette the same as GMCR’s? Thus we conclude that the
explanation on annual report is misleading investors.
Another approach is to divide GMCR sales of 2007 and 2008 into more detailed parts, and find out
whether AH Brewers sales grew dramatically during that period. What we find is that At home Brewers
grew almost the same in 2008 and 2007, with 109% and 93%. Thus we cannot get the conclusion that
declining gross margin of 2007 is due to growing sale of AH Brewers.
In addition, our later analysis of acquisitions will show that the 2009 and 2010 acquisitions do not seem
as good as expected, thus it may be better for GMCR to use the money of acquisitions to invest in its
own business.
Inventory Headed up
Inventory headed up severely from 2009. Examine solely from sales data cannot tell so many truth. The
fact is that GMCR was generating more revenue, but it also stored even more. The “growth rate” of
inventory exceeded the sales growth rate. (Examined in Ratio sheet) Especially in 2011, the burden was
nearly 2 times with inventory increased heavily. Higher inventory level will lead to some liquidity
problems and more severely will make their cash flow from operation not as desirable as expected.
From accounting perspective, inventory is recorded under current assets range. Higher inventory
increases current assets and it makes the balance sheet looks better that it seems like have more currently
available assets. But can these “current” assets are really current? Examined from days inventory
turnover, the ratio soured nearly three times from 2008 to 2011, implies that it takes the company longer
to turn its inventories into cash. This further raises a problem that whether GMCR can pay back its most
urgent liabilities right away. Will be further discussed in liquidity ratio analysis, the performance of
quick ratio is poor between 2008 and 2011. Quick ratios are smaller than 1 implies that the company
may find it hard to pay back its most current liabilities. Hence, headed up inventory level leads to some
liquidity problems to GMCR.
In addition, inventory need to be subtracted from net income to generate operating cash flow. Higher
inventory leaves lower cash flow of operation (OCF). Together with receivables, these two items consist
of a major part of net income. This resulted in even lower OCF, and made it negative in 2010.
On the other hand, from business aspect, heavily stored inventory raises concerns that whether these
inventories can be sold in the near future. As discussed in the ratio analysis, days inventory increased
significantly from 2009 to 2011. Coffee beans will deteriorate in the warehouse. Also, new generation of
products released will make the stored older generation brewers harder to be sold. It is fair for

customers to think that they will get more stored goods, then the quality of and the extreme experience
of products cannot be assured.
Unrealistic and expensive acquisitions：
GMCR’s success sterns from its acquisition of Keuring, with patented K-cups give GMCR the biggest
advantage in the coffee industry. In year 2009, GMCR made 2 large acquisitions with Tully and
Timothy, and in the following year 2010, GMCR made 2 larger acquisitions with Diedrich and Van
Houtte.
However, are they really good acquisitions?
The purpose of these acquisitions is questionable. GMCR`s manager said that the main reason of the
acquisitions is to extend the market, with Tully of western states, Diedrich of south California, Timothy
and Van Houtte of Canada. There are, however, commons among these four companies, they are all
licensees of GMCR K-cups. And given that GMCR`s two main patents of K-cups will expire in Sep.
2012, we must doubt whether the real purpose is to avoid competitions in the near future. If this is the
truth, the acquisitions may seem not that necessary. GMCR put more money in its R&D and its own
business instead of simply buying its. In addition, to extend new market now when the existing market is
not performing well seems not a good time.
In addition, the amount paid by GMCR was over expensive. GMCR spent 196 (40.3for Tully`s+155.7for
Timothy`s) million in 2009 and 1213(305.3 for Diedrich+907.8 for Van Houtte) million in 2009. This is
a large amount of money, especially when GMCR has little free cash flow every year. Also the allocation
of Price to Goodwill is extremely high (25.8million, 69.3million, 217.5million and 472.3million).
Goodwill represents almost half of every acquisition. What`s more, GMCR re-estimate goodwill of Van
Houtte in the March 2011 quarter for extra 53.7 million. GMCR also revaluated Diedrich`s book value
with a decrease of $28.6 million. These two adjustments imply that purchase price may be over-paid,
and the acquisitions may not be as good as GMCR stated before.
These acquisitions had little help on GMCR’s future operation. Diedrich and Van Houtte provide 529
million revenues in 2010, almost 1/3 of the total revenue of GMCR in 2010. This leads to a doubt
whether GMCR was really doing well in its own business. And since the four companies have similar
business model as GMCR, they provide neither new technology nor patent, which may not have real
benefit except new market and little an organic growth for GMCR after acquisitions.
Finally, GMCR’s operating expenses after acquisition is under suspicion. Van Houtte’s operating
expenses ran at approximately 40% of net sales. However, GMCR’s operating expenses as a percentage
of sales fell even though GMCR added Van Houtte’s high cost structure business, from 17.5% in year
2011 to 16.9% in year 16.9%. When asked about this discrepancy, GMCR’s CFO refused to disclose Van
Houtte’s operating expenses, and said “It turns out they just spend less than we thought.” All of these
indicate GMCR`s trying to varnish the acquisitions, which reflect the bad performance of acquisitions.
Patent Issues
In 2009, the two patents related to GMCR’s major products faced their expiration date end. This is
significant because of GMCR’s business model. As discussed before, GMCR considerably earns its
profit from the sales of its K-cup systems. But the technology itself is really vulnerable to imitation. It

