accounting

APPENDIX D

768

ANNUAL REPORT AND FINANCIAL STATEMENT ANALYSIS PROJECTS

Authored By: Linda Bell, Park University

ANNUAL REPORT PROJECT FOR THE TARGET CORPORATION (SEE APPENDIX B FOR THE TARGET ANNUAL REPORT)

Target’s 2011, 2012, and 2013 financial statements have been loaded in an Excel spread- sheet which is available in the Connect library. The income statement in the spreadsheet has been revised to better reflect the income statement format and wording used in the course textbook. The revision moves credit card revenues (interest income) to the non- operating section and enables the project solution for gross margin percentages to agree with those identified in the Management Discussion & Analysis section of the annual report. This Excel spreadsheet provides an excellent starting point for the vertical and horizontal analysis required in the project.

Please note: All references to the company’s year-end data pertain to the fiscal year-end. For example, the company’s 2013 financial statements are dated February 1, 2014, which is the company’s fiscal closing date. Likewise, the 2012 financial statements apply to the fiscal year-ending February 2, 2013.

Company Overview and Management’s Discussion and Analysis

The annual report for Target Corporation opens with a general description of business operations, risk factors, stock market registration, and selected financial data. This is followed by Management’s Discussion and Analysis of Financial Condition, in which management talks about financial results, including segment results, liquidity, and other matters deemed necessary to provide adequate disclosure to users of the report. Refer to these items to answer Questions 1–6.

1. What are the company’s two reportable operating segments? 2. Identify at least five risk factors for Target. 3. On what stock market exchange is the company’s stock traded? What is Target’s

symbol? 4. Describe the data breach that occurred during the fourth quarter of 2013 and its

effect on profits. 5. According to the Consolidated Statements of Operations, sales increased from

$71,960 million in 2012 to $72,596 million in 2013. However, according to the U.S. Segment information, sales in the U.S. declined during that same time period. Iden- tify the contributing factors for the declining 2013 U.S. sales and also explain how overall sales increased during 2013.

6. When discussing its liquidity, management indicated that cash provided by opera- tions in 2013 was $6,520 million. How did the company utilize these funds? The same section reports that Target sold its U.S. credit card portfolio. How did the company utilize these funds?

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Report of Independent Registered Public Accounting Firm on

Consolidated Financial Statements (Auditors)

7. What is the name of the company’s independent auditors? 8. Who is responsible for the financial statements? 9. What is the outside auditors’ responsibility? 10. What type of opinion did the independent auditors issue on the financial statements

(unqualified, qualified, adverse, or disclaimer)? What does this opinion mean? 11. The auditors’ report indicates the audit was concerned with material misstatements

rather than absolute accuracy in the financial statements. What does “material” mean?

Income Statement—Vertical Analysis

12. Using Excel, compute common-size income statements for all three fiscal years. In common-size income statements, net sales is 100 percent and every other num- ber is a percentage of sales. Attach the spreadsheet to the end of this project. (To help you get started, you can find Target’s financial statements in Excel format in the Connect library. The financial statements have been slightly reformatted to conform to the multi-step income statement format utilized throughout the textbook.)

13. Using the common-size income statements, identify the significant trends. 14. What was the gross margin (gross profit) and the gross margin percentage for fiscal

years 2013, 2012, and 2011? 15. If the gross margin percentage changed over the three-year period, what caused the

change? ( Hint : Changes in either the numerator or denominator reveal what caused the change in the gross margin percentage.)

16. What was the percentage return on sales for fiscal years 2013, 2012, and 2011? What do these ratios indicate about Target?

Income Statement — Horizontal Analysis

17. Using Excel, compute annual changes for each line item on the income statement. For each of the two most recent years, insert a column for changes in absolute dol- lars and insert another column for the percentage changes. Attach the spreadsheet to the end of this project. (You can find Target’s financial statements in Excel for- mat in the Connect library.)

18. What were the absolute dollar and the percentage changes in revenues between fis- cal years 2013 and 2012 and between 2012 and 2011?

19. Describe the trend in revenues. Be specific (e.g., slight/steady/drastic increase or decrease each year, or fluctuating with an initial modest/significant increase or decrease followed by a modest/significant increase or decrease, etc.) to precisely describe the company’s situation.

