Finance-For this assignment I would like to use the company Apple.

| January 30, 2017

Question
For this assignment I would like to use the company Apple. I am not looking for the whole 2,500 word essay, I am just looking for advice on how to get started, tips, websites that will give me the required information, how best to go about writing it out, etc… The more detailed the response the better. 😉 It’s not due for several weeks so take your time if necessary. 😀

Throughout this course you will prepare a 2,500-word (excluding tables, figures, and addenda) financial analysis of a chosen company following the nine-step assessment process introduced below and detailed in Assessing A Company’s Future Financial Health.

Analysis of Fundamentals: Goals, Strategy, Market, Competitive Technology, Regulatory and Operating Characteristics
Analysis of Fundamentals: Revenue Outlook
Investments to Support the Business Unit(s) Strategy(ies)
Future Profitability and Competitive Performance
Future External Financing Needs
Access to Target Sources of External Finance
Viability of the 3-5 Year Plan
Stress Test under Scenarios of Adversity
Current Financing Plan

Note: It is best to select a company that is public and enjoys extensive analyst coverage (i.e., Apple, GE, Southwest Airlines, etc.) to insure access to material regarding your subject company. The more information available, the easier it will be to perform the financial analysis.

As you conduct the analysis, you will research the market for data on your chosen company, including analyst reports and market information. Disclose all assumptions made in the case study (e.g., revenue growth projections, expense controls) and provide supporting reasons and evidence behind those assumptions.

Finally, in order to assess the long-term financial health of the chosen company, synthesize the research data and outcomes of the nine-step assessment process.

9-911-412
REV: JANUARY 28, 2011

Ass
sessing a Com
g
mpany’s Futur Finan
s
re
ncial H
Health
As
ssessing the lo
ong-term fina
ancial health of a company is an impor
y
rtant task for management in its
t
formu
ulation of goa and strate
als
egies and for outsiders as they conside the extensi of credit, longer
ion
term s
supplier agre
eements, or an investment in a compan
n
t
ny’s equity. H
History aboun with exam
nds
mples
of com
mpanies that embarked up overly am
pon
mbitious programs and sub
bsequently discovered that their
t
portfo
olios of progr
rams could n be finance on accepta
not
ed
able terms. The outcome f
frequently wa the
as
aband
donment of programs in m
mid-stream at considerable financial, org
ganizational, and human c
cost.
It is the respon
nsibility of m
management t anticipate f
to
future imbala
ance in the c
corporate fina
ancial
system before its se
m
everity is refl
lected in the financials, an to conside corrective action before both
nd
er
e
time and money are exhaus
sted. The a
avoidance of bankruptcy is an insu
f
y
ufficient stan
ndard.
Mana
agement mus ensure the continuity o the flow of funds to al of its strate
st
of
ll
egically impo
ortant
progr
rams, even in periods of ad
dversity.
Fig
gure A provid a concept
des
tualization of the corporate financial system, with a s
e
suggested ste
ep-bystep p
process to ass
sess whether i will remain in balance o
it
n
over the ensui 3-5 years. The remaind of
ing
der
this n
note discusses each of the steps in the process and then provid an exerci on the va
s
e
e
d
des
ise
arious
financ measures that are useful as part of the analysis. The final se
cial
s
f
ection of the note demons
strates
the r
relationship between a firm’s strate
egy and op
perating characteristics, and its fina
ancial
characteristics.

_______
_______________
_______________
_______________
________________
_______________
_______________
________________
______
Professo Thomas Piper pr
or
repared the origina version of this no “Assessing a Fi
al
ote,
irm’s Future Financ Health,” HBS N 201-077, which is being
cial
No.
replaced by this version pr
d
repared by the sam author. This note was prepared as t basis for class d
me
e
the
discussion.
ght
resident and Fellow of Harvard Colle
ws
ege. To order copi or request perm
ies
mission to reproduc materials, call 1-8
ce
800-545Copyrig © 2010, 2011 Pr
7685, wr Harvard Busin
rite
ness School Publish
hing, Boston, MA 02163, or go to ww
ww.hbsp.harvard.e
edu/educators. Th publication may not be
his
y
digitized photocopied, or otherwise reprodu
d,
uced, posted, or tran
nsmitted, without t permission of H
the
Harvard Business S
School.

