H. Convert balance sheets to common size balance sheets and interpret common size balance sheets

Question 1

What does a common-size balance sheet express?

Answer 1

Expresses each item of the balance sheet as a percentage of total assets

Question 2

“standardize” the BS means…

Answer 2

eliminate the effects of size

Question 3

“Standardizing” allows…

Answer 3

Time series and cross sectional comparison

Question 4

Common-Size BS

Answer 4

Line items = %of Total Assets

Question 5

BS Common-size interpretations

Answer 5

CL>CA: Less liquid: Difficulty paying it’s current obligations when due

CA>CL: May not be an efficient use of resources because the investment returns on working capital are usually lower than the returns on long-term assets

CL>Cash: Not enough cash to satisfy CL’s (solution: sell more inv., collect receivables) Higher inventory may indicate inventory obsolenscence

Long term Debt > relative company as % assets: Capital structure consists of more debt: may have trouble satisfying long term debts.