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1998 1999
TA B L E 13.16
Income Statement
MasterToy, Inc.:
Revenue $4,750 $5,140
Actual 1998 and
Estimated 1999 Cost of goods sold 2,400 2,540
financial statements Selling, general, and administrative 1,400 1,550
for fiscal year ending Depreciation 180 210
December 31 Goodwill amortization 10 10
($ millions, except
Operating income $ 760 $ 830
per-share data)
Interest expense 20 25
Income before taxes $ 740 $ 805
Income taxes 265 295
Net income $ 475 $ 510
Earnings per share $1.79 $1.96
Average shares outstanding (millions) 265 260
Balance Sheet
Cash $ 400 $ 400
Accounts receivable 680 700
Inventories 570 600
Net property, plant, and equipment 800 870
Intangibles 500 530
Total assets $2,950 $3,100
Current liabilities $ 550 $ 600
Long-term debt 300 300
Total liabilities $ 850 $ 900
Stockholders™ equity 2,100 2,200
Total liabilities and equity $2,950 $3,100
Book value per share $7.92 $8.46
Annual dividend per share 0.55 0.60


16. In a cash flow statement prepared in accordance with FASB 95, cash flow from
investing activities excludes:
a. Cash paid for acquisitions.
b. Cash received from the sale of fixed assets.
c. Inventory increases due to a new (internally developed) product line.
d. All of the above.
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17. Cash flow from operating activities includes:
a. Inventory increases resulting from acquisitions.
b. Inventory changes due to changing exchange rates.
c. Interest paid to bondholders.
d. Dividends paid to stockholders.
18. Janet Ludlow is a recently hired analyst. After describing the electric toothbrush
industry, her first report focuses on two companies, QuickBrush Company and
SmileWhite Corporation, and concludes:
QuickBrush is a more profitable company than SmileWhite, as indicated by the 40% sales
growth and substantially higher margins it has produced over the last few years. Smile-
White™s sales and earnings are growing at a 10% rate and produce much lower margins. We
Bodie’Kane’Marcus: IV. Security Analysis 13. Financial Statement © The McGraw’Hill
Essentials of Investments, Analysis Companies, 2003
Fifth Edition




484 Part FOUR Security Analysis


December December December
TA B L E 13.17 Income Statement 1997 1998 1999
QuickBrush
Revenue $3,480 $5,400 $7,760
Company
financial Cost of goods sold 2,700 4,270 6,050
statements: Selling, general, and admin. expense 500 690 1,000
Yearly data Depreciation and amortization 30 40 50
($000 except
Operating income (EBIT) $250 $400 $660
per share data)
Interest expense 0 0 0
Income before taxes $250 $400 $660
Income taxes 60 110 215
Income after taxes $190 $290 $445
Diluted EPS $0.60 $0.84 $1.18
Average shares outstanding (000) 317 346 376

December December December 3-Year
Financial Statistics 1997 1998 1999 Average

COGS as % of sales 77.59% 79.07% 77.96% 78.24%
General & admin. as % of sales 14.37 12.78 12.89 13.16
Operating margin (%) 7.18 7.41 8.51
Pretax income/EBIT (%) 100.00 100.00 100.00
Tax rate (%) 24.00 27.50 32.58

December December December
Balance Sheet 1997 1998 1999

Cash and cash equivalents $460 $50 $480
Accounts receivable 540 720 950
Inventories 300 430 590
Net property, plant, and equipment 760 1,830 3,450
Total assets $2,060 $3,030 $5,470
Current liabilities $860 $1,110 $1,750
Total liabilities $860 $1,110 $1,750
Stockholders™ equity 1,200 1,920 3,720
Total liabilities and equity $2,060 $3,030 $5,470
Market price per share $21.00 $30.00 $45.00
Book value per share $3.79 $5.55 $9.89
Annual dividend per share $0.00 $0.00 $0.00
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do not think SmileWhite is capable of growing faster than its recent growth rate of 10%
whereas QuickBrush can sustain a 30% long-term growth rate.

a. Criticize Ludlow™s analysis and conclusion that QuickBrush is more profitable, as
defined by return on equity (ROE), than SmileWhite and that it has a higher
sustainable growth rate. Use only the information provided in Tables 13.17 and
13.18. Support your criticism by calculating and analyzing:
• The five components that determine ROE.
• The two ratios that determine sustainable growth: ROE and plowback.
Bodie’Kane’Marcus: IV. Security Analysis 13. Financial Statement © The McGraw’Hill
Essentials of Investments, Analysis Companies, 2003
Fifth Edition