911-412

Figure A

Assessing a Company’s Future Financial Health

The Corporate Financial System
Goals
Strategy

Step 1

Market, Competitive Technology
Regulatory and Operating
Characteristics
Step 2

Revenue Outlook
• growth rate
• volatility, predictability

Step 3

Step 4

Investment in Assets
• to support growth
• improvement/deterioration
in asset management

Economic Performance
• profitability
• cash flow
• volatility, predictability

Step 5

Step 6

External Financing Need
• $ amount
• timing, duration
• deferability

Target Sources of Finance
• lending/investing criteria
• attractiveness of firm
to each target source
Step 7
Viability of 3-5 Year Plan
• consistency with goals
• achievable operating plan
• achievable financing plan
Step 8
Stress Test for Viability
Under Various scenarios
Step 9
Financing and Operating Plan for
Current Year

Steps 1, 2: Analysis of Fundamentals
The corporate financial system is driven by the goals, business unit choices and strategies, market
conditions and the operating characteristics. The firm’s strategy and sales growth in each of its
business units will determine the investment in assets needed to support these strategies; and the
effectiveness of the strategies, combined with the response of competitors and regulators, will
2

Assessing a Company’s Future Financial Health

911-412

strongly influence the firm’s competitive and profit performance, its need for external finance, and its
access to the debt and equity markets. Clearly, many of these questions require information beyond
that contained in a company’s published financial reports.

Step 3: Investments to Support the Business Unit(s) Strategy(ies)
The business unit strategies inevitably require investments in accounts receivable, inventories,
plant & equipment, and possibly, acquisitions. Step 3 of the process is an attempt to estimate the
amount that will be tied up in each of the asset types by virtue of sales growth and the
improvement/deterioration in asset management. An analyst can make a rough estimate by studying
the past pattern of the collection period, the days of inventory, and plant & equipment as a percent of
cost of goods sold; and then applying a “reasonable value” for each to the sales forecast or the
forecast of cost of goods sold. Extrapolation of past performance assumes, of course, that the future
underlying market, competitive and regulatory “drivers” will be unchanged from the conditions that
influenced the historical performance.

Step 4: Future Profitability and Competitive Performance
Strong sustained profitability is an important determinant of (1) a firm’s access to debt and/or
equity finance on acceptable terms; (2) its ability to self-finance growth through the retention of
earnings; (3) its capacity to place major bets on risky new technologies, markets, and/or products;
and (4) the valuation of the company.
A reasonable starting point is to analyze the past pattern of profitability.
1.

What have been the average level, trend and volatility of profitability?

2.

Is the level of profitability sustainable, given the outlook for the market and for competitive
and regulatory pressures?

3.

Is the current level of profitability at the expense of future growth and/or profitability?

4.

Has management initiated major profit improvement programs? Are they unique to the firm
or are they industry-wide and may be reflected in lower prices rather than higher
profitability?

5.

Are there any “hidden” problems, such as suspiciously high levels or buildups of accounts
receivable or inventory relative to sales, or a series of unusual transactions and/or accounting
changes?

Step 5: Future External Financing Needs
Whether a company has a future external financing need depends on (1) its future sales growth;
(2) the length of its cash cycle; and (3) the future level of profitability and profit retention. Rapid sales
growth by a company with a long cash cycle (a long collection period + high inventories + high plant
& equipment relative to sales) and low profitability/low profit retention is a recipe for an everincreasing appetite for external finance, raised in the form of loans, debt issues, and/or sales of
shares. Why? Because the rapid sales growth results in rapid growth of an already large level of
total assets. The increase in total assets is offset partially by an increase in accounts payable and
accrued expenses, and by a small increase in owners’ equity. However, the financing gap is
substantial. For example, the company portrayed in Table A requires $126 million of additional
external finance by the end of year 2010 to finance the increase in total assets required to support 25%
per year sales growth in a business that is fairly asset intensive.
3

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Assessing a Company’s Future Financial Health

Table A

Assuming a 25% Increase in Sales ($ in millions)

Assets
Cash
Accounts receivable
Inventories
Plant & equipment
Total
Liabilities and Equity
Accounts payable
Accrued expenses
Long-term debt
Owners’ equity
Total
External financing need
Total

2009
$ 12
240
200
400
$852
$100
80
272
400
$852
0
$852

↑ 25%
↑ 25%
↑ 25%
↑ 25%

↑ 25%
↑ 25%
Unchanged
footnote a

2010
$ 15
300
250
500
$1,065
$ 125
100
272
442
$ 939
126
$1,065

a It is assumed (1) that the firm earns $60 million (a 15% return on beginning of year equity) and pays out $18 million as a cash
dividend; and (2) that there is no required debt repayment in 2010.

