CHAPTER 14

PERFORMANCE MEASUREMENT

Summary of Question TYPEs by LEARNING Objective, Level of difficulty, BLOOM’S TAXONOMY, CPA CODES, and AACSB Codes

LOD: E = Easy M = Medium H = Hard

Bloom’s: AP = Application C = Comprehension K = Knowledge

CPA: F = Financial Reporting

AACSB: AN = Analytic

Summary of Question TYPEs by LEARNING Objective, Level of difficulty, BLOOM’S TAXONOMY, CPA CODES, and AACSB Codes

(Cont’d)

LOD: E = Easy M = Medium H = Hard

Bloom’s: AP = Application C = Comprehension K = Knowledge

CPA: F = Financial Reporting

AACSB: AN = Analytic

Summary of Question TYPEs by LEARNING Objective, Level of difficulty, BLOOM’S TAXONOMY, CPA CODES, and AACSB Codes

(Cont’d)

LOD: E = Easy M = Medium H = Hard

Bloom’s: AN = Analysis AP = Application C = Comprehension K = Knowledge

CPA: C = Communication E = Professional and Ethical Behaviour F = Financial Reporting

AACSB: AN = Analytic C = Communication E = Ethics

SUMMARY OF LEARNING OBJECTIVES BY QUESTION TYPE

Note: TF = True-False MC = Multiple Choice Ma = Matching

Ex = Exercise SAE = Short-Answer Essay CP = CPA Questions

CHAPTER LEARNING OBJECTIVES

1. Explain and apply comparative analysis. Horizontal analysis is a technique for evaluating a series of data, such as line items in a company’s financial statements, by expressing them as percentage increases or decreases over two or more years (or periods of time). The horizontal percentage of a base-period amount is calculated by dividing the amount in a specific year (period) by a base-year (period) amount. This per-centage calculation normally covers multiple years (periods).

The horizontal percentage change for the period is calculated by dividing the dollar amount of the change between two years (or periods) by the prior-year (period) amount. This percentage calculation normally covers two years (or periods) only.

Vertical analysis is a technique for evaluating data within one year (or period) by expressing each item in a financial statement as a percentage of a relevant total (base amount) in that same financial statement. For example, the vertical percentage of a base amount can be determined by expressing each item on the statement of income as a percentage of revenue (or sales) or each item on the statement of financial position as a percentage of total assets by dividing the financial statement amount under analysis by the total asset base amount for that particular financial statement.

2. Calculate and interpret ratios that are used to analyze liquidity. Liquidity ratios include working capital, the current ratio, receivables turnover and average collection period, and inventory turnover and days in inventory. The formula, what it measures, and desired result of each liquidity ratio are presented in Illustration 14.16.

3. Calculate and interpret ratios that are used to analyze solvency. Solvency ratios include debt to total assets, times interest earned, and free cash flow. The formula, what it measures, and desired result of each solvency ratio are presented in Illustration 14.20.

4. Calculate and interpret ratios that are used to analyze profitability. Profitability ratios include gross profit margin, profit margin, asset turnover, return on assets, return on common shareholders’ equity, basic earnings per share, price-earnings, payout, and dividend yield. The formula, what it measures, and desired result of each profitability ratio are presented in Illustration 14.32.

5. Understand the limitations of financial analysis. The comparability of a company’s financial results with those of its peers can be affected by the level of diversification undertaken by the com-pany, the accounting policies it has chosen from acceptable alternatives, and management’s professional judgement when determining esti-mated amounts in financial statements. Companies using IFRS may report significant amounts of other comprehensive income in their financial statements while those using ASPE do not. Furthermore, accounting policy choices within IFRS may lead to differences in how or if other com-prehensive income is reported. Consequently, if other comprehensive income is significant, it should be taken into consideration when per-forming financial analysis. Gains or losses from discontinued operations are presented separately from continuing operations on the statement of income, net of income tax, to highlight their infrequent nature. Assets and liabilities pertaining to these operations are also segregated on the statement of financial position. Normally, the effects of discontinued operations are ignored when undertaking financial analysis because they are not expected to be present in the future. When management believes that accounting standards do not produce effective amounts to measure performance or financial position, they will provide adjusted measures of selected financial statement items such as net income. These are called non-GAAP measures and will often exclude items that management believes are nonrecurring or not relevant.