485
13 Financial Statement Analysis


December December December
TA B L E 13.18 Income Statement 1997 1998 1999
SmileWhite
Revenue $104,000 $110,400 $119,200
Corporation
financial Cost of goods sold 72,800 75,100 79,300
statements: Selling, general, and admin. expense 20,300 22,800 23,900
Yearly data Depreciation and amortization 4,200 5,600 8,300
($000 except
Operating income $ 6,700 $ 6,900 $ 7,700
per share data)
Interest expense 600 350 350
Income before taxes $ 6,100 $ 6,550 $ 7,350
Income taxes 2,100 2,200 2,500
Income after taxes $ 4,000 $ 4,350 $ 4,850
Diluted EPS $2.16 $2.35 $2.62
Average shares outstanding (000) 1,850 1,850 1,850

December December December 3-Year
Financial Statistics 1997 1998 1999 Average

COGS as % of sales 70.00% 68.00% 66.53% 68.10%
General & admin. as % of sales 19.52 20.64 20.05 20.08
Operating margin (%) 6.44 6.25 6.46
Pretax income/EBIT (%) 91.04 94.93 95.45
Tax rate (%) 34.43 33.59 34.01

December December December
Balance Sheet 1997 1998 1999

Cash and cash equivalents $ 7,900 $ 3,300 $ 1,700
Accounts receivable 7,500 8,000 9,000
Inventories 6,300 6,300 5,900
Net property, plant, and equipment 12,000 14,500 17,000
Total assets $33,700 $32,100 $33,600
Current liabilities $ 6,200 $ 7,800 $ 6,600
Long-term debt 9,000 4,300 4,300
Total liabilities $15,200 $12,100 $10,900
Stockholders™ equity 18,500 20,000 22,700
Total liabilities and equity $33,700 $32,100 $33,600
Market price per share $23.00 $26.00 $30.00
Book value per share $10.00 $10.81 $12.27
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Annual dividend per share $1.42 $1.53 $1.72


b. Explain how QuickBrush has produced an average annual earnings per share (EPS)
growth rate of 40% over the last two years with an ROE that has been declining. Use
only the information provided in Table 13.17.
19. The DuPont formula defines the net return on shareholders™ equity as a function of the
following components:
• Operating margin
• Asset turnover
• Interest burden
Bodie’Kane’Marcus: IV. Security Analysis 13. Financial Statement © The McGraw’Hill
Essentials of Investments, Analysis Companies, 2003
Fifth Edition




486 Part FOUR Security Analysis


1998 2002
TABLE 13.19
Income statement data
Income statements
Revenues $542 $979
and balance sheets
Operating income 38 76
Depreciation and amortization 3 9
Interest expense 3 0
Pretax income 32 67
Income taxes 13 37
Net income after tax $ 19 $ 30
Balance sheet data
Fixed assets $ 41 $ 70
Total assets 245 291
Working capital 123 157
Total debt 16 0
Total shareholders™ equity $159 $220


• Financial leverage
• Income tax rate
Using only the data in Table 13.19:
a. Calculate each of the five components listed above for 1998 and 2002, and calculate
the return on equity (ROE) for 1998 and 2002, using all of the five components.
b. Briefly discuss the impact of the changes in asset turnover and financial leverage on
the change in ROE from 1998 to 2002.



1. Use Market Insight (www.mhhe.com/edumarketinsight) to find the profit margin
and asset turnover for firms in several industries. What seems to be the
relationship between margin and turnover? Does this make sense to you?
2. Choose a few firms in similar lines of business, and compare their return on
assets. Why does one firm do better or worse than others? Use the DuPont
formula to guide your analysis. For example, compare debt ratios, asset
turnover, and profit margins.
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Bodie’Kane’Marcus: IV. Security Analysis 13. Financial Statement © The McGraw’Hill
Essentials of Investments, Analysis Companies, 2003
Fifth Edition




487
13 Financial Statement Analysis




WEBMA STER
Financial Statement Analysis
Go to http://moneycentral.msn.com/investor and review the financial results for EMC
Corporation (EMC) and Network Appliance Inc. (NTAP). The financial result area has
sections on highlights, key ratios, and statements. You will need information on all
three to answer the following questions.
1. Compare the price-to-book and price-to-sales ratios of the companies. How do
they compare with the average for the S&P 500?
2. Are there any substantial differences in the gross and net profit margins for
the companies?
3. Compare the profitability ratios of the companies as measured by return on
equity and return on assets.
4. Are there any significant differences in efficiency ratios?
5. Are there any significant differences in the financial condition ratios?
6. Compare the growth in sales and income for the two companies over the last
five years.




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