20. What were the absolute dollar and the percentage changes in cost of sales (cost of goods sold) between fiscal years 2013 and 2012 and between 2012 and 2011?

21. Describe the trend in cost of sales (cost of goods sold). Be specific (e.g., slight/ steady/drastic increase or decrease each year, or fluctuating with an initial modest/ significant increase or decrease followed by a modest/significant increase or decrease, etc.) to precisely describe the company’s situation.

22. What were the absolute dollar and the percentage changes in selling, general, and administrative expenses (operating expenses) between fiscal years 2013 and 2012 and between 2012 and 2011?

23. Describe the trend in selling, general, and administrative expenses. Be specific (e.g., slight/steady/drastic increase or decrease each year, or fluctuating with an initial

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770 Appendix D

modest/significant increase or decrease followed by a modest/significant increase or decrease, etc.) to precisely describe the company’s situation.

24. What were the absolute dollar and the percentage changes in net income between fiscal years 2012 to 2013 and 2011 to 2012?

25. How would you describe the trend for net income? Be specific (e.g., slight/steady/ drastic increase or decrease each year, or fluctuating with an initial modest/signifi- cant increase or decrease followed by a modest/significant increase or decrease, etc.) to precisely describe the company’s situation. Do you expect the trend to continue?

26. Which items had the largest percentage change from 2011 through 2013, revenues or expenses (such as selling, general, and administrative expenses or cost of sales)?

27. Summarize what is causing the changes in net income from fiscal year 2011 to 2012 and 2012 to 2013 based on the percentages computed in Questions 18 through 26. Do you expect the trend to continue?

Balance Sheet—Vertical Analysis

28. Using Excel, compute common-size balance sheets for the years ended February 1, 2014, and February 2, 2013. In common-size balance sheets, total assets is 100 percent and every other number is a percentage of total assets. Attach the spreadsheet to the end of this project. (You can find Target’s financial statements in Excel format in the Connect library.)

29. Current assets constituted what percentage of total assets at February 1, 2014, and February 2, 2013? Which current asset had the largest balance at each fiscal year-end?

30. Long-term assets constituted what percentage of total assets at February 1, 2014, and February 2, 2013? (Note: solutions for percentages calculated for items 29 and 30 should total 100 percent.) Which long-term asset had the largest balance at each fiscal year-end?

31. Current liabilities constituted what percentage of total assets at February 1, 2014, and February 2, 2013? Which current liability had the largest balance at each fiscal year-end?

32. Long-term liabilities constituted what percentage of total assets at February 1, 2014, and February 2, 2013? Which long-term liability had the largest balance at each fiscal year-end?

33. Calculate the ratio of total liabilities to total assets on February 1, 2014, and February 2, 2013.

34. Calculate the ratio of stockholders’ equity to total assets on February 1, 2014, and February 2, 2013. (Recall percentages for items 33 and 34 should total 100 percent.) Identify whether Target finances its assets mostly with debt or equity.

Balance Sheet—Horizontal Analysis

35. Using Excel, compute annual changes for each line item on the balance sheet. Insert a column for changes in absolute dollars and insert another column for the percent- age changes. Attach the spreadsheet to the end of this project. (You can find Tar- get’s financial statements in Excel format in the Connect library.)

36. What was the absolute dollar and the percentage change between the February 1, 2014, and February 2, 2013, credit card receivables balances? Was the change an increase or decrease? What line item (account) on the income statement is normally directly related to accounts receivable? What happened to Target’s credit card receivables? How was this event reported on the 2013 income statement?

37. What was the absolute dollar and the percentage change between the February 1, 2014, and February 2, 2013, balances for inventory? Was the change an increase or

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Appendix D 771

decrease? What line item (account) on the income statement is directly related to inventory? Did this account change in a similar direction as inventory?

38. Compared to the February 2, 2013, balances, did the amounts reported for the fol- lowing long-term assets increase or decrease? By how much? Include dollar amounts for each item.

What line item on the income statement is directly related to long-term assets? Did this account change in a similar direction as long-term assets?

