Transcript
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Financial
rat io Analys is
Financial Statements
A Possible Framework for Analysis
Balance Sheet Ratios
Income Statement and Income
Statement/Balance Sheet RatiosTrend Analysis
Common-Size and Index Analysis
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Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 5, Slide #2
Ratio Analysis
Liquidity Measures a firms ability to meet its current obligations
Leverage (borrowing capacity) Measures the degree of protector for long-term creditors
Profitability Measures the earning ability of a firm
Cash flow Indicate liquidity, borrowing capacity, and profitability
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Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 5, Slide #3
Ratio Analysis
A ratio alone means nothing Must compare ratios to other ratios such as:
Prior ratios
Competitor ratios
Industry ratios Predetermined standards
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Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 5, Slide #4
Common-Size Analysis
The use of percentages is usually preferable to
the use of absolute amounts
Vertical analysis
All amounts of a year expressed as a percentage ofa base amount (e.g., net sales revenue, total
assets)
Horizontal analysis
Amounts for comparative years are expressed as a
percentage of the base year amount
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Examples o f External Uses
o f Statemen t Analys is
Trade Credito rs-- Focus on theliquidity of the firm.
Bondholders-- Focus on thelong-term cash flow of the firm.
Shareholders-- Focus on theprofitability and long-term health ofthe firm.
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Examples o f In ternal Uses
o f Statemen t Analys is
Plan-- Focus on assessing the currentfinancial position and evaluatingpotential firm opportunities.
Contro l-- Focus on return on investmentfor various assets and asset efficiency.
Understand-- Focus on understandinghow suppliers of funds analyze the firm.
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Framework for
Financial Analys is
Analyt ical Tools Used
Sources and Uses Statement
Statement of Cash Flows
Cash Budgets
1. Analysis of the fundsneeds of the firm.
Trend / Seasonal Component
How much funding will berequired in the future?
Is there a seasonalcomponent?
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Framework for
Financial Analys is
Health o f a Firm
Financial Ratios
1. Individually
2. Over time3. In combination
4. In comparison
1. Analysis of the fundsneeds of the firm.
2. Analysis of the financialcondition and profitabilityof the firm.
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Framework for
Financial Analys is
Examples:
Volatility in sales
Volatility in costs
Proximity to break-evenpoint
1. Analysis of the fundsneeds of the firm.
2. Analysis of the financialcondition and profitabilityof the firm.
3. Analysis of the businessrisk of the firm.
Bus iness r isk relates tothe risk inherent in theoperations of the firm.
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Framework for
Financial Analys is
A FinancialManager
mustconsider allthree jointly
when
determiningthe
financingneeds of the
firm.
Determiningthe
financingneeds of
the firm.
1. Analysis of the fundsneeds of the firm.
2. Analysis of the financialcondition and profitabilityof the firm.
3. Analysis of the businessrisk of the firm.
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Framework for
Financial Analys is
Negotiationswith
suppliers of
capital.
Determiningthe
financingneeds of
the firm.