TRUE-FALSE STATEMENTS

1. Comparisons of company data with industry averages provide information about a company's relative position within the industry.

2. If a company has sales of $100 in 2021 (the base period) and $560 in 2022 (the analysis period), the percentage of the base period is 460%.

3. If a company has sales of $220 in 2021 and $560 in 2022, the percentage increase in sales from 2021 to 2022 is 155%.

Ex. 129

Comparative information taken from Electric Company Corporation’s financial statements is shown below:

2022 2021

(a) Cash $(90,000) $(160,000)

(b) Accounts receivable 202,500 350,000

(c) Inventory 292,500 230,000

(d) Notes receivable 45,000 -0-

Instructions

Using horizontal analysis, calculate the percentage change from 2021 to 2022.

Ex. 130

The following items were taken from the financial statements of McGonigal Inc. over a four-year period:

Item 2022 2021 2020 2019

Sales $650,000 $580,000 $530,000 $500,000

Cost of goods sold 520,000 440,000 380,000 340,000

Gross profit $130,000 $140,000 $150,000 $160,000

Instructions

Using horizontal analysis and 2019 as the base year, calculate the horizontal percentages of a base period for sales, cost of goods sold, and gross profit. Explain whether the trends are favourable or unfavourable for each item.

Ex. 131

The following items were taken from the financial statements of Nesci Ltd. over a three-year period:

Item 2022 2021 2020

Sales $460,000 $420,000 $395,000

Cost of goods sold 230,000 220,000 205,000

Gross profit $230,000 $200,000 $190,000

Instructions

Using horizontal analysis and 2020 as the base year, calculate the horizontal percentages of a base period for sales, cost of goods sold, and gross profit. Explain whether the trends are favourable or unfavourable for each item.

Ex. 132

The following items were taken from the financial statements of Cukor Corp. over a three-year period:

Item 2022 2021 2020

Sales $338,520 $322,400 $310,000

Cost of goods sold 182,104 175,100 170,000

Gross profit $156,416 $147,300 $140,000

Instructions

Using horizontal analysis, calculate the following for each of the above items:

(a) The amount and percentage change from 2021 to 2022.

(b) The amount and percentage change from 2020 to 2021.

Ex. 133

The comparative statements of financial position of Dolphin Corporation appear below:

DOLPHIN CORPORATION

Comparative Statements of Financial Position

December 31

—————————————————————————————————————————

Assets 2022 2021

Current assets $ 390 $280

Property, plant, and equipment 660 520

Total assets $1,050 $800

Liabilities and shareholders' equity

Current liabilities $ 200 $120

Non-current liabilities 250 160

Common shares 340 320

Retained earnings 260 200

Total liabilities and shareholders' equity $1,050 $800

Instructions

(a) Using horizontal analysis, prepare a comparative statement of financial position, expressing the 2022 amounts as percentages of the 2021 amounts.

(b) Prepare a comparative statement of financial position using vertical analysis.

Ex. 134

Using the following selected items from the comparative statements of financial position of Pong Limited, illustrate horizontal and vertical analyses by calculating the percentages of a base amount.

December 31, 2022 December 31, 2021

Accounts receivable $ 520,000 $ 450,000

Inventory 680,000 650,000

Total assets 4,400,000 4,000,000

Ex. 136

The comparative statements of financial position of Hillside Corporation appear below:

HILLSIDE CORPORATION

Comparative Statements of Financial Position

December 31

—————————————————————————————————————————

Assets 2022 2021

Cash $25,200 $86,000

Accounts receivable 170,000 152,000

Inventory 344,000 320,000

Prepaid expenses 10,000 15,000

Land 250,000 150,000

Equipment 650,000 380,000

Less: Accumulated depreciation (136,500) (80,000)

Total assets $1,312,700 $1,023,000

Liabilities and shareholders' equity

Accounts payable $86,000 $76,000

Deferred revenue 15,000 10,000

Income tax payable 5,000 12,000

Bank loan payable 250,000 160,000

Common shares 434,000 334,000

Retained earnings 522,700 431,000

Total liabilities and shareholders' equity $1,312,700 $1,023,000

Instructions

Using horizontal analysis, prepare a comparative statement of financial position, expressing the 2022 amounts as percentages of the 2021 amounts.