If, however, the company reduced its sales growth to 5% (and total assets, accounts payable and
accrued expenses increased accordingly by 5%), the need for additional external finance would drop
from $126 million to $0.
High sales growth does not always result in a need for additional external finance. For example, a
food retailer that extends no credit to customers, has only eight days of inventory, and does not own
its warehouses and stores, can experience rapid sales growth and not have a need for additional
external finance provided it is reasonably profitable. Because it has so few assets, the increase in total
assets is largely offset by a corresponding, spontaneous increase in accounts payable and accrued
expenses.

Step 6: Access to Target Sources of External Finance
Having estimated the future financing need, management must identify the target sources (e.g.,
banks, insurance companies, public debt markets, public equity market) and establish financial
policies that will ensure access on acceptable terms.
1.
2.

How will the firm service its debt? To what extent is it counting on refinancing with a debt or
equity issue?

3.

Does the firm have assured access on acceptable terms to the equity markets? How many
shares could be sold and at what price in “good times”? In a period of adversity?

4.

4

How sound is the firm’s financial structure, given its level of profitability and cash flow, its
level of business risk, and its future need for finance?

What criteria are used by each of the firm’s target sources of finance to determine whether
finance will be provided and, if so, on what terms?

Assessing a Company’s Future Financial Health

911-412

The evaluation of a firm’s financial structure can vary substantially depending on the perspective
of the lender/investor. A bank may consider a seasonal credit a very safe bet. Considerable
shrinkage can occur in the conversion of inventory into sales and collections without preventing
repayment of the loan. In contrast, an investor in the firm’s 20-year bonds is counting on its
sustained health and profitability over a 20-year period.

Step 7: Viability of the 3-5 Year Plan
1.

Is the operating plan on which the financial forecasts are based achievable?

2.

Will the strategic, competitive, and financial goals be achieved?

3.

Will the resources required by the plan be available?

4.

How will the firm’s competitive, organizational, and financial health at the end of the 3-5
years compare with its condition at the outset?

Step 8: Stress Test under Scenarios of Adversity
Financing plans typically work well if the assumptions on which they are based turn out to be
accurate. However, this is an insufficient test in situations marked by volatile and unpredictable
conditions. The test of the soundness of a 3-5 year plan is whether the continuity of the flow of funds
to all strategically important programs can be maintained under various scenarios of adversity for the
firm and/or the capital markets—or at least be maintained as well as your competitors are able to
maintain the funding of their programs.

Step 9: Current Financing Plan
How should the firm meet its financing needs in the current year? How should it balance the
benefits of future financing flexibility (by selling equity now) versus the temptation to delay the sale
of equity by financing with debt now, in hopes of realizing a higher price in the future?
The next section of this note is designed to provide familiarity with the financial measures that can
be useful in understanding the past performance of a company. Extrapolation of the past
performance, if done thoughtfully, can provide valuable insights as to the future health and balance
of the corporate financial system. Historical analysis can also identify possible opportunities for
improved asset management or margin improvement, as well as provide an important, albeit
incomplete, basis for evaluating the attractiveness of a business and/or the effectiveness of a
management team.

Financial Ratios and Financial Analysis
The three primary sources of financial data for a business entity are the income statement, the
balance sheet, and the statement of cash flows. The income statement summarizes revenues and
expenses over a period of time. The balance sheet is the list of what a company owns (its assets),
what it owes (its liabilities), and what has been invested by the owners (owners’ equity) at a specific
point in time. The statement of cash flow categorizes all cash transactions during a specific period of
time in terms of cash flows generated or used for operating activities, investing activities, and
financing activities.
The focus of this section is on performance measures based on the income statements and balance
sheets of SciTronics—a medical device company. The measures can be grouped by type: (1)
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Assessing a Company’s Future Financial Health

profitability measures, (2) activity (asset management) measures, (3) leverage and liquidity measures.
Please refer to the financial statements of SciTronics as shown in Exhibits 1 and 2 at the end of the
note. As you work through the questions that follow, please also consider three broad questions:
1.

What is your assessment of the performance of SciTronics during the 2005-2008 period?

2.

Has its financial strength and its access to external sources of finance improved or weakened?

3.

What are the 2-3 most important questions you would ask management as the result of your
analysis?

Sales Growth
Sales growth is an important driver of the need to invest in various type assets and of the
company’s value. It also provides some indication of the effectiveness of a firm’s strategy and
product development activities, and of customer acceptance of a firm’s products and services.
1.

During the four-year period ended December 31, 2008, SciTronics’ sales grew at a _____%
compound rate. There were no acquisition or divestitures.

