Analyzing Financial Ratios

Last Updated: 19 Apr 2023
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Most college courses in accounting focus on teaching the various components of the accounting system. While this is an effective way to learn and master each of the various components, it usually leaves students with only a vague notion of how those components work together. My goal is to bridge that gap using the Review Project and this Terry Project. The goal of the Review Project is to take you through the full accounting cycle, allowing you to practice each step and use it as you move on to the next step.

This project, on the other hand, will help you to consider a series of individual situations, how they should be accounted for and what each will do to the company’s bottom line. Basically, this project has three goals:

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  1. to give you practice with at least one of the important topics we will cover in each chapter;
  2. to encourage you to consider the consequences of business decisions on the financial statements;
  3. to provide you with an opportunity to work with a small group or partner to solve accounting problems.

To accomplish the first goal, I have provided you with some basic information about the financial accounts already prepared by Terry Co. For most of the chapters we cover, I will give you information about at least one transaction that Terry’s accounting department has not yet recorded. It will be up to you to determine whether any adjustment needs to be made because of this new information. If so, then you will need to make the appropriate journal entries (including any tax effects). To accomplish the second goal, each assignment will require to you create or adjust Terry’s financial statements based on your adjusting entries.

In most cases, you will then have the opportunity to look at several commonly used financial ratios to determine what effect your changes will have on investors’ opinion of Terry Co. To accomplish the third goal, you will work with a partner (or partners, depending on the class size) of your choice. Because of the way the system is set up for grading, once you have set up your Terry teams you will have to continue with that team for the rest of the semester. Your choice of partner is due at 5:00pm on the due date given in the course schedule.

If necessary, you may use the Terry Groups discussion link in Blackboard to help you find a partner. You will have an opportunity to evaluate your partner at the end of the semester. These evaluations will be an important part of your grade on this assignment, so make sure that you are a team player. For those of you who are accounting majors, this project will provide you with some experience in the types of activities you will be doing throughout your professional careers: making journal entries, fixing financial statements, recognizing the effects of certain decisions of the financial statements, and discussing those effects with others.

For those of you who are majoring in other areas, this project will provide you with some perspective on how your business decisions will affect the way investors, creditors, and other outside stakeholders see your company. Remember that most investors see only the financial statements, so you must impress them with those numbers if you are to get the funding you need. Since GAAP is relatively strict on how information must be reported once the transaction has been performed, you will need to know the financial statement effects of your options before you make your decision.

This project will help you get a feel for how various decisions will affect the financial statements and the financial ratios. Finally, remember that accounting is not only important, it’s also fun! And this project has been written to give you lots of opportunities for fun. Grading Each part of the project will be worth 25 points. The journal entries, if any are needed, will be worth 10 points, the corrections to the account balances and financial statements will be worth 9 points, and the interpretation of effects (including changes to the financial ratios) will be worth 6 points.

In some cases (see the instructions for Problems 1-3), this scale will be adjusted slightly due to the nature of the problem. Partial credit will be awarded on the work you show. I can’t give partial credit if I only see a summary number or if I can’t find or understand your work, so please take the time to show your work and label it clearly. Your files (see below) should be formatted so that they print out clearly and easily on standard portrait pages. Each part of the project should be turned in to the appropriate assignment drop box in Blackboard by 11:00pm on the due date given in the course schedule.

Since the final part of this project is due during finals week, it is not required. Instead, it will be worth 15 bonus points on the Terry Project. If you choose to complete the final part of the project, you must turn it in by 11:00pm on the due date in the course schedule to get the bonus points. Rounding All journal entries should be rounded to the nearest dollar throughout the Terry case. If you do not round appropriately, you will soon find that your balance sheet will not completely balance. You will be off by $1 or $2, especially in the later projects.

Rounding as you go will ensure that this does not become a problem. EPS should be rounded to the nearest penny ($0. 01) through the case and all other ratios should be rounded to three (3) decimal places (0. 001). Background Information Terry Co. sells backpacks, laptop bags, briefcases, and other bags. The bags are purchased already made, then the Terry branding and finish is added. Because of several exclusive contracts and high quality products, the company has a strong following in its home state of Georgia and the surrounding area.

In addition to its own brand, the company also has contracts with many colleges, firms, and local organizations to sell bags with these other groups’ logos. This practice has greatly increased Terry’s sales, especially since the company is usually able to use lower quality inventory to fill these orders (this leads to lower costs for the other groups without damaging Terry’s reputation). Because of its success during the past two (2) years, Terry was able to go public in January of last year. This has given the company additional capital to grow, as well as allowing the original owners to diversify some of their risk.

Management’s goal now is to begin marketing in the Northeast and Central regions of the country. If they are successful, they will continue on to the West Coast within a few years. Since much of their advertising is done through personal contacts and word of mouth, their growth will be slow. While that worries some of their new investors, recent economic trouble has left many investors pleased with the management team’s more cautious growth. In their rush to go public, Terry’s management has forgotten one small detail. They have not created a very strong accounting department.

While their auditors have been willing to help them clean up their books in the past, the managers are starting to realize that their lack of in-house accounting expertise is a problem. During the past year they engaged in several transactions and decisions that might have important repercussions on their financial statements, and they didn’t know it. In an effort to start cleaning up their accounting system, they have finally hired you and your partner. Your first job will be to go through Terry’s decisions for the year and clean up any mistakes that have been made, and to record any transactions that have been missed.

In the future, you will be expected to give management good advice about the accounting consequences of their actions before decisions are made. Based on recommendations from their auditor and SEC regulations, Terry uses an accrual accounting system based on U. S. GAAP. The company’s fiscal year end is December 31st. Since Terry is a relatively small public company with an easy audit, the auditors don’t usually arrive until about January 15th. However, you are expected to have the financial statements ready to go by January 1st so that upper management can issue an earnings announcement to the stockholders.

Although an earnings announcement is known to be unaudited, investors are traditionally very harsh with companies that have a final earnings number below the initial earnings announcement. You will need to be as accurate as possible in order to avoid this type of market consequence. Terry Part #1: Chapter 3 Goal: To practice making necessary correcting and adjusting entries and using them to create an adjusted trial balance. (See Topic Guides AC 6, 11, 12, 14). Information: The table on the next page reports Terry’s account balances on December 31st for the current and prior years.

The following entries have not yet been made for the current year:

  1. During the year the board declared and paid an $250,000 dividend.
  2. During the year the sales department wrote off $500,000 of accounts receivable (already included in the current account balances). They have now decided that 18% of their ending A/R balance is uncollectible. Terry uses the % of A/R method for recognizing bad debt expense.
  3. On June 1st, a year’s lease on a new warehouse was prepaid for $90,000. The original payment was recorded appropriately, but no other entries have been made for this contract since that time.

Terry’s reported income tax expense (see below) includes an estimate for this year’s taxes. Only the three adjustments mentioned above have not yet been included in this tax estimate. Because of this, you will need to record any tax effects from the transactions throughout this case (starting with the tax effects, if any, of these three entries). Since another tax payment will not be made until April, these adjustments should be accounted for in Income Tax Expense and Income Tax Payable. Terry’s tax rate is 30%.

Using the money from their recent bond issue, Terry’s management has decided to declare an additional $715,000 dividend (see Part #1 for information on the first dividend of the year). The date of declaration is December 30, Year 2. The date of record will be January 15, Year 3, and the date of payment will be January 30, Year 3. As an additional signal to the market, Terry’s management repurchased 60,000 shares of Terry’s common stock on December 31st for $24 a share.

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Analyzing Financial Ratios. (2017, May 28). Retrieved from https://phdessay.com/analyzing-financial-ratios/

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