1. Analysis of the fundsneeds of the firm.
2. Analysis of the financialcondition and profitabilityof the firm.
3. Analysis of the businessrisk of the firm.
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Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 6, Slide #14
Operating Cycle
The time period between the acquisition of
goods and the final cash realization from sales
Purchase inventory
Cash sale to customer
Purchase material
Produce finished
product
Sell to customer oncredit
Collect amount due
from customer
Retail and Wholesale Manufacturing
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Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 6, Slide #15
Working Capital
Subject to understatement if certain assets areunderstated (i.e., LIFO inventory)
Inter-firm comparison is of no value
Current Assets Current Liabilities
= Working Capital
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Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 6, Slide #16
Current Ratio
Current AssetsCurrent Liabilities
Acid-Test (Quick)Ratios
Current Assets - InventoryCurrent Liabilities
Cash Equivalents+ Marketable Securities+ Net Receivables
Current Liabilities
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Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 6, Slide #17
Current Ratio
Determines short-term debt-paying ability Focus is on the relationship between current
assets and current liabilities
Inter-firm comparison is possible and meaningful
Traditional benchmark: 2.00
Decreased current ratio indicates lower liquidity
Industry averages provide contextual benchmark
Considerations Quality of inventory and receivables
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Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 6, Slide #18
Acid-Test (Quick) Ratio
Measures the immediate liquidity of the firm Relates the most liquid assets to current
liabilities
Exclude inventory
More conservative variation: Also exclude other
current assets that do not represent current cash
flow
Traditional benchmark: 1.00
Industry averages provide contextual benchmark
Consideration
Quality of receivables
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Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 6, Slide #19
Cash Ratio
Extremely conservative
Unrealistic for a firm to have sufficient cash andsecurities to cover all its current liabilities
Appropriate context
Firms with naturally slow-moving inventory and
receivables
Firms that are highly speculative
Cash Equivalents + Marketable SecuritiesCurrent Liabilities
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Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 6, Slide #20
Sales to Working Capital
Measures the turnover of working capital per year
Compare with Historical data
Industry competitors
Industry averages
Assessment Low: potentially unprofitable use of working capital
High: potential undercapitalization
SalesAverage Working Capital
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Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 6, Slide #21
Other Liquidity Considerations
Liquidity is better than indicated by financialstatements
Unused bank credit lines
Noncurrent assets that can be converted to cash
quickly
Liquidity is weaker than indicated by financial
statements
Co-signer on debt of another entity
Subject to recourse obligation on discounted
receivables
Significant contingent (unaccrued) liabilities
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L iqu id i ty Rat ios
Current
Current AssetsCurrent Liabilities
For Basket Wonders
December 31, 2007
Shows a firms
ability to cover itscurrent liabilitieswith its current
assets.
Balance Sheet Ratios
Liquidity Ratios
$1,195$500
= 2.39
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L iqu id i ty Rat io
Compar isons
BW Industry
2.39 2.15
2.26 2.09
1.91 2.01
Year
2007
2006
2005
CurrentRatio
Ratio is stronger than the industry average.
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L iqu id i ty Rat ios
Acid -Test (Quick)
Current Assets - Inv
Current Liabilities
For Basket Wonders
December 31, 2007
Shows a firms
ability to meetcurrent liabilities
with its most liquid
assets.
Balance Sheet Ratios
Liquidity Ratios
$1,195 - $696$500
= 1.00
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L iqu id i ty Rat io
Compar isons
BW Industry
1.00 1.25
1.04 1.23
1.11 1.25
Year
2007
2006
2005
Acid-Test Ratio
Ratio is weaker than the industry average.
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Summary of the Liqu id i ty
Rat io Compar isons
Strong current ratio and weak acid-testratio indicates a potential problem in theinventories account.
Note that this industry has a relatively
high level of inventories.
Ratio BW Indus try
Current 2.39 2.15
Acid-Test 1.00 1.25
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Curren t Ratio -- Trend
Analys is Compar ison
Trend Analysis of Current Ratio
1.5
1.7
1.9
2.1
2.3
2.5
2005 2006 2007
Analysis Year
Ra
tioValue
BW
Industry
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Ac id-Tes t Ratio -- Trend
Analys is Compar ison
Trend Analysis of Acid-Test Ratio
0.5
0.8
1.0
1.3
1.5
2005 2006 2007
Analysis Year
RatioValue
BW
Industry
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Summary of the Liqu id i ty
Trend Analyses
The current ratio for the industryhasbeen rising slowly at the same time the
acid-test ratio has been relatively stable. This indicates that inventoriesare a
significant problem for BW.
The current ratio for BWhas been risingat the same time the acid-test ratio has
been declining.
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Financ ial Leverage Ratios
Debt-to-Equity
Total Debt
Shareholders Equity
For Basket Wonders
December 31, 2007Shows the extent towhich the firm isfinanced by debt.
Balance Sheet Ratios
Financial LeverageRatios
$1,030$1,139
= .90
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Financ ial Leverage
Rat io Compar isons
BW Industry
.90 .90
.88 .90
.81 .89
Year
2007
2006
2005
Debt-to-Equity Ratio
BW has average debt utilization
relative to the industry average.