Ex. 137

The comparative statements of financial position of Hillside Corporation appear below:

HILLSIDE CORPORATION

Comparative Statements of Financial Position

December 31

—————————————————————————————————————————

Assets 2022 2021

Cash $25,200 $86,000

Accounts receivable 170,000 152,000

Inventory 344,000 320,000

Prepaid expenses 10,000 15,000

Land 250,000 150,000

Equipment 650,000 380,000

Less: Accumulated depreciation (136,500) (80,000)

Total assets $1,312,700 $1,023,000

Liabilities and shareholders' equity

Accounts payable $86,000 $76,000

Deferred revenue 15,000 10,000

Income tax payable 5,000 12,000

Bank loan payable 250,000 160,000

Common shares 434,000 334,000

Retained earnings 522,700 431,000

Total liabilities and shareholders' equity $1,312,700 $1,023,000

Instructions

Prepare a comparative statement of financial position using vertical analysis.

Ex. 138

Selected condensed information from Brantford Ltd.’s financial statement is shown below:

2022 2021

1. Inventory $ 80,000 $50,000

2. Accounts receivable 90,000 60,000

3. Retained earnings 25,000 (15,000)

4. Sales 210,000 200,000

5. Operating expenses 80,000 95,000

6. Income taxes payable 45,000 70,000

Instructions

Using horizontal analysis, show the percentage change from 2021 to 2022 with 2021 as the base year.

Ex. 139

Liquidity ratios for the following companies follow:

ADAM CORPORATION EVE LIMITED

Current ratio 1.4:1 1.3:1

Receivables turnover 11.3 times 13.5 times

Inventory turnover 2.8 times 3.4 times

Instructions

(a) For each company, calculate the average collection period and days in inventory ratios.

(b) Which company has more liquidity? Explain.

Ex. 140

Selected information from the comparative financial statements of Danton Doors Inc. for the year ended December 31 appears below:

2022 2021

Accounts receivable $ 260,000 $200,000

Cost of goods sold 700,000 530,000

Current liabilities 210,000 110,000

Depreciation expense 70,000 31,000

Income tax expense 50,000 29,000

Interest expense 45,000 25,000

Inventory 240,000 160,000

Net cash provided by operating activities 220,000 135,000

Credit sales 1,250,000 700,000

Non-current liabilities 450,000 300,000

Net income 170,000 85,000

Total assets 1,000,000 800,000

Instructions

Calculate the following ratios for 2022:

(a) Inventory turnover

(b) Receivables turnover

Ex. 141

Selected data for Younge Yoga Shoppe appear below:

2022 2021

Sales $745,000 $660,000

Cost of goods sold 375,000 250,000

Inventory at end of year 50,000 40,000

Accounts receivable at end of year 35,000 25,000

Instructions

Calculate the following ratios for 2022:

(a) Inventory turnover

(b) Days in inventory

(c) Receivables turnover

(d) Average collection period

Ex. 142

Omar Corporation reported the following comparative current assets and current liabilities:

Dec. 31, 2022 Dec. 31, 2021

Current assets

Cash $ 30,000 $ 25,000

Trading investments 40,000 15,000

Accounts receivable 65,000 95,000

Inventory 120,000 90,000

Prepaid expenses 35,000 20,000

Total current assets $290,000 $245,000

Current liabilities

Accounts payable $125,000 $115,000

Salaries payable 35,000 30,000

Income tax payable 25,000 10,000

Total current liabilities $185,000 $155,000

During 2022, credit sales and cost of goods sold were $480,000 and $288,000, respectively. Net cash provided by operating activities for 2022 was $94,000.

Instructions

Calculate the following ratios for 2022:

(a) Current ratio

(b) Receivables turnover

(c) Inventory turnover

Ex. 143

State the effect of the following transactions on the current ratio. Use increase, decrease, or no effect for your answer. Assume the current ratio is greater than 1:1.

(a) Collection of an account receivable. ______________

(b) Sale of additional shares for cash. ______________

(c) Payment of an account payable. ______________

(d) Purchase of equipment for cash. ______________

(e) Purchase of Inventory for cash. ______________

(f) Purchase of short-term investments for cash. ______________

Ex. 144

The following data are taken from the financial statements of Hankers Corporation:

2022 2021

Average gross accounts receivable $ 800,000 $ 850,000

Sales on account 8,360,000 6,970,000

Instructions

(a) Calculate the accounts receivable turnover and the average collection period for both years.