39. What were the absolute dollar and the percentage change between the February 1, 2014, and February 2, 2013, amounts for total liabilities? Was the change an increase or decrease? What line item (account) on the income statement is directly related to the largest of these liabilities? Did this account change in a similar direc- tion as total liabilities?

40. What was the amount of the change in the balance in retained earnings between February 1, 2014, and February 2, 2013? What caused this change?

Balance Sheet—Ratio Analysis

41. Compute the current ratio at February 1, 2014, and February 2, 2013. What does this ratio indicate about Target?

42. Calculate the accounts receivable turnover and the average number of days to collect accounts receivable for the years ended February 1, 2014, and February 2, 2013. In which year was the turnover and days to collect receivables more favorable?

43. Calculate the inventory turnover ratios and the average number of days to sell inventory for the years ended February 1, 2014, and February 2, 2013. In which year was the turnover and days to sell inventory more favorable?

Balance Sheet—Stockholders’ Equity Section

44. Does the company’s common stock have a par value? If so, how much was the par value per share?

45. How many shares of common stock were issued as of February 1, 2014, and February 2, 2013?

46. How many shares of treasury stock did the company have as of February 1, 2014, and February 2, 2013? How were the treasury stock purchases reflected on the statement of cash flows? Include the type of cash flow activity.

47. What percentage of stockholders’ equity do the following items represent at each year-end (February 1, 2014, and February 2, 2013)?

Year Ended February 1, 2014

Dollar Amount Increase or Decrease

Property, plant, and equipment, net Other noncurrent assets Total long-term assets

2014 2013

Total paid-in capital % % Retained earnings Other items 100% 100%

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Statement of Cash Flows

48. Does Target report cash flows from operating activities using the direct or the indi- rect method? Describe how you can tell.

49. What was the dollar amount of the increase or decrease in cash and cash equiva- lents for the fiscal years 2013, 2012, and 2011?

50. Does the ending balance of cash and cash equivalents agree with the amount reported on the balance sheet for years ended February 1, 2014, and February 2, 2013?

2014 2013

Balance sheet $ $ Statement of cash flows

51. Target reported a $6,520 million cash flow provided by operations in 2013. Identify the four largest cash flows for that year. Does this agree with management’s com- ments identified in Question 6?

52. On what statement(s) would you expect to find information regarding the declara- tion and payment of dividends? Did the company declare or pay dividends in 2013?

Notes to the Financial Statements

53. In your own words, briefly summarize two significant accounting policies. 54. How much is the estimated allowance for discounts and doubtful accounts for the

years ending February 1, 2014, and February 2, 2013? 55. Normally accounts receivable are reported at net realizable value. However,

Target reported its credit card receivables at the lower of cost or fair value. Why?

56. Complete the following schedule, contrasting the effect that the three inventory cost flow assumptions have on dollar amounts reported on the balance sheet and income statement. Identify the account in each financial statement that is affected by the sale of merchandise. Insert the most appropriate term (high, middle, or low) to indicate how the specified account would be affected by each of the given cost flow assumptions. Assume an inflationary environment.

Cost Flow Assumptions

Account Affected FIFO AVG LIFO

1. Balance Sheet: 2. Income Statement:

57. What inventory cost flow method does Target use? 58. What are the estimated useful lives of the company’s depreciable assets? 59. Complete the following schedule contrasting the effect the two types of deprecia-

tion methods have on dollar amounts reported on the balance sheet and income statement. Identify the account in each financial statement that is affected by depre- ciation expense. Designate with an X the method (accelerated or straight-line) that would result in a higher balance for the specified account during the early years of the asset’s life.

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60. What method of depreciation does Target use? 61. Did the balance in the goodwill account increase or decrease? Speculate as to what

caused this change. 62. In addition to goodwill, what kinds of intangible assets does the company have?

What are their estimated lives? 63. Identify three different accrued expenses. 64. Identify two kinds of commitments and contingencies. 65. What is the amount of available unsecured revolving credit? What was the balance

outstanding at the end of each fiscal year? 66. What is the amount of total long-term borrowings at February 1, 2014? Are these

obligations secured or unsecured? The amount reported in the notes does not agree with total long-term debt reported on the balance sheet. What are the two addi- tional long-term items reported on the balance sheet?