relies heavily on patent protection. GMCR also generate some royalty income from giving out licenses
to providers like Starbucks and Donuts Co. from 2009. The result of this move seems great according to
the WSJ that Starbucks increased their sales as a result of working together with K-cup system, implies
that this cooperation did work. But after rethinking about it, after those patents expired, these powerful
competitors could be able to produce same products like GMCR. This is a huge threat in the future.
Even the CEO of GMCR itself said that GMCR is more like a technology company rather than a coffee
maker. The key advantage to this kind of firms is to maintain its patent power. According to annual
reports from 2009 to 2012, there is no sign that the patent issue could be solved. But we found a series
of acquisitions from 2009 until last year 2012. GMCR has raised and expensed a huge amount of money
on these activities. CEO of GMCR might explain it as an expansion and ambition to “rule” the whole
North America. But it is hard not to doubt that they are suffering from incoming competitions. Take a
look at these acquisitions, most of the acquired firms were GMCR’s licensees, and thus, potential rivals.
It can be considered that GMCR is avoiding future competition via heavily expensive acquisitions.
Lack of cash
Besides, GMCR is also using a large amount of money in their brand building. If in the future, there is
no protection from patents, it is explainable to continue remain its sales via customer loyalty and first
entry advantages. In short, it is clear that GMCR will and maybe is suffering from threats due to the loss
of its patent protection.
In terms of net income, GMCR performs well. Its net income increases substantially from 2007 to 2012,
especially in 2009 and 2011, the growth rate is over 150%. It seems that a company with sustained
increase in net income should not lack money. However when we turn our attention to GMCR’s
operating cash flow (OCF), we find GMCR may perform not as well as it looks like. Since cash flow
indicates how bills are normally paid off, we consider it as a better indication of a company’s ability to
grow or maintain its operations. Deriving conclusions from numbers, GMCR’s OCF fluctuate greatly,
which means the company is unable to generate steady cash flow to maintain its operation. Especially in
2008, 2010 and 2011, the number is very low, even negative, which obviously means the company
requires external financing. We believe this is primarily due to the excessive percentage of inventory
and receivable. GMCR overstocks its inventory and gives excess credits to its customers resulting in the
lack of cash flow.
Furthermore, compared GMCR’s cash flow from operation with that from investment, its OCF is
significantly less than the need of investment activities. GMCR’s investment activities focus on its
capital expenditure and acquisitions. In 2009, 2010 and 2011, every year GMCR acquired one or two
companies, which occupy most of its cash used in investment activities. These acquisitions cost a lot,
even four times than the capital expenditure. On one hand, these acquisitions cause big cash flow gap.
As we can see, in years acquisitions happened, GMCR finance a lot through issuing common stock and
borrowing long-term debt. On the other hand, acquisitions also affect capital expenditure. Take 2009 for
example, its capital stay constant, and we believe it is due to the lack of money resulting from the
acquisition in this year.
We calculate the free cash flow of these years and it evidences the gap between cash flow generated
from operation and used in investments.
Free cash flow (thousand dollars)