Profitability Ratio: How Profitable Is the Company?
Profitability is a necessity over the long-run. It strongly influences (1) the company’s access to
debt; (2) the valuation of the company’s common stock; (3) the willingness of management to issue
stock; and (4) the capacity to self-finance. One measure of profitability of a business is its return on
sales, measured by dividing net income by net sales.
1.

SciTronics’ profit as a percentage of sales in 2008 was ______ %.

2.

This represented an increase/decrease from ______% in 2005.

Management and investors often are more interested in the return earned on the funds invested
than in the level of profits as a percentage of sales. Companies operating in businesses requiring very
little investment in assets often have low profit margins but earn very attractive returns on invested
funds. Conversely, there are numerous examples of companies in very capital-intensive businesses
that earn miserably low returns on invested funds, despite seemingly attractive profit margins.
Therefore, it is useful to examine the return earned on the funds provided by the shareholders and
by the “investors” in the company’s interest-bearing debt. To increase the comparability across
companies, it is useful to use EBIAT (earnings before interest but after taxes) as the measure of return.
The use of EBIAT as the measure of return also allows the analyst to compare the return on invested
capital (calculated before the deduction of interest expense), with the company’s estimated cost of
capital to determine the long-term adequacy of the company’s profitability. EBIAT is calculated by
multiplying EBIT (earnings before interest and taxes) times (1—the average tax rate).
EBIT x 1 tax rate
plus interest bearing debt

Owners ′ equity
3.

6

SciTronics had a total of $______ of capital at year-end 2008 and earned before
interest but after taxes (EBIAT) $______ during 2008. Its return on capital was
_____% in 2008 which represented an increase/decrease from the _____% earned
in 2005.

Assessing a Company’s Future Financial Health

911-412

From the viewpoint of the shareholders, an equally important figure is the company’s return on
equity. Return on equity is calculated by dividing profit after tax by the owners’ equity.
Profit after taxes
Owners ′ equity

Return on equity

Return on equity indicates how profitably the company is utilizing shareholders’ funds.
4.

SciTronics had $_____ of owners’ equity and earned $_____ after taxes in 2008. Its
return on equity was _____% an improvement/deterioration from the _____%
earned in 2005.

Activity Ratios: How Well Does the Company Employs Its Assets?
The second basic type of financial ratio is the activity ratio. Activity ratios indicate how well a
company employs its assets. Ineffective utilization of assets results in the need for more finance,
unnecessary interest costs, and a correspondingly lower return on capital employed. Furthermore,
low activity ratios or deterioration in the activity ratios may indicate uncollectible accounts receivable
or obsolete inventory or equipment.
Total asset turnover measures the company’s effectiveness in utilizing its total assets and is
calculated by dividing total assets into sales.
Net sales
Total assets
1.

Total asset turnover for SciTronics in 2008 can be calculated by dividing $_____
into $_____. The turnover improved/deteriorated from _____ times in 2005 to
_____ times in 2008.

It is useful to examine the turnover ratios for each type of asset, as the use of total assets may hide
important problems in one of the specific asset categories. One important category is accounts
receivables. The average collection period measures the number of days that the company must wait
on average between the time of sale and the time when it is paid. The average collection period is
calculated in two steps. First, divide annual credit sales by 365 days to determine average sales per
day:
Net credit sales
365 days
Then, divide the accounts receivable by average sales per day to determine the number of days of
sales that are still unpaid:
Accounts receivable
Credit sales per day
2.

SciTronics had $_____ invested in accounts receivables at year-end 2008. Its
average sales per day were $_____ during 2008 and its average collection period
was _____days. This represented an improvement/deterioration from the
average collection period of _____ days in 2005.

A third activity ratio is the inventory turnover ratio, which indicates the effectiveness with which
the company is employing inventory. Since inventory is recorded on the balance sheet at cost (not at

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Assessing a Company’s Future Financial Health

its sales value), it is advisable to use cost of goods sold as the measure of activity. The inventory
turnover figure is calculated by dividing cost of goods sold by inventory:
Cost of goods sold
Inventory
3.

SciTronics apparently needed $_____ of inventory at year-end 2008 to support its
operations during 2008. Its activity during 2008 as measured by the cost of goods
sold was $_____. It therefore had an inventory turnover of _____ times. This
represented an improvement/deterioration from _____ times in 2005.

An alternative measure of inventory management is days of inventory, which can be calculated by
dividing cost of goods sold by 365 days to determine average cost of goods sold per day. Days of
inventory is calculated by dividing total inventory by cost of goods sold per day.
A fourth and final activity ratio is the fixed asset turnover ratio which measures the effectiveness
of the company in utilizing its plant and equipment:
Net sales
Net fixed assets
4.

