10. 10
Solvency Analysis
Solvency is the ability of a business to meet its
financial obligations (debts) as they are due.
Solvency analysis focuses on the ability of a
business to pay or otherwise satisfy its current
and noncurrent liabilities.
This ability is normally assessed by examining
balance sheet relationships.
11. 11
Solvency Measures — The Short-Term Creditor
Current assets $550,000 $533,000
Current liabilities 210,000 243,000
Working capital $340,000 $290,000
Current ratio 2.6 2.2
Working Capital and Current Ratio
Use: To indicate the ability to meet
currently maturing obligations.
Divide
current
assets by
current
liabilities
2003 2002
12. 12
Solvency Measures — The Short-Term Creditor
Acid-Test Ratio
Use: To indicate instant debt-paying ability.
2003 2002
Quick assets:
Cash $ 90,500 $ 64,700
Marketable securities 75,000 60,000
Accounts receivable (net) 115,000 120,000
Total $280,500 $244,700
Current liabilities $210,000 $243,000
Acid-test ratio 1.3 1.0
13. 13
Solvency Measures — The Short-Term Creditor
Accounts Receivable Turnover
Use: To assess the efficiency in collecting
receivables and in the management of credit.
Net sales on account $1,498,000 $1,200,000
Accounts receivable (net):
Beginning of year $ 120,000 $ 140,000
End of year 115,500 120,000
Total $ 235,000 $ 260,000
Average $ 117,500 $ 130,000
Accts. receivable turnover 12.7 9.2
2003 2002
14. 14
Solvency Measures — The Short-Term Creditor
Number of Days’ Sales in Receivables
Use: To assess the efficiency in collecting
receivables and in the management of credit.
2003 2002
Accounts receivable (net)
end of year $ 115,000 $ 120,000
Net sales on account $1,498,000 $1,200,000
Average daily sales on
on account (sales 365) $ 4,104 $ 3,288
Number of days’ sales in
receivables 28 36.5
15. 15
Solvency Measures — The Short-Term Creditor
Inventory Turnover
Use: To assess the efficiency in the
management of inventory.
2003 2002
Cost of goods sold $1,043,000 $ 820,000
Inventories:
Beginning of year $ 283,000 $ 311,000
End of year 264,000 283,000
Total $ 547,000 $ 594,000
Average $ 273,500 $ 297,000
Inventory turnover 3.8 2.8
16. 16
Solvency Measures — The Short-Term Creditor
Number of Days’ Sales in Inventory
Use: To assess the efficiency in the
management of inventory.
2003 2002
Inventories, end of year $ 264,000 $283,000
Cost of goods sold $1,043,000 $820,000
Average daily cost of
goods sold
(COGS 365) $ 2,858 $ 2,247
Number of days’ sales
in inventory 92.4 125.9
17. 17
Solvency Measures — The Long-Term Creditor
Use: To indicate the margin of safety
to long-term creditors.
2003 2002
Fixed assets (net) $444,500 $470,000
Long-term liabilities $100,000 $200,000
Ratio of fixed assets to
long-term liabilities 4.4 2.4
Ratio of Fixed Assets to Long-Term Liabilities
18. 18
Solvency Measures — The Long-Term Creditor
Ratio of Liabilities to Stockholders’ Equity
Use: To indicate the margin of safety to creditors.
2003 2002
Total liabilities $310,000 $443,000
Total stockholders’ equity $829,500 $787,500
Ratio of liabilities to
stockholders’ equity 0.37 0.56
19. 19
Solvency Measures — The Long-Term Creditor
Number of Times Interest Charges Earned
Use: To assess the risk to debtholders in terms
of number of times interest charges were
earned.
2003 2002
Income before income tax $ 900,000 $ 800,000
Add interest expense 300,000 250,000
Amount available for interest $1,200,000 $1,050,000
Number of times earned 4.0 4.2
20. 20
Profitability Analysis
Profitability is the ability of an entity to earn profits.
This ability to earn profits depends on the
effectiveness and efficiency of operations as well
as resources available.
Profitability analysis focuses primarily on the
relationship between operating results reported in
the income statement and resources reported in
the balance sheet.
21. 21
Profitability Measures — The Common Stockholder
Ratio of Net Sales to Assets
2003 2002
Net sales $1,498,000 $1,200,000
Total assets:
Beginning of year $1,053,000 $1,010,000
End of year 1,044,500 1,053,000
Total $2,097,500 $2,063,000
Average $1,048,750 $1,031,500
Excludes long-term investments
22. 22
Profitability Measures — The Common Stockholder
Ratio of Net Sales to Assets
Use: To assess the effectiveness
of the use of assets.
2003 2002
Net sales on account $1,498,000 $1,200,000
Total assets:
Beginning of year $1,053,000 $1,010,000
End of year 1,044,500 1,053,000
Total $2,097,500 $2,063,000
Average $1,048,750 $1,031,500
Ratio of net sales to assets 1.4 1.2
23. 23
Profitability Measures — The Common Stockholder
Rate Earned on Total Assets
Use: To assess the profitability of the assets.
2003 2002
Net income $ 91,000 $ 76,500
Plus interest expense 6,000 12,000
Total $ 97,000 $ 88,500
Total assets:
Beginning of year $1,230,500 $1,187,500
End of year 1,139,500 1,230,500
Total $2,370,000 $2,418,000
Average $1,185,000 $1,209,000
Rate earned on total assets 8.2% 7.3%
24. 24
Profitability Measures — The Common Stockholder
Rate Earned on Stockholders’ Equity
Use: To assess the profitability of the
investment by stockholders.
Net income $ 91,000 $ 76,500
Stockholders’ equity:
Beginning of year $ 787,500 $ 750,000
End of year 829,500 787,500
Total $1,617,000 $1,537,500
Average $ 808,500 $ 768,750
Rate earned on equity 11.3% 10.0%
2003 2002
25. 25
Profitability Measures — The Common Stockholder
Rate Earned on Common Stockholders’ Equity
Use: To assess the profitability of the
investment by common stockholders.
2003 2002
Net income $ 91,000 $ 76,500
Less preferred dividends 9,000 9,000
Remainder—common stock $ 82,000 $ 67,500
Common stockholders’ equity:
Beginning of year $ 637,500 $ 600,000
End of year 679,500 637,500
Total $1,317,000 $1,237,500
Average $ 658,500 $ 618,750
Rate earned on common equity 12.5% 10.9%
26. 26
Profitability Measures — The Common Stockholder
Earnings Per Share on Common Stock
2003 2002
Net income $ 91,000 $ 76,500
Less preferred dividends 9,000 9,000
Remainder—common stock $ 82,000 $ 67,500
Shares of common stock 50,000 50,000
Earnings per share on common $1.64 $1.35
Use: To assess the profitability of the
investment by common stockholders.
27. 27
Profitability Measures — The Common Stockholder
Price-Earnings Ratio
Use: To indicate future earnings prospects,
based on the relationship between
market value of common stock and
earnings.
2003 2002
Market price per share of common $41.00 $27.00
Earnings per share on common $ 1.64 $ 1.35
Price-earnings ratio on common 25 20
28. 28
Profitability Measures — The Common Stockholder
Dividend Yield
Use: To indicate the rate of return to common
stockholders in terms of dividends.
2003 2002
Dividends per share of common $ 0.80 $ 0.60
Market price per share of common $41.00 $27.00
Dividend yield on common stock 1.95% 2.22%
29. 29
Corporate Annual Reports
1. Financial Highlights
2. President’s Letter to the Stockholders
3. Management Report
4. Independent Auditors’ Report
5. Historical Summary
In addition to financial statements, the
annual report includes:
