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310 Chapter 4 Profitability Analysis

Problems and Cases

4.15 ANALYZING OPERATING PROFITABILITY. Exhibit 4.21 presents selected
operating data for three retailers for a recent year. Macy’s operates several department store
chains selling consumer products such as brand-name clothing, china, cosmetics, and bed-
ding and has a large presence in the bridal and formalwear markets (under store names
Macy’s and Bloomingdale’s). Home Depot sells a wide range of building materials and home
improvement products, which includes lumber and tools, riding lawn mowers, lighting fix-
tures, and kitchen cabinets and appliances. Supervalu operates grocery stores under numer-
ous brands (including Albertsons, Cub Foods, Jewel-Osco, Shaw’s, and Star Market).
a. Compute the rate of ROA for each firm. Disaggregate the rate of ROA into profit
margin for ROA and assets turnover components. Assume that the income tax rate
is 35 percent for all companies.
b. Based on your knowledge of the three retail stores and their respective industry con-
centrations, describe the likely reasons for the differences in the profit margins for
ROA and assets turnovers.

4.16 CALCULATING AND INTERPRETING ACCOUNTS RECEIVABLE

TURNOVER RATIOS. Microsoft Corporation (Microsoft) and Oracle Corporation
(Oracle) engage in the design, manufacture, and sale of computer software. Microsoft sells
and licenses a wide range of systems and application software to businesses, computer
hardware manufacturers, and consumer retailers. Oracle sells software for information
management almost exclusively to businesses. Exhibit 4.22 presents selected data for the
two firms for 2006–2008.
Required
a. Calculate the accounts receivable turnover ratio for Microsoft and Oracle for 2006,
2007, and 2008.
b. Suggest possible reasons for the differences in the accounts receivable turnovers of
Microsoft and Oracle during the three-year period.
c. Suggest possible reasons for the changes in the accounts receivable turnover for the
two firms over the three-year period.

EXHIBIT 4.21
Selected Data for Three Retailers
(amounts in millions)
(Problem 4.15)

Macy’s Home Depot Supervalu

Sales $24,892 $71,288 $44,564
Cost of Goods Sold 15,009 47,298 34,451
Interest Expense 588 624 633
Net Income (4,803) 2,260 (2,855)
Average Inventory 4,915 11,202 2,743
Average Fixed Assets 10,717 26,855 7,531
Average Total Assets 24,967 42,744 19,333
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Questions, Exercises, Problems, and Cases 311

EXHIBIT 4.22
Selected Data for Microsoft and Oracle
(amounts in millions)
(Problem 4.16)

2008 2007 2006

Microsoft
Sales $58,437 $60,420 $51,122
Average Accounts Receivable 12,391 12,464 10,327
Change in Sales from Previous Year 3.3% 18.2% 15.5%
Oracle
Sales $23,252 $22,430 $17,996
Average Accounts Receivable 4,430 5,799 4,589
Change in Sales from Previous Year 3.7% 24.6% 25.2%

4.17 CALCULATING AND INTERPRETING INVENTORY TURNOVER

RATIOS. Dell produces computers and related equipment on a made-to-order basis for
consumers and businesses. Sun Microsystems designs and manufactures higher-end com-
puters that function as servers and for use in computer-aided design. Sun Microsystems sells
primarily to businesses. It also provides services to business customers in addition to prod-
uct sales of computers. Selected data for each firm for 2007–2009 appear in Exhibit 4.23.
(Dell’s fiscal year-end is in January; Sun’s fiscal year-end is in June. As of the writing of this
text, an acquisition of Sun by Oracle is pending.)

EXHIBIT 4.23
Selected Data for Dell and Sun Microsystems
(amounts in millions)
(Problem 4.17)

2009 2008 2007

Dell
Cost of Goods Sold $49,375 $48,855 $47,433
Average Inventories 1,024 920 618
Change in Sales from Previous Year 1.1% 3.0% 4.1%
Sun Microsystems
Cost of Goods Sold $ 5,948 $ 6,639 $ 6,778
Average Inventories 623 602 532
Change in Sales from Previous Year 10.4% 2.1% 3.7%
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312 Chapter 4 Profitability Analysis

Required
a. Calculate the inventory turnover ratio for each firm for 2007–2009.
b. Suggest reasons for the differences in the inventory turnover ratios of these two firms.
c. Suggest reasons for the changes in the inventory turnover ratios during the three-year
period.

4.18 CALCULATING AND INTERPRETING ACCOUNTS RECEIVABLE

AND INVENTORY TURNOVER RATIOS. Nucor and AK Steel are steel manufac-
turers. Nucor produces steel in mini-mills. Mini-mills transform scrap ferrous metals into
standard sizes of rolled steel, which Nucor then sells to steel service centers and distribu-
tors. Its steel falls on the lower end in terms of quality (strength and durability). AK Steel is
an integrated steel producer, transforming ferrous metals into rolled steel and then into
various steel products for the automobile, appliance, construction, and other industries. Its
steel falls on the higher end in terms of quality. Exhibit 4.24 sets forth various data for these
two companies for 2007 and 2008.