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Financ ial Leverage
Rat io Compar isons
BW Industry
.47 .47
.47 .47
.45 .47
Year
2007
2006
2005
Debt-to-Total-Asset Ratio
BW has average debt utilization
relative to the industry average.
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Financ ial Leverage Ratios
Total Capital izat ion
Long-term DebtTotal Capitalization
For Basket WondersDecember 31, 2007Shows the relativeimportance of long-term
debt to the long-termfinancing of the firm.
Balance Sheet Ratios
Financial LeverageRatios
$530$1,669
= .32
(i.e., LT-Debt + Equity)
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Financ ial Leverage
Rat io Compar isons
BW Industry
.32 .30
.32 .31
.37 .32
Year
2007
2006
2005
Total Capitalization Ratio
BW has average long-term debt utilization
relative to the industry average.
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Coverage
Rat io Compar isons
BW Industry
3.56 5.19
4.35 5.02
10.30 4.66
Year
2007
2006
2005
Interest Coverage Ratio
BW has below average interest coverage
relative to the industry average.
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Coverage Ratio -- Trend
Analys is Compar ison
Trend Analysis of Interest Coverage Ratio
3.0
5.0
7.0
9.0
11.0
2005 2006 2007
Analysis Year
RatioValue
BW
Industry
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Summary of the Coverage
Trend Analys is
This indicates that low earnings (EBIT)
may be a potential problem for BW. Note, we know that debt levels are in
line with the industryaverages.
The interest coverage ratio for BWhasbeen falling since 2005. It has been
below industryaverages for the pasttwo years.
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Act iv i ty Rat ios
Avg Col lect ion Period
Days in the Year
Receivable Turnover
For Basket WondersDecember 31, 2007
Average number of daysthat receivables are
outstanding.
(or RT in days)
Income Statement /Balance Sheet
Ratios
Activity Ratios
3655.61
= 65 days
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Act iv i ty
Rat io Compar isons
BW Industry
65.0 65.7
71.1 66.3
83.6 69.2
Year
2007
2006
2005
Average Collection Period
BW has improved the average collection
period to that of the industry average.
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Act iv i ty Rat ios
Payab le Turnover (PT)
Annual Credit Purchases
Accounts Payable
For Basket WondersDecember 31, 2007
Indicates thepromptness of paymentto suppliers by the firm.
Income Statement /Balance Sheet
Ratios
Activity Ratios
$1551$94
= 16.5
(Assume annual creditpurchases = $1,551.)
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Act iv i ty Rat ios
PT in Days
Days in the Year
Payable Turnover
For Basket Wonders
December 31, 2007Average number of daysthat payables are
outstanding.
Income Statement /Balance Sheet
Ratios
Activity Ratios
36516.5
= 22.1 days
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Act iv i ty
Rat io Compar isons
BW Industry
22.1 46.7
25.4 51.1
43.5 48.5
Year
2007
2006
2005
Payable Turnover in Days
BW has improved the PT in Days.
Is this good?
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Act iv i ty Rat ios
Invento ry Turnover
Cost of Goods Sold
Inventory
For Basket Wonders
December 31, 2007Indicates theeffectiveness of the
inventory management
practices of the firm.
Income Statement /Balance Sheet
Ratios
Activity Ratios
$1,599$696
= 2.30
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Act iv i ty
Rat io Compar isons
BW Industry
2.30 3.45
2.44 3.76
2.64 3.69
Year
2007
2006
2005
Inventory Turnover Ratio
BW has a very poor inventory turnover ratio.
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Invento ry Turnover Ratio --
Trend Analys is Compar ison
Trend Analysis of Inventory Turnover Ratio
2.0
2.5
3.0
3.5
4.0
2005 2006 2007
Analysis Year
RatioValue
BW
Industry
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Act iv i ty Rat ios
Total Asset Turnover
Net Sales
Total Assets
For Basket Wonders
December 31, 2007Indicates the overalleffectiveness of the firmin utilizing its assets to
generate sales.
