Analysis of Brighton Floor Stores Performance and Cash Flow for 2015 Quarters

Comparison with Home Depot

Task:

The initial observation on the balance sheet is the presence of negative numbers for cash in each of the last two quarters. Typically we think of all assets, especially cash, as having positive balances. Literally, a negative cash balance implies the company is overdrawn on its checking account on that date. The company has written more checks than it has made deposits to cover.

From a financial reporting perspective, a negative cash balance should be reclassified as a current liability. The company “owes” the bank the deficit balance and needs to deposit the funds ASAP… i.e, before checks begin to bounce.

However, the financial reporting treatment of the negative cash balance is of much less concern than the fact that the bank account is overdrawn. Technically, it can be illegal to
overdraw an account in this manner. And obviously, the company isn’t managing cash well to be in this situation. Before performing classic ratio analysis on the financial statements it us useful to note one unusual feature of the income statement. The “bottom line” is identified as “operating income” rather than “net income” and excludes any provision for income taxes. In fact, interest has been deducted in the determination of operating income rather than deducted “below the line” as a non-operating expense. Taxes have been excluded because their company is a Subchapter S corporation (or a partnership, perhaps) which does not directly pay income taxes – but rather, has its profit included on the individual tax returns of Ed and Tom. One way or another, however, someone will be paying taxes on the company’s profit. To make a fair comparison with any publicly available benchmarks of profitability using net income we would want to make a provision for taxes (probably about 40%) on the income statement of BFS.

Deliverable Requirements

1. Compare the performance of Brighton Floor Stores with a store where I recently bought some carpet for my son’s bedroom, namely Home Depot (results based on a recent annual report filed with the SEC). Please use the ratio forumulas discussed in your online video.

Return on Assets 19.9%
Return on Equity 19.2%
Return on Sales 6.6%
Gross Profit Percentage 31.8%
Asset Turnover 1.89
Inventory Turnover 4.8
Debt to Equity .54

Feel free to compute any other ratios for Brighton Floor Store that you think would be diagnostic in your analysis of their performance, but you need not compare them to Home Depot. As you can probably tell by their magnitudes, the ratios for Home Depot are based upon annual income statement data.

2. Analyze their negative cash balance by preparing a statement of cash flows for each of the two quarters ending March 31, 2015 and June 30, 2015. Use this information to identify the company’s cash flows from operations, cash flows from investing activities and cash flows from financing activities during each of these two quarters. You may assume that Brighton Floor Stores is a Subchapter S Corporation and hence does not pay income taxes.

3. Using the results of the above analysis, prepare a list of recommendations for the management of Brighton Floor Store – comment on their feasibility and purpose.