2007 2008 2009 2010 2011 2012
Cash Flow from
Operations
29834 1946 38498 (2297) 785 477785
Capital Expenditure (21844) (48718) (48298) (126205) (283444) (401121)
Acquisition 0 0 (41361) (459469) (907835) 0
Free Cash Flow 7990 (46772) (51161) (587971) (1190494) 76664
UNHEALTHY FINANCIAL CONDITION OF GMCR VIA RATIO ANALYSIS:
Financial analysis is one of the major parts of financial statement analysis. It examines the company’s
financial health via four perspectives, namely profitability, liquidity, efficiency of utilizing assets, and
leverage level.
Profitability Ratios：
When we see the profitability ratios of GMCR, most of them decreased in year 2009 and 2010. We will
emphasize mostly on ROE.
ROE is inconsistent between annual report and calculation from financial statements.
ROE is one of the ratio investors care the most. The 2010 annual report shows the ROE from year 2008
to 2010 (2010 annual report, 0) for 18%, 15% and 12%. Our calculation, however, shows that ROE for
those years is only 15.5%, 9.3% and 11.4%. There is a huge gap (3% on average) between two types of
ROE. GMCR did not explain the inconsistency of ROE ratios and there are no footnotes telling investors
how GMCR got those high ROE. This is a sign that GMCR may use different calculation methods to
mislead investors, or even worse, they may manipulate the ROE.
Even if we accept GMCR`s reported ROE, there is still a decreasing trend of ROE, especially when we
considering that sales grow dramatically in the same periods, leading us to question the real profitability
of GMCR. Also compared to Starbucks, as a partner and a competitor, ROE of SBUX is 19.4% for 2009,
27.7% for 2010 and 31.0% for 2011, almost twice as that of GMCR.
Liquidity Ratios:
Investors use liquidity ratios to examine whether a company is able to meet their short-term obligation,
since a company that is consistently having trouble meeting their short-term liabilities is at a higher risk
of bankruptcy.
Current ratio measures a company’s current assets against its current liabilities. Generally speaking,
higher numbers are better, implying that the firm should be easily able to pay off its short-term debt.
During 2007 to 2009, current ratios for GMCR soured significantly, especially in 2009 the current ratio
rocketed to 4.25. After that, the ratio turned back to a normal level. The abnormally high current ratio in

2009 could be a result of GMCR’s large amount financing activity, which left a high level of cash
balance in that year. Even compared to its major competitors, GMCR seemed performed well based on
its current ratio.
However, looking together with quick ratio, the true liquidity of GMCR is not that favored. Quick ratio,
also known as the acid-test ratio, uses the most liquid assets against as the numerator. The major part
that left out is inventory. After taken inventory out, quick ratios of GMCR are almost under 1, implying
some difficulty to meet the firm’s most urgent debt. This can be explained by GMCR’s heavily headed
up inventory level. Examined from balance sheet, inventory level increased 8 times from 2009 to 2012.
What’s worse, inventory turnover, which will be discussed in efficiency ratios later, decreased between
2008 and 2011, except in 2009. This infers that inventory should not be considered as liquid as it is
defined. In addition, quick ratios performed averagely worse than those of GMCR’s major rivals’.
In short, due to heavily headed up inventory and decreased liquidity of inventory, it should be warned
that GMCR was not performed well in liquidity aspect during 2008 to 2011.
Efficiency ratios:
The ability of a company to effectively utilize its assets and manage its liabilities is another aspect to
investigate. Basically, turnovers of receivables, payables and inventory can reveal the firm’s asset
management performance.
GMCR’s receivable turnover decreased between 2008 and 2011. Especially in 2010 that receivable
turnover is only 7.88, highly below GMCR’s major rival Starbucks. The figure of later company is 36.72.
This implies that GMCR cannot effectively turn its sales credit into cash.
Inventory turnover averagely performed even worse from 2008 to 2011. In 2011, the ratio decreased to
as low as 2.60, implying that the company needs to spend around 140 days to turn its inventory into cash.
The ironic side is that the absolute value of inventory increased significantly between 2009 and 2011
while the sales revenue did not increase in the same extent. The company might explain that they just
increased their store level as to meet their rocketing sales projection. However, compared the sales
growth rate with the “growth rate” of inventory, in 2011, inventory level increased nearly two times than
sales growth. This raises suspicion that the company might not sale as many as they wanted. Examined
from company’s 10-K, a large portion of the inventory consists of coffee beans and finished brewers.
Coffee beans have expiration dates. With increased days inventory, it is hard for company to continue
providing best-quality products as they promised. In addition, after the expiration of GMCR’s two vital
patents, the company released some new generation coffee brewer. This leads to a problem that the older
generation will be harder to be sold. The company will face a significant level of write down of its
current assets related to inventory.
Accounts payable turnover remained relatively steady during 2008 to 2011. It seems that this ratio
turned better in 2012. Even though, this ratio is generally lower than that of GMCR’s major competitors,
there is no sign that the company will face some troubles with its suppliers.
Leverage Ratios:

Leverage ratio measures a company's method of financing or its ability to meet financial obligations.
There are several different ratios, namely equity multiplier, total debt to equity and interest coverage
ratio, all of which looked mainly at include debt, equity, assets and interest expenses.
Equity multiplier and total debt to equity are similar ratios. Equity multiplier is total assets/equity, while
total debt to equity is total debt/equity. They are both measure how a company finance its assets using
debt and equity. Both ratios of GMCR are downtrend, and fell sharply in 2009. Since GMCR finance
mainly by issuing common stock rather than by borrowing debt, the growth rate of debt is relatively low
compared to the growth rate of equity, which causes these ratios decline. In 2009, equity multiplier was
1.4, lower than 2008’s 2.6 and 2010’s 2.0, while total debt to equity is 0.1 lower than 2008’s 0.9 and
2010’s 0.5. The proceeds GMCR got from issuing common stock was much larger than that of
borrowing, so these two ratios fell sharply. After that proceeds from borrowing increase, and the
changes of these ratios return to normal.
Interest coverage ratio is used to determine how easily a company can pay interest on outstanding debt.
The higher the ratio, the less the company is burdened by debt expense. According to numbers, GMCR
performs well, which is due to the increase of EBIT and the decrease of interest expense. After 2008,
GMCR’s sales increasing dramatically promote this ratio up to more than 20. But taking into
consideration its inflation of sales, this ratio might be too high.
On the whole, even though GMCR’s leverage ratios are likely to be influenced by the sales inflation, the
overall trend are positive which means it finances its assets using more equity and burdens less expense
pressure.
DuPont Analysis:
In DuPont analysis, ROE’s basic formula is
ROE = (Profit margin)*(Asset turnover)*(Financial leverage)
= (Net profit/Sales)*(Sales/Assets)*(Assets/Equity)
= (Net Profit/Equity).
ROE (return on equity) is the core factor in DuPont analysis. ROE measures a company's profitability by
revealing how much profit a company generates with the money shareholders have invested. Based on
this, DuPont analysis divides ROE into three levers, namely profit margin, asset turnover and financial
leverage. Profit margin is a ratio of profitability measuring how much out of every dollar of sales a
company actually keeps in earnings. Assets turnover measures the amount of sales generated for every
dollar's worth of assets. Financial leverage is a way of examining how a company uses debt to finance
its assets.
Taking advantage of the structure implicit in these levers, we begin at the top by noting the trend in ROE
over time. Then narrow focus and ask what changes in the three levers account for the observed ROE
pattern. Finally, get out microscope and study individual accounts for explanations of the observed
changes in the levers.

