PPT SCRIPT

Summary of Financial Statements Analysis of EBC, Inc.

Short-Term Liquidity and Activity

Short-term liquidity analysis is of particular significance to trade and short- term creditors, management and other
parties concerned with the ability of a firm to meet near-term demands for cash.

EBC’s current and quick ratios decreased indicating a deterioration of short-term liquidity. However, the cash flow
liquidity ratio improved in 2014 after a negative cash generation in 2013.

The average collection period for accounts receivable and the inventory turnover improved in 2014 which could indicate
improvement in the quality of accounts receivable and liquidity of inventory. The increase in inventory level has been
accomplished by reducing holdings of cash and cash equivalents. This represents a trade-off of highly liquid assets for
potentially less liquid assets. The efficient management of inventories is critical for the firm's ongoing liquidity.

Presently, there appears to be no major problems with the firm's short-term liquidity position.

Long-Term Solvency

The debt ratios for EBC show a steady increase in the use of borrowed funds. Total debt has increased relative to total
assets, long-term debt has increased as a proportion of the firm's permanent financing and external or debt financing
has risen relative to internal financing.

Why has debt increased? The statement of cash flows shows that EBC has substantially increased its investment in
capital or fixed assets and their investments have been financed largely by borrowing especially in 2013 when the firm
had a rather sluggish operating performance and no internal cash generation.

Given the increased level of borrowing, the times interest earned and fixed charge coverage improved slightly in 2014.
These ratios should however be monitored closely in the future particularly if EBC continues to expand.

Operating Efficiency and Profitability

As noted earlier, EBC has increased its investment in fixed asset as a result of store expansion. The asset turnover
increased in 2014, the progress traceable to improved management of inventories and receivable. There has been
substantial sales growth which suggests future performance potential.

The gross profit margin was stable, a positive sign in the light of new store openings featuring discounted and "sale"
items to attract customers. The firm also managed to improve its operating profit margin in 2014 principally due to the
firm's ability to control operating costs. The net profit margin also improved despite increased interest and tax expenses
and a reduction in interest income from marketable security investment.

Return on assets and return on equity increased considerably in 2014. These ratios measure the overall success of the
firm in generating profits from its investment and management strategies.

Conclusion:

It appears that EBC Enterprises, Inc. is well positioned for future growth. Close monitoring the firm's management of
inventories is important considering the size of the company's capital tied up in it. The expansion in their operation may
necessitate a sustained effort to advertise more, to attract customers to both new and old areas. EBC has financed much
of its expansion with debt, and so far, its shareholders have benefited from the use of debt through financial leverage.
The company should however be cautious of the increased risk associated with debt financing.
THE DUPONT DISAGGREGATION ANALYSIS

DuPont Equation is the formula that shows that the rate of return on equity can be found as the product of profit
margin, total assets turnover and the equity multiplier. It shows the relationships among asset management, financial
leverage management and profitability ratios.

Disaggregation of return on equity (ROE) was initially introduced by E. I. DuPont de Nemours and Company to help its
managers in performance evaluation.

The basic DuPont model disaggregates ROE as follows:

These three components are described as follows:

1. Profit Margin is the amount of profit that the company earns from each peso of sales. A company can increase its
profit margin by increasing its gross profit margin (Gross profit Sales), and/or by reducing its expenses (other than cost
of sales) as a percentage of sales.

2. Asset Turnover is a productivity measure that reflects the volume of sales that a company generates from each peso
invested in assets. A company can increase its asset turnover by increasing sales volume with no increase in assets
and/or by reducing asset investment without reducing sales.

3. Financial Leverage measures the degree to which the company finances its assets with debt rather than equity.
Increasing the percentage of debt relative to equity increases the financial leverage. Although financial leverage
increases ROE (when performance is positive), debt must be used with care as it increases the company's relative
riskiness.

The profit margin and asset turnover relates the company

Return on assets measures the return on investment for the company without regard to how it is financed (the relative
proportion of debt and equity in its capital structure). Operating managers of a company typically grasp the income
statement. They readily understand the pricing of products, the management of production costs and importance of
controlling overhead costs. However, many mangers do not appreciate the importance of managing the statement of
financial position.

