Bay Area Corrugated PipeHow is BACP doing?

Why?What should they do?

BACP Performance

Profitability is Low• Return on Equity: Net Income/Equity

313,500 / 5,870,000 = 5.3%

• Net Profit Margin = Net Income/Sales

After Tax: 313,500 / 24,000,000 = 1.3%

Components of ROE

• ROE = Return on Equity = Net/Equity= Net Income / Sales x Sales / Assets

x Assets / Equity• Hence, some reasons can be– Margins too low? Why?– Using assets poorly? Which ones?

Analysis of Costs

• Cost of Goods Sold (COGS) =

19,470,000 / 24,000,000 = 81.1%

• Median for Industry is 77.8%– How important is the difference?

Analysis of Costs

• Selling &Administrative Cost % of Sales (includes depreciation in the industry comps)=(2,840,000 + 675,000) /24,000,000 = 14.6%

• Higher than the median (13.7%)• Lower than the maximum (19.2%)• Important?

How Well Are Assets Used?

• Asset Turnover: “Rotation of Assets”– Total Asset Turnover = Sales/Assets

=24,000,000 / 16,000,000 = 1.5 times

– Last in the industry: They get less out of their assets than others do!

Return on Assets (Ex Post)

• After-tax Return on Assets– After-tax Income/Assets = 313,500/16,000,000 = 1.96%– The very bottom is 1.9%– Very poor, again.

Fixed Assets & Current Assets• Fixed Asset Turnover

= Sales / Fixed Assets = 24,000,000/3,400,000 = 7.1x– Dead last (lower than the officially listed bottom

number)• Current Asset Turnover

= Sales / Current Assets= 24,000,000 / 12,600,000 = 1.9x

– Dead last

Current Assets: Receivables

• Turnover = Sales / Accts Receivable= 24,000,000 / 4,600,000 = 5.2x

• Days = 365/Turnover = 70 days

• At the Median: 10x, or 2.4MM in Receivables: Could reduce by $2.2MM

Current Assets: Inventory

• Turnover = Cost of Goods / Inventory= 19,470,000 / 7,200,000 = 2.7x

• Days = 365/Turnover = 138 days

• At the Median: 6.3x, or 3MM in Inventory: Could reduce by $4.2MM

Conclusions So Far

• Overinvestment in Assets– Total Assets (all of them!)– Fixed Assets– Accounts Receivable– Inventory

• That causes: Too much investment that somebody has to pay for.

• A/R and Inventory Alone: >$6MM

Reduce Assets by $6MM and...

• What should they do with the $6MM?– One alternative: Pay off interest-bearing debts– Thus: No interest costs

• Hence: Pretax Income = Operating Income, or $1,015,000– After tax, they’d have $669,900 and Achieve an

ROE of 11.4% (669.9/5870): Mediocrity!

Summary Points

• Financial ratios really can help identify the problems of an underachiever

• To be meaningful, compare…– Across time– Across similar firms (comparables)– and calculate consistently

• “Good” values for ratios depend on the nature of the business