ROE(%)
Profit
Margin(%)
Assets
Turnover
Financial
Leverage
2007 13 3.8 1.3 2.7
2008 15.5 4.4 1.4 2.6
2009 9.3 6.9 1.0 1.4
2010 11.4 5.9 1.0 2.0
2011 10.4 7.6 0.8 1.7
2012 16 9.4 1.1 1.6
Beginning with GMCR’s ROE, the number doesn’t show a good performance. GMCR’s ROE increased
from 2007’s 13% to 2008’s 15.5%. But from 2008 to 2012, it didn’t increase. On the contrary, it
decreased relatively largely. 2009 was 9.3%, 2010 was 11.4% and 2011 was 10.4%, all of which are
lower than the five-year average from 2007 to 2012. We don’t believe GMCR’s ROE reaches a good
level. Since ROE measures a firm's efficiency at generating profits from every unit of shareholders'
equity, GMCR’s ROE shows it doesn’t do well in using investment funds to generate earnings growth.
Looking next at the levers of performance, GMCR’s profit margin experiences a relatively large growth,
from 2007’s 3.8% to 2012’s 9.4%. These numbers imply GMCR’s profitability is getting better. The
assets turnover has fallen over the period, which means operating efficiency doesn’t perform well.
Looking last at financial leverage, the assets-to-equity ratio has fallen from 2007’s 2.7 to 2012’s 1.60.
According to the ratios, changes of ROE are partly due to the changes of ROA equal profit margin times
assets turnover, but primarily due to the financial leverage.
Dig deeper into these levers. The sharp improvement in GMCR’s profit margin is due to the large
growth rate of net income over that of sales. However, the gross margin has fallen over this period,
which means the growth rate of COGS is bigger than that of sales, while both operating margin and
EBITDA margin growing, which means expenses except COGS increase not as fast as sales. This is
primarily due to the proportion of SG&A expenses to total assets continues to fall, which decrease from
2007’s 18.1% to 2012’s 18.2%.
The assets turnover shows a downtrend in these years, which means poor asset utilization efficiency. We
are inclined to attribute this decline to the rapid increase of inventory and receivable. In terms of
absolute amount, the proportion of receivable is around 10% of total assets, and the proportion of
inventory to total asset is increasing and is around 20%. In terms of their turnovers, especially the
inventory turnover, it declines from 2007’s 5.4 to 2012’s 3.4 and touched a 2.6’s bottom in 2011. Both

the absolute amount and turnover of inventory show GMCR is in hard time selling their goods, which
results in the poor efficiency of asset usage.
Seemingly, GMCR’s leverage and liquidity ratios show its growing conservatism. The decline of both
equity multiplier and total debt to equity reveals the less growth rate of liabilities. Meanwhile, liquidity,
as evidenced by the current and quick ratios is generally rising. In fact, some problems are covered. In
terms of leverage, GMCR finances a lot by issuing common stocks and borrowing long-term debt, most
of which are used for acquisitions. Large issuance increasing charged to equity account explains the
decline of financial leverage. The funds are mostly used for acquisitions rather than fixed assets or R&D,
which will harm its continuous profitability. The interest coverage ratio fluctuates greatly, which results
from the fluctuation of EBIT and interest expenses. In terms of liquidity, comparing current ratio with
quick ratio, we find a big gap between these two ratios, which primarily results from the large inventory.
This implies a potential problem on GMCR’s liquidity. Its quick ratio is less than 1 in several years, and
this is primarily due to GMCR’s cash and cash equivalents are less than 1% of its total assets in general
years. What’s more, receivable continuously increasing make up more than 10% of total assets, which
limits liquidity. From theses points, good ratios cannot cover up GMCR’s liquidity problem.
In DuPont analysis, we focus on ROE and not take market value into consideration. Even though ROE
can influence a company’s market value, but for further analysis, we are supposed to use market value to
confirm the real value.
WHETHER ACCOUNTING METHODS ARE AGGRESSIVE?
Revenue recognition method is obviously aggressive. As stated in 10-K, revenue is recognized “in some
cases upon product shipment”. This leaves a possibility for GMCR to inflate sales via channel stuffing.
What’s more, “Significant customer credit risk and supply risk” policy does not require collateral from
customers according to their historical payment, so it must be highly doubtful that whether the company
can receive enough money from the accounts receivable, on the other hand, the inflated revenue will
mislead the users of financial statement to believe GMCR is profitable. In short, accounting policies
GMCR use in some extent is aggressive and would lead to unrealistic disclosure of its financial data.
RECOMMENDATION
GMCR performed not as beautifully as its annual reports presented. After digging deep into financial
figures, we determined that GMCR has inflated its sales revenue, which could mislead investors. In
short, heavily stored inventory level, ineffectively use of cash in investing expensive acquisitions, poor
operating cash flow conditions and its urgent patent issues together raise serious concern about GMCR’s
future operation.

GMCR analysis of financial problems

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