Income Statement /Balance Sheet
Ratios
Activity Ratios
$2,211$2,169
= 1.02
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Prof i tab i l ity Ratios
Gross Prof i t Margin
Gross Profit
Net Sales
For Basket Wonders
December 31, 2007Indicates the efficiencyof operations and firm
pricing policies.
Income Statement /Balance Sheet
Ratios
Profitability Ratios
$612$2,211
= .277
P fi t bi l i t
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Prof i tabi l i ty
Rat io Compar isons
BW Industry
27.7% 31.1%
28.7 30.8
31.3 27.6
Year
2007
2006
2005
Gross Profit Margin
BW has a weak Gross Profit Margin.
G P fit M i
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Gross Prof i t Margin --
Trend Analys is Compar ison
Trend Analysis of Gross Profit Margin
25.0
27.5
30.0
32.5
35.0
2005 2006 2007
Analysis Year
R
atioValue(%)
BW
Industry
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Prof i tab i l ity Ratios
Net Pro f i t Margin
Net Profit after Taxes
Net Sales
For Basket Wonders
December 31, 2007Indicates the firmsprofitability after takingaccount of all expenses
and income taxes.
Income Statement /Balance Sheet
Ratios
Profitability Ratios
$91$2,211
= .041
P fi t bi l i t
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Prof i tabi l i ty
Rat io Compar isons
BW Industry
4.1% 8.2%
4.9 8.1
9.0 7.6
Year
2007
2006
2005
Net Profit Margin
BW has a poor Net Profit Margin.
N t P fit M i
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Net Pro fit Marg in --
Trend Analys is Compar ison
Trend Analysis of Net Profit Margin
4
5
6
7
8
9
10
2005 2006 2007
Analysis Year
R
atioValue(%
)
BW
Industry
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Prof i tab i l ity Ratios
Return on Investment
Net Profit after Taxes
Total Assets
For Basket Wonders
December 31, 2007Indicates theprofitability on the
assets of the firm (afterall expenses and taxes).
Income Statement /Balance Sheet
Ratios
Profitability Ratios
$91$2,160
= .042
P fi t bi l i t
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Prof i tabi l i ty
Rat io Compar isons
BW Industry
4.2% 9.8%
5.0 9.1
9.1 10.8
Year
2007
2006
2005
Return on Investment
BW has a poor Return on Investment.
R t I t t
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Return on Investment
Trend Analys is Compar ison
Trend Analysis of Return on Investment
4
6
8
10
12
2005 2006 2007
Analysis Year
R
atioValue(%
)
BW
Industry
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Prof i tab i l ity Ratios
Return on Equi ty
Net Profit after Taxes
Shareholders Equity
For Basket Wonders
December 31, 2007Indicates the profitabilityto the shareholders of
the firm (after allexpenses and taxes).
Income Statement /Balance Sheet
Ratios
Profitability Ratios
$91$1,139
= .08
Prof i tabi l i ty
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Prof i tabi l i ty
Rat io Compar isons
BW Industry
8.0% 17.9%
9.4 17.2
16.6 20.4
Year
2007
2006
2005
Return on Equity
BW has a poor Return on Equity.
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Return on Equ ity --
Trend Analys is Compar ison
Trend Analysis of Return on Equity
7.0
10.5
14.0
17.5
21.0
2005 2006 2007
Analysis Year
R
atioValue(%
)
BW
Industry
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R t E i t d
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Return on Equ i ty and
the Du Pont App roach
ROE2007 = .041x 1.02x 1.90=.080
ROEIndustry = .082x 1.17x 1.88= .179
Return On Equity = Net profit margin XTotal asset turnoverX
Equity Multiplier
Equity Multiplier =Total Assets
Shareholders Equity
Summary of the Prof i tabi l i ty
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Summary of the Prof i tabi l i ty
Trend Analyses
The profitability ratios for BWhave ALL been falling since 2005. Each has beenbelow the industryaverages for the pastthree years.
This indicates that COGSandadministrative costs may both be toohigh and a potential problem for BW.