Performance Measures

67. Compute the return on assets ratio (use net income rather than EBIT in the numer- ator) for the years ended February 1, 2014, and February 2, 2013.

68. Compute the return on equity ratio for the years ended February 1, 2014, and Feb- ruary 2, 2013.

69. For the year ended February 1, 2014, was the return on equity ratio greater than the return on assets ratio? Explain why.

70. What were Target’s basic earnings per share (EPS) for the years ended February 1, 2014, and February 2, 2013? Identify what caused the ratio to change.

FINANCIAL STATEMENTS PROJECT (SELECTION OF COMPANY TO BE DECIDED BY INSTRUCTOR)

Date Due: _______________

Required

Based on the annual report of the company you are reviewing, answer the following questions. If you cannot answer a particular question, briefly explain why. If the ques- tion is not applicable to your company’s financial statements, answer “N/A.” Show all necessary computations in good form. Label all numbers in your computations. If relevant, reference your answers to page(s) in the annual report. “Current year” means the most recent fiscal year in the company’s annual report. “Prior year” means the fiscal year immediately preceding the current year.

1. What products or services does the company sell? Be specific. 2. What do you think the outlook is for these products or services? Why do you think so? 3. By what percentage have sales increased or decreased in each of the last two fiscal

years?

Depreciation Methods

Account Affected Accelerated Straight-Line

1. Balance Sheet: 2. Income Statement: ( X 5 Higher balance early in asset ’s life)

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4. If the company reported sales by segments, which segment had the largest percent- age of total sales? Which segment had the smallest percentage of total sales? Show computations of the relevant percen t ages. Largest segment ______________ Percentage of total sales ______________ Smallest segment ______________ Percentage of total sales ______________

5. What is net income for the current year? ______________ 6. Did the current year’s net income increase or decrease since the prior year? By how

much? What caused the change? 7. If the company reported earnings by segments, which segment had the largest per-

centage of total earnings? Which segment had the smallest percentage of total earnings? Show computations of the rel e vant pe r centages. Largest segment ______________ Percentage of total earnings ______________ Smallest segment ______________ Percentage of total earnings ______________

8. Did the company report any special, unusual, or otherwise nonroutine items in either current or prior year net income? If so, explain the item(s).

9. For the current year, how does net income compare to net cash provided (used) by operating activities?

10. For the current year, what one or two items were most responsible for the difference between net income and net cash provided (used) by operating activities?

11. Did the company pay cash dividends during the current year? If so, how much were they?

12. If the company paid cash dividends, what percentage of net income were the cash dividends? If the company did not pay cash dividends, why do you think it did not?

13. Which of the following is the company’s largest asset category: accounts receivable, inventory, or land? What is the amount of that asset category?

14. If the company reported assets by segments, which segment had the largest percent- age of total assets? Which segment had the smallest percentage of total assets? Show computations of the relevant pe r centa g es. Largest segment ______________ Percentage of total assets ______________ Smallest segment ______________ Percentage of total assets ______________

15. How much cash did the company invest in property, plant, and equipment during the current year?

16. Which inventory method(s) did the company use? 17. Which depreciation method(s) did the company use? 18. If the company has any intangible assets, what kind are they? 19. Did the company report any contingent liabilities (“contingencies”)? If so, briefly

explain. 20. Does the company have any preferred stock authorized? If so, how many shares

were authorized? 21. Does the company’s common stock have a par value? If so, what was it? 22. In what price range was the company’s common stock trading during the last quar-

ter of the current year? 23. What was the market price of the company’s common stock on DD/MM/Year? 24. Where (on what stock exchange) is the company’s stock traded? 25. Who was the company’s independent auditor? 26. Develop one question about the company’s financial report that you do not know

how to answer. 27. Compute the following ratios for the current year and the prior year. Show the

appropriate formulas in the first column. Show all supporting computations in the second and third columns.

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Appendix D 775

Ratio Current Year Prior Year

Gross Profit Formula:

Inventory Turnover Formula:

Current Ratio Formula:

Debt to Equity Formula:

Return on Assets Formula:

Return on Equity Formula:

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