Fin Man 1, Chapter 3 Lecture Hand-outs
Free Cash Flow Business Analysis A group of investors is considering buying the Wheelwright Wheelwri ght Corporation, but does not want to contribute to the company’s nancial support after the purchase. Wheelwright’s management has oered the following nancial statements covering last year (! omitted"# Income Statement
Balance Sheets $eginning
%nding
A&&%'& &ales
))
C-&
Cash /0
Depreciation -ross !argin
6
Expenses 25 EBIT 5 Interest 7 EBT 2& Tax & 'et Income 2" Cost of -oods &old
* Accts 1eceivable
Inventory
*)
+ /
12 Current Assets
Fixed Assets !ross Acc#m Deprec 'et Fixed Assets Total Total Assets
2) 7 /
1"" $12% &&
115 $1&% (7
11(
1
/*
34A$434'4%& 5 %674'8 Accts 9ayable Accr#als )#rrent *ia+ilities De+t E,#ity Total Total *ia+ilities . E,#ity
:
2
6 2 71 25
& 2( 5( -5
11(
1
Wheelwright paid no dividends and sold sold no new stoc; during the year year.. 'he rm’s ta< rate is /)=. m a;e a recommendation as to REQUIRED: a. >evelop Wheelwright’s free cash ?ow and ma;e whether it seems to be an appropriate ac@uisition for the investors. b. Assume that the investors will purchase the company subect to its eoes that change your recommendation
SLU!I": a. Dirst Dirst calculate Wheelwright’s net operating prot and operating cash ?ow
"#$! % E&I!'1-!( % )3* '1-+3( % )+* and
peratin. Cash F/o0 % "#$! Depreciation % )+* )2 % )3+* 'hen subtract increases in gross
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Fin Man 1, Chapter 3 Lecture Hand-outs
FCF % peratin. Cash F/o0 4 Increase in Fi5ed $ssets - Increase in Current $ccounts % )3+* - )1* - )1 % )1+* &ince free cash ?ow is substantially positive and the potential buyers are not interested in further investment, it seems that Wheelwright is an appropriate ac@uisition candidate. b. Consideration of servicing Wheelwright’s debt leads to a concept ;nown as free cash ?ow to e@uity (DCD%". 'his is what remains for stoc;holders after the rm uses cash to pay interest and ma;e any payments re@uired to reduce principal. &ince interest is deductible, we can consider its cash ?ow implications after ta< by multiplying by (F'". 4nterest after ta< G 4nterest (F'" G : (F./" G 0.+ &ubtracting that from free cash ?ow implies that Wheelwright generates almost )! per year that’s available to pay o debt andHor distribute to shareholders. 7nless the debt re@uires unusually large principal payments in the short run, the rm still appear s to meet the investor’s re@uirements
Common Size Statements *inden )orp/ has a 1"0 maret share in its ind#stry/ Belo are income statements $34% or *inden and or the ind#stry/ *inden Ind#stry Sales 36""" 36-""" )ost o !oods Sold 2"" 65" !ross 4arin 2&"" "5" Expenses8 Sales and 4aretin -" &5" Enineerin 225 265" Finance and Administration 65" -56" Total Expenses 1"5 11"6" EBIT Interest Expense EBT Tax 'et Income
1-(5 2" 1265 5"" 765
1(2(" -5"" 1-7(" 562" (17"
REQUIRED:
Develop common si9ed income statements or *inden and the ind#stry as a hole/ SOLUTION:
Sales )ost o !oods Sold !ross 4arin Expenses8 Sales and 4aretin Enineerin Finance and Administration Total Expenses
*inden 36""" 2"" 2&""
0 1""/" 5/ -7/7
Ind#stry 36-""" 65" "5"
0 1""/" 52/6 -7/-
-" 225 65" 1"5
7/2 /& 1"/& 21/&
&5" 265" -56" 11"6"
6/" -/1 7/1 17/2
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Fin Man 1, Chapter 3 Lecture Hand-outs
EBIT Interest Expense EBT Tax 'et Income
1-(5 2" 1265 5"" 765
2-/( /& 21/1 &/ 12/&
1(2(" -5"" 1-7(" 562" (17"
"/1 7/" 2/1 &/& 1-/
RATIO ANALYSIS Axtel )ompany has the olloin inancial statements8
In addition Axtel retired stoc or 31"""""" and paid a dividend o 31727"""/ Depreciation or the year as 31166"""/ )onstr#ct a Statement o )ash Flos or Axtel or 2""1/ $ Hint 8 :etirin stoc means +#yin it +ac rom shareholders/ Ass#me the p#rchase as made at +oo val#e and treat it lie a neative sale o stoc/% REQUIRED:
)alc#late all o the ratios disc#ssed in the chapter or the Axtel )ompany o pro+lem 5/ Ass#me Axtel had leasin costs o 37267 in 2";1 and had 126&""" shares o stoc o#tstandin that ere val#ed at 32&/75 per share at year end/
SOLUTION:
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Fin Man 1, Chapter 3 Lecture Hand-outs
Current Ratio
)#rrent Assets < )#rrent *ia+ilities
= 31167& < 3211" = 5/5
Qui! Ratio
>)#rrent Assets − Inventory? < )#rrent *ia+ilities = $31167& − 322"% < 3211" = -/" A"era#e Colletion $erio% &AC$'
>Accts :ec < Sales? × 6"
= >$355& < 36227% × 6"? = 55/5 days
In"entory Turno"er
)@!S < Inventory
= 31((25 < 322" = 6/2 × @:
Sales < Inventory
= 36227 < 322" = 11/×
Fi(e% Asset Turno"er
Sales < Fixed Assets
= 36227 < 311"-7 = /×
Total Asset Turno"er
Sales < Total Assets = 36227 < 322725 = 1/6 × )e*t Ratio
>*on Term De+t )#rrent *ia+ilities? < Total Assets = $36""2 3211"% < 322725 = 5/70 )e*t to +,uity Ratio
*on Term De+t8 E,#ity
= 36""2 8 31-61 = /-181
Times Interest +arne% &TI+'
EBIT < Interest = 35-- < 371 = 7/6× Cash Co"era#e
>EBIT Depreciation? < Interest = $35-- 31166% < 371 = (/ Fi(e% Char#e Co"era#e
>EBIT *ease ayments? < >Interest *ease ayments? = $35-- 37267% < $371 37267% = 1/6×
Return on Sales
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Fin Man 1, Chapter 3 Lecture Hand-outs
'et Income < Sales = 3116 < 36227 = &/60 Return on Assets
'et Income < Total Assets = 3116 < 322725 = 1/70 Return on +,uity
'et Income < E,#ity = 3116 < 31-61 = 21/0 $rie +arnin#s Ratio &$-+' First calc#late the Earnins per Share $ES%
ES
= 'et Income < C shares o#tstandin = 3116 < 1/26& million = 32/-6
Then
= Stoc rice < ES = 32&/75 < 32/-6 = 11/7
.ar!et to Boo! /alue Ratio First calc#late the Boo al#e per Share
B per Share = E,#ity < C shares o#tstandin = 31-61 < 1/26& million = 311/52 Then 4aret to Boo al#e
= Stoc rice < B per share = 32&/75 < 311/52 = 2/5
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