Note, this result is consistent with the low
interest coverage ratio.
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Summary of Rat io Analyses
Inventories are too high.
May be paying off creditors
(accounts payable) too soon.
COGS may be too high.
Selling, general, andadministrative costs may be toohigh.
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Common -s ize Analys is
An analysis of percentagefinancial statements where all
balance sheet items are dividedby to tal assetsand all incomestatement items are divided by
net salesor revenues.
Basket Wonders Common
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Basket Wonders Common
Size Balance Sheets
Regular (thousands of $) Common-Size (%)
Assets 2005 2006 2007 2005 2006 2007
Cash 148 100 90 12.10 4.89 4.15
AR 283 410 394 23.14 20.06 18.17Inv 322 616 696 26.33 30.14 32.09
Other CA 10 14 15 0.82 0.68 0.69
Tot CA 763 1,140 1,195 62.39 55.77 55.09
Net FA 349 631 701 28.54 30.87 32.32LT Inv 0 50 50 0.00 2.45 2.31
Other LT 111 223 223 9.08 10.91 10.28
Tot Assets 1,223 2,044 2,169 100.0 100.0 100.0
Basket Wonders Common
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Basket Wonders Common
Size Balance Sheets
Regular (thousands of $) Common-Size (%)
Liab+Equity 2005 2006 2007 2005 2006 2007
Note Pay 290 295 290 23.71 14.43 13.37
Acct Pay 81 94 94 6.62 4.60 4.33Accr Tax 13 16 16 1.06 0.78 0.74
Other Accr 15 100 100 1.23 4.89 4.61
Tot CL 399 505 500 32.62 24.71 23.05
LT Debt 150 453 530 12.26 22.16 24.44Equity 674 1,086 1,139 55.11 53.13 52.51
Tot L+E 1,223 2,044 2,169 100.0 100.0 100.0
Basket Wonders Common
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Basket Wonders Common
Size Income Statemen ts
Regular (thousands of $) Common-Size (%)
2005 2006 2007 2005 2006 2007
Net Sales 1,235 2,106 2,211 100.0 100.0 100.0
COGS 849 1,501 1,599 68.7 71.3 72.3Gross Profit 386 605 612 31.3 28.7 27.7
Adm. 180 383 402 14.6 18.2 18.2
EBIT 206 222 210 16.7 10.5 9.5
Int Exp 20 51 59 1.6 2.4 2.7EBT 186 171 151 15.1 8.1 6.8
EAT 112 103 91 9.1 4.9 4.1
Cash Div 50 50 50 4.0 2.4 2.3
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Basket Wonders
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Basket Wonders
Indexed Balance Sheets
Regular (thousands of $) Indexed (%)
Assets 2005 2006 2007 2005 2006 2007
Cash 148 100 90 100.0 67.6 60.8
AR 283 410 394 100.0 144.9 139.2Inv 322 616 696 100.0 191.3 216.1
Other CA 10 14 15 100.0 140.0 150.0
Tot CA 763 1,140 1,195 100.0 149.4 156.6
Net FA 349 631 701 100.0 180.8 200.9LT Inv 0 50 50 100.0 inf. inf.
Other LT 111 223 223 100.0 200.9 200.9
Tot Assets 1,223 2,044 2,169 100.0 167.1 177.4
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Basket Wonders Indexed
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Basket Wonders Indexed
Income Statements
Regular (thousands of $) Indexed (%)
2005 2006 2007 2005 2006 2007
Net Sales 1,235 2,106 2,211 100.0 170.5 179.0
COGS 849 1,501 1,599 100.0 176.8 188.3Gross Profit 386 605 612 100.0 156.7 158.5
Adm. 180 383 402 100.0 212.8 223.3
EBIT 206 222 210 100.0 107.8 101.9
Int Exp 20 51 59 100.0 255.0 295.0EBT 186 171 151 100.0 91.9 81.2
EAT 112 103 91 100.0 92.0 81.3
Cash Div 50 50 50 100.0 100.0 100.0
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