(b) What conclusion can an analyst draw about the management of the accounts receivable?

Ex. 145

The comparative statements of financial position of Hillside Corporation appear below:

HILLSIDE CORPORATION

Comparative Statements of Financial Position

December 31

—————————————————————————————————————————

Assets 2022 2021

Cash $25,200 $86,000

Accounts receivable 170,000 152,000

Inventory 344,000 320,000

Prepaid expenses 10,000 15,000

Land 250,000 150,000

Equipment 650,000 380,000

Less: Accumulated depreciation (136,500) (80,000)

Total assets $1,312,700 $1,023,000

Liabilities and shareholders' equity

Accounts payable $86,000 $76,000

Deferred revenue 15,000 10,000

Income tax payable 5,000 12,000

Bank loan payable 250,000 160,000

Common shares 434,000 334,000

Retained earnings 522,700 431,000

Total liabilities and shareholders' equity $1,312,700 $1,023,000

Additional information:

Credit sales and COGS for 2022 was $1,346,500 and $807,900, respectively.

Instructions

Calculate the following liquidity ratios for 2022 and 2021, unless otherwise noted, and where applicable, identify whether each ratio is better or worse in 2022:

(a) Working capital

(b) Current ratio

(c) Receivables turnover (2022 only)

(d) Average collection period (2022 only)

(e) Inventory turnover (2022 only)

(f) Days in inventory (2022 only)

Ex. 146

Presented below are liquidity and solvency ratios for Carmelo Industries, along with industry averages:

Ratio 2022 2021 Industry Average

Current ratio 0.7:1 0.8:1 1.4:1

Debt to total assets 55% 48% 35%

Inventory turnover 7.0 11.0 15.2

Receivables turnover 6.2 8.1 10.4

Times interest earned 2.0 4.8 8.5

Instructions

Analyze the company's liquidity and solvency using the information presented. Present a conclusion on the liquidity and solvency, supported by your analysis.

Ex. 147

The financial statements of Belleville Corporation appear below:

BELLEVILLE CORPORATION

Comparative Statements of Financial Position

December 31

—————————————————————————————————————————

Assets 2022 2021

Cash $ 35,250 $ 40,000

Trading investments 15,000 60,000

Accounts receivable 50,000 30,000

Inventory 60,000 70,000

Property, plant, and equipment 260,000 300,000

Total assets $420,250 $500,000

Liabilities and shareholders' equity

Accounts payable $ 20,000 $ 30,000

Bank loan payable (due March 31) 40,000 90,000

Bonds payable 80,000 160,000

Common shares 170,000 145,000

Retained earnings 110,250 75,000

Total liabilities and shareholders' equity $400,250 $500,000

BELLEVILLE CORPORATION

Statement of Income

Year Ended December 31, 2022

—————————————————————————————————————————

Sales $400,000

Cost of goods sold 190,000

Gross profit 210,000

Expenses

Operating expenses $85,000

Interest expense 18,000

Total expenses 103,000

Income before income tax 107,000

Income tax expense 26,750

Net income $ 80,250

Additional information for 2022:

1. Cash dividends of $45,000 were declared and paid.

2. Average number of common shares was 60,000 shares.

3. Market value of common shares on December 31 was $20 per share.

4. Net cash provided by operating activities was $62,000.

Instructions

Using the financial statements and the additional information, calculate the following ratios for 2022:

(a) Current ratio

(b) Return on common shareholders' equity

(c) Price-earnings ratio

(d) Receivables turnover

(e) Times interest earned

(f) Profit margin

(g) Days in inventory

(h) Payout ratio

(i) Return on assets

(j) Dividend yield

Ex. 148

The following ratios have been calculated for Rosco and Ramsey Limited for 2022:

Current ratio 2.1:1

Debt to total assets ratio 25%

Profit margin 25%

Receivables turnover ratio 2.4 times

Times interest earned 23 times

Financial statement information for 2022 for Rosco and Ramsey Limited with missing information follows:

ROSCO AND RAMSEY LIMITED

Comparative Statements of Financial Position

December 31

—————————————————————————————————————————

Assets 2022 2021

Cash $ 25,000 $ 35,000

Trading investments 15,000 15,000

Accounts receivable ? (6) 35,000

Inventory 30,000 20,000

Property, plant, and equipment 200,000 160,000

Total assets $? (8) $265,000

Liabilities and shareholders' equity

Accounts payable $? (7) $ 25,000

Bank loan payable (due March 31) 15,000 10,000

Bonds payable ? (9) 20,000

Common shares 139,500 125,000

Retained earnings 33,625 35,000

Accumulated other comprehensive income 50,000 50,000

Total liabilities and shareholders' equity $? (10) $265,000

ROSCO AND RAMSEY LIMITED

Statement of Income

Year Ended December 31, 2022

——————————————————————————————————————–—

Sales $75,000

Cost of goods sold 29,000

Gross profit 46,000

Expenses

Depreciation expense $? (5)

Operating expenses 7,500

Interest expense 250

Total expenses ? (4)

Income before income tax ? (2)

Income tax expense ? (3)

Net income ? (1)

Instructions

Using the above ratios and information from Rosco and Ramsey Limited’s financial statements, fill in the missing information on the financial statements. Follow the sequence indicated. Show calculations that support your answers.

Ex. 149

Walla Walla Corporation has only common shares issued. The company’s average gross profit margin is 40%. The information shown below was taken from Walla Walla’s latest financial statements:

Average common shareholders' equity $4,000,000

Average gross accounts receivable 625,000

Beginning inventory 300,000

Ending inventory ?

Inventory purchased 3,050,000

Net income 280,000

Sales (all on credit) 5,000,000

Instructions

Calculate the following ratios:

(a) Receivables turnover and average collection period

(b) Inventory turnover and days in inventory

(c) Return on common shareholders' equity

Ex. 150

The comparative statements of financial position of Sumach Corporation appear below:

SUMACH CORPORATION

Comparative Statements of Financial Position

December 31

—————————————————————————————————————————

2022 2021

Total assets $1,943,000 $1,854,000

Total liabilities 1,088,500 979,500

Interest expense 13,500 8,500

Income tax expense 87,000 76,000

Net Income 203,000 187,500

Cash provided by operating activities 462,500 290,000

Net capital expenditures 237,500 150,000

Dividends paid 22,500 15,500

Instructions

Calculate the following solvency ratios for 2022 and 2021 and for each ratio identify whether it is better or worse in 2022.

(a) Debt to total assets

(b) Times interest earned

(c) Free cash flow

Ex. 151

Selected information from the financial statement of the Brentcliffe Corporation follows:

2022 2021

Total assets $500,000 $507,500

Total liabilities 408,850 395,500

Interest expense 30,000 20,250

Income tax expense 26,200 25,250

Net income 92,800 101,000

Cash from operating activities 104,300 111,500

Net capital expenditures 46,000 42,500

Dividends paid 55,000 55,000

Instructions

(a) For each year, calculate the debt to total assets ratio, the times interest earned ratio and free cash flow, and

(b) Comment on whether Brentcliffe’s overall solvency has improved or deteriorated in 2022.

Ex. 152

The statement of financial position for Crown Corporation at the end of the current year includes the following:

Mortgage payable, 4% $3,625,000

$5 noncumulative preferred shares 1,200,000

Common shares (500,000 shares issued) 5,000,000

Income before income tax was $2,425,000, and income tax expense for the current year was $720,945. Cash dividends paid on common shares were $250,000 and $150,000 was paid on preferred shares. The common shares were selling for $105.00 per share at the end of the year. There were no ownership changes during the year.

Instructions

Calculate the following ratios:

(a) times interest earned

(b) basic earnings per share

(c) price-earnings ratio

(d) dividend yield

Ex. 153

The condensed statement of income for Newberry Limited for the year ended December 31, 2022 appears below:

Cost of goods sold $720,000

Expenses *520,000

Gross profit 880,000

Net income 360,000

Sales $1,600,000

*Includes $90,000 of interest expense and $100,000 of income tax expense

Additional information:

1. Average number of common shares in 2022 was 110,000 shares.

2. The market price of Newberry’s shares was $50 per share at the end of 2022.

3. Total cash dividends of $72,000 were paid, $12,000 of which were paid to preferred shareholders.

Instructions

Calculate the following ratios for 2022:

(a) Basic earnings per share

(b) Price-earnings ratio

(c) Times interest earned

Ex. 154

Selected data from Sampson Corp. are presented below:

Average assets $1,800,000

Average common shareholders' equity 1,125,000

Cost of goods sold 900,000

Net cash provided by operating activities 205,000

Sales 1,500,000

Net income 237,500

Total assets 1,850,000

Instructions

Calculate all of the profitability ratios that can be determined from the above information.