The ROA approach to performance measurement encourages managers to also focus on the returns that they achieve
from the invested capital under their control. Those returns are maximized by a joint focus on both profitability and
productivity.
1. Profitability. It is measured by the profit margin (Net income + Sales). Analysis of profitability typically examines
performance over time relative to benchmarks such as competitors' or industry performance, is discovered, managers
either correct suboptimal performance or protect which highlight trends and abnormalities. When abnormal
performance superior performance. The two general areas of profitability analysis are:

 Gross profit margin. It measures the gross profit (Sales less Cost of goods sold) for each sale. Gross profit margin
(Gross profit + Sales) is affected by both the selling prices of products and their manufacturing cost.
 Expense management. Managers focus on reducing manufacturing and administrative overhead expenses to
increase profitability. Manufacturing overhead refers to all production expenses (e.g., utilities, depreciation and
administrative costs) other than labor and materials. Administrative overhead refers to all expenses not in cost
of goods sold (e.g., administrative salaries and benefits, research and development, marketing, legal and
accounting).

2. Productivity. It refers to the volume of sales resulting from invested in assets. When a decline in productivity is
observed, managers have two avenues of attack:

• Increase in sales volume from the existing asset base, and

• Decrease the investment in assets without reducing sales volume.

Illustrative Case 12-2.

OR Company is a subsidiary of Pure Sense, Inc. and was acquired several years ago as explained in the following note to
the Pure Business Sense, Inc. annual report:

On May 23, 2012, OR Company acquired Pure Business Sense, Inc., a distributor of grocery and food products to
retailers, convenience stores and restaurants. Results of Pure Business Sense, Inc. operations are included in OR
Company's consolidated results beginning on that date. Pure Business Sense, Inc. revenues in 2014 totaled P24.1 million
compared to P23.4 million in 2013 and approximately P22.0 million for the full year of 2012. Sales of grocery products
increased about 5% in 2014 and were partially offset by lower sales to foodservice customers. Pure Business Sense, Inc.
business is marked by high sales volume and very low profit margins. Pretax earnings in 2014 of P217 million declined
P11 million in 2013. The gross margin percentage was relatively unchanged between years. However, the resulting
increased gross profit was more than offset by higher payroll, fuel and insurance expenses. Approximately, 33% of Pure
Business Sense, Inc. annual revenues currently derive from sales to Savemore. Loss or curtailment of purchasing by
Savemore could have a material adverse impact on revenues and pre-tax earnings of Pure Business Sense, Inc.

Analysis

Pure Business Sense, Inc. is a wholesaler of food products; it purchases food products in finished and semi-finished form
from agricultural and food-related businesses and resells them to grocery and convenience food stores. The extensive
distribution network required in this business entails considerable investment. The business analysis of Pure Business
Sense, Inc. financial results includes the following observations:

Industry competitors. Pure Business Sense, Inc. has many competitors with food products that are difficult to
differentiate.

Bargaining power of buyers. The note above reveals that 33% of Pure Business Sense, Inc. sales are to Savemore, which
has considerable buying power that limits seller profits; also, the food industry is characterized by high turnover and low
profit margins, which implies that cost control is key to success.

Bargaining power of suppliers. Pure Business Sense, Inc. is large (P24 million in annual sales), which implies its suppliers
are unlikely to exert forces to increase its cost of sales.

Threat of substitution. Grocery items are usually not well differentiated; this means the threat of substitution is high,
which inhibits its ability to raise selling prices.

Threat of entry. High investment costs, such as warehousing and logistics, are a barrier to entry in Pure Business Sense,
Inc. business; this means the threat of entry is relatively low.

Our analysis reveals that Pure Business Sense, Inc. is a high-volume, low-margin Company. Its ability to control costs is
crucial to its financial performance, including its ability to fully utilize its assets. Evaluation of Pure Business Sense, Inc.
financial statements should focus on that dimension.