Required
a. Calculate the accounts receivable turnovers for Nucor and AK Steel for 2007 and
2008.
b. Describe the likely reasons for the differences in the accounts receivable turnovers
for these two firms.
c. Describe the likely reasons for the trend in the accounts receivable turnovers of these
two firms during the two-year period.
d. Calculate the inventory turnovers for Nucor and AK Steel for 2007 and 2008.

EXHIBIT 4.24
Selected Data for Nucor and AK Steel
(amounts in millions)
(Problem 4.18)

2008 2007
Nucor
Sales $23,663 $16,593
Cost of Goods Sold 19,612 13,035
Average Accounts Receivable 1,420 1,340
Average Inventories 2,005 1,371
Change in Sales from Previous Year +42.6% +12.5%
AK Steel
Sales $ 7,644 $ 7,003
Cost of Goods Sold 6,479 5,904
Average Accounts Receivable 572 686
Average Inventories 607 752
Change in Sales from Previous Year +9.2% +15.3%
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Questions, Exercises, Problems, and Cases 313

e. Describe the likely reasons for the differences in the inventory turnovers of these two
firms.
f. Describe the likely reasons for the trend in the inventory turnovers of these two
firms during the two-year period.

4.19 CALCULATING AND INTERPRETING FIXED ASSETS TURNOVER

RATIOS. Texas Instruments (TI) designs and manufactures semiconductor products for
use in computers, telecommunications equipment, automobiles, and other electronics-
based products. The manufacturing of semiconductors is highly capital-intensive. Hewlett-
Packard Corporation (HP) manufactures computer hardware and various imaging
products, such as printers and fax machines. Exhibit 4.25 presents selected data for TI and
HP for 2006–2008.

Required
a. Compute the fixed assets turnover for each firm for 2006, 2007, and 2008.
b. Suggest reasons for the differences in the fixed assets turnovers of TI and HP.
c. Suggest reasons for the changes in the fixed assets turnovers of TI and HP during the
three-year period.

4.20 CALCULATING AND INTERPRETING THE RATE OF RETURN

ON COMMON SHAREHOLDERS’ EQUITY AND ITS COMPONENTS.
JCPenney operates a chain of retail department stores, selling apparel, shoes, jewelry, and
home furnishings. It also offers most of its products through catalog distribution. During
fiscal Year 5, it sold Eckerd Drugs, a chain of retail drugstores, and used the cash proceeds,

EXHIBIT 4.25
Selected Data for Texas Instruments and Hewlett-Packard
(amounts in millions)
(Problem 4.19)

2008 2007 2006

Texas Instruments
Sales $ 12,501 $ 13,835 $ 14,255
Cost of Goods Sold 6,256 5,432 5,775
Capital Expenditures 763 686 1,272
Average Fixed Assets 3,457 3,780 3,925
Percentage Fixed Assets Depreciated 54.9% 52.3% 49.0%
Percentage Change in Sales −9.6% −3.0% +6.4%
Hewlett-Packard
Sales $114,552 $118,364 $104,286
Cost of Goods Sold 86,351 87,065 76,965
Capital Expenditures 3,695 2,990 3,040
Average Fixed Assets 11,050 9,318 7,331
Percentage Fixed Assets Depreciated 74.7% 72.4% 87.0%
Percentage Change in Sales −3.2% +13.5% +13.8%
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314 Chapter 4 Profitability Analysis

EXHIBIT 4.26
Selected Data for JCPenney
(amounts in millions)
(Problem 4.20)

Year Ended January 31:

Year 5 Year 4 Year 3
Sales $18,424 $17,786 $17,633
Net Income (Loss) 524 (928) 405
Interest Expense 279 271 245
Preferred Stock Dividend 12 25 27
Income Tax Rate 35% 35% 35%

January 31: Year 5 Year 4 Year 3 Year 2

Total Assets $14,127 $18,300 $17,787 $18,048
Preferred Stock 0 304 333 363
Total Common
Shareholders’ Equity 4,856 5,121 6,037 5,766

in part, to repurchase shares of its common stock. Exhibit 4.26 presents selected data for
JCPenney for fiscal Year 3, Year 4, and Year 5.

Required
a. Calculate the rate of ROA for fiscal Year 3, Year 4, and Year 5. Disaggregate ROA into
the profit margin for ROA and total assets turnover components. The income tax
rate is 35 percent.
b. Calculate the rate of ROCE for fiscal Year 3, Year 4, and Year 5. Disaggregate ROCE
into the profit margin for ROCE, assets turnover, and capital structure leverage
components.
c. Suggest reasons for the changes in ROCE over the three years.
d. Compute the ratio of ROCE to ROA for each year.
e. Calculate the amount of net income available to common stockholders derived from
the use of financial leverage with respect to creditors’ capital, the amount derived
from the use of preferred shareholders’ capital, and the amount derived from com-
mon shareholders’ capital for each year.
f. Did financial leverage work to the advantage of the common shareholders in each of
the three years? Explain.

4.21 INTERPRETING THE RATE OF RETURN ON COMMON SHARE-

HOLDERS’ EQUITY AND ITS COMPONENTS. Selected financial data for
Georgia-Pacific Corporation, a forest products and paper firm, appear in Exhibit 4.27.