SciTronics had net fixed assets of $_____ and sales of $_____ in 2008. Its fixed
asset turnover ratio in 2008 was _____ times, an improvement/deterioration from
_____ times in 2005.

Leverage Ratios: How Soundly is the Company Financed?
There are a number of balance sheet measures of financial leverage. The various leverage ratios
measure the relationship of funds supplied by creditors to the funds supplied by owners. The use of
borrowed funds by reasonably profitable companies will improve the return on equity. However, it
increases the riskiness of the business and the riskiness of the returns to the stockholders, and can
result in financial distress if used in excessive amounts.
The ratio of total assets divided by owners’ equity is an indirect measure of leverage. A ratio, for
example, of $6 of assets for each $1 of owner’s equity indicates that $6 of assets is financed by $1 of
owners’ equity and $5 of liabilities.
1.

SciTronics’ ratio of total assets divided by owners’ equity increased/decreased
from _____ at year –end 2005 to _____ at year-end 2008.

The same “story” of increasing financial leverage is told by dividing total liabilities by total assets.
2.

At year-end 2008, SciTronics’ total liabilities were _____% of its total assets, which
compares with _____% in 2005.

Lenders—especially long-term lenders—want reasonable assurance that the company will be able
to repay the loan in the future. They are concerned with the relationship between a company’s debt
and its total economic value. This ratio is called the total debt ratio at market.
Total liabilities
Total liabilities market value of the equity
The market value of the equity is calculated by multiplying the number of shares of common stock
outstanding times the market price per share.
8

Assessing a Company’s Future Financial Health

3.

911-412

The market value of SciTronics’ equity was $175,000,000 at December 31, 2008.
The total debt ratio at market was _____.

A fourth ratio that relates the level of debt to economic value and performance is the times interest
earned ratio. This ratio relates earnings before interest and taxes—a measure of profitability and of
long-term viability—to the interest expense—a measure of the level of debt.
Earnings before interest and taxes
Interest expense
4.

SciTronics’ earnings before interest and taxes (operating income) were $_____ in
2008 and its interest charges were $_____. Its times interest earned was _____
times. This represented an improvement/deterioration from the 2005 level of
_____ times.

A fifth and final leverage ratio is the number of days of payables. This ratio measures the average
number of days that the company is taking to pay its suppliers of raw materials and components. It
is calculated by dividing annual purchases by 365 days to determine average purchases per day:
Annual purchases
365 days
Accounts payable are then divided by average purchases per day:
Accounts payable
Average purchases per day
to determine the number of days purchases that are still unpaid.
It is often difficult to determine the purchases of a firm. Instead, the income statement shows cost
of goods sold, a figure that includes not only raw materials but also labor and overhead. Thus, it
often is only possible to gain a rough idea as to whether or not a firm is becoming more or less
dependent on its suppliers for finance. This can be done by tracking the pattern over time of
accounts payable as a percent of cost of goods sold.
Accounts payable
Cost of goods sold
5.

SciTronics owed its suppliers $_____ at year end 2008. This represented _____%
of cost of goods sold and was an increase/decrease from _____% at year end 2005.
The company appears to be more/less prompt in paying its suppliers in 2008 than
it was in 2005.

6.

The financial riskiness of SciTronics increased/decreased between 2005 and 2008.

Liquidity Ratios: How Liquid is the Company?
The fourth basic type of financial ratio is the liquidity ratio. These ratios measure a company’s
ability to meet financial obligations as they become current. The current ratio, defined as current
assets divided by current liabilities, assumes that current assets are much more readily and certainly
convertible into cash than other assets. It relates these fairly liquid assets to claims that are due
within one year—the current liabilities.

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Assessing a Company’s Future Financial Health

Current assets
Current liabilities
1.

SciTronics held $_____ of current assets at year-end 2008 and owed $_____ to
creditors due to be paid within one year. Its current ratio was _____, an
increase/decrease from the ratio of _____ at year-end 2005.

The quick ratio or acid test is similar to the current ratio but excludes inventory from the current
assets:
Current assets Inventory
Current liabilities
Inventory is excluded because it is often difficult to convert into cash (at least at book value) if the
company is struck by adversity.
2.

The quick ratio for SciTronics at year-end 2008 was _____, an increase/decrease
from the ratio of _____ at year-end 2005.

Profitability Revisited
Management can “improve” its return on equity by improving its return on sales and/or its asset
turnover and/or by increa…

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