Ex. 155

The following information was taken from the financial statements of Marjory Corporation:

2022 2021

Gross profit $3,400,000 $1,400,000

Net income 280,000 325,000

Income before income tax 230,000 221,000

Profit margin 5% 13%

Instructions

(a) Calculate the sales for each year.

(b) Calculate the cost of goods sold in dollars and as a percentage of sales for each year.

Ex. 156

The following are data from the latest financial statements of Pound Limited:

($ in thousands)

Average common shareholder's equity $32,000

Average issue price of common shares $100

Average total liabilities $38,000

Average total shareholders’ equity $36,000

Cash dividends paid $400

Gross profit $12,000

Payout ratio 20%

Preferred dividends paid $80

Price-earnings ratio 18

Profit margin 8%

Instructions

Using the above information, calculate the following:

(a) Net income

(b) Return on common shareholders' equity

(c) Asset turnover

(d) Return on assets

(e) Gross profit margin

(f) Basic earnings per share

(g) Market price per share

Ex. 157

The comparative statements of financial position of Hillside Corporation appear below:

HILLSIDE CORPORATION

Comparative Statements of Financial Position

December 31

—————————————————————————————————————————

Assets 2022 2021

Cash $25,200 $86,000

Accounts receivable 170,000 152,000

Inventory 344,000 320,000

Prepaid expenses 10,000 15,000

Land 250,000 150,000

Equipment 650,000 380,000

Less: Accumulated depreciation (136,500) (80,000)

Total assets $1,312,700 $1,023,000

Liabilities and shareholders' equity

Accounts payable $86,000 $76,000

Deferred revenue 15,000 10,000

Income tax payable 5,000 12,000

Bank loan payable 250,000 160,000

Common shares 434,000 334,000

Retained earnings 522,700 431,000

Total liabilities and shareholders' equity $1,312,700 $1,023,000

Additional information:

Net credit sales and net income for 2022 was $1,346,500 and $216,000, respectively.

Instructions

Calculate the following profitability ratios for 2022.

(a) Asset turnover

(b) Return on assets

(c) Return on common shareholders’ equity

Ex. 158

Selected data from Block Ltd. are presented below:

Total assets $ 800,000

Average assets 875,000

Net income 125,000

Sales 800,000

Cost of goods sold 380,000

Average shareholders' equity 600,000

Instructions

Calculate the profitability ratios that can be determined from the above information.

Ex. 159

Dalgleish Ltd. reported the following selected information for the year ended December 31, 2022:

Average total assets $2,613,500

Total revenue 3,810,000

Net income 300,000

Other comprehensive income 66,000

Total comprehensive income 361,500

Instructions

Calculate the profit margin and return on assets ratios using

(a) Net income as the numerator

(b) Total comprehensive income as the numerator

Ex. 160

For the year ended December 31, 2022, Master Moving Corp. reports pre-tax net income from continuing operations of $520,000. Other items relating to 2022 are:

1. $160,000 net income from discontinued operations, net of income tax.

2. Dividends of $35,000 were declared.

3. Retained earnings, January 1, 2022, were $980,000.

Its income tax rate is 30%.

Instructions

(a) Calculate the net income for 2022.

(b) Calculate the retained earnings at December 31, 2022.

Ex. 161

Listed below are some selected items that may appear on a corporate statement of income. Indicate the order in which these items would appear on the statement of income. (The first one should be assigned the number “1”, the second “2”, etc.)

____ Cost of goods sold

____ Net income

____ Income before income tax

____ Discontinued operations

____ Revenue

____ Income from continuing operations

____ Operating expenses

____ Income tax expense

Ex. 162

Sports Pick Corporation reported net income of $1,750,000 in 2020. Using 2020 as the base year, net income decreased by 60% in 2021 and increased by 130% in 2022.

Instructions

Calculate the net income reported by Sports Pick Corporation for 2021 and 2022.