You should begin working on the Stand-Alone Project early in the course. Each lesson provides a benchmark for completing the Stand-Alone Project in a timely manner while working through the course. You will find this information in the “Stand-Alone Project Benchmark” section of each lesson.
This financial statement analysis requires you to make a specific decision about Apple Computer, Inc. in January 2003. You should base your decision on the information available through December 2002, which can be found in Supplement I and Supplement II, and Appendix A of your text. Use Dell’s and Gateway’s financial data to benchmark Apple’s performance in this case analysis.
Situation: You are a senior loan officer at a multinational bank. Apple Computer’s chief financial officer, authorized by the company’s Board of Directors, has applied for a ten-year note in the amount equal to one-fourth (25%) of existing shareholders’ equity as of December 31, 2002. The company seeks financing for long-term asset expansion. Terms call for interest at the prime rate plus one percent payable annually at December 31, with principal repayment when the note comes due in ten years (January 2013).
Decision: Your task is to make a recommendation to approve or reject Apple’s application to the bank’s loan committee. Your recommendation should be based on a thorough examination of Apple’s financial statements, their components (e.g., cash flow analysis), related disclosures, performance relative to the competition, state of the economy, and industry conditions.
Decision Report Format: Your recommendation should include a comprehensive analysis of Apple Computer, its competitors (Dell and Gateway), and the industry. The first page of your paper should be a one-page “executive summary” addressed to the loan committee containing your recommendation and its justification. The remainder of the paper should contain the analysis that led to your conclusion. There is no page limit on the paper’s appendices. The appendices should contain all worksheets, charts, tables, and so forth that support the positions and recommendations in your paper.
Your Stand-Alone Project responses should be both grammatically and mechanically correct and formatted in the same fashion as the project itself. If there is a Part A, your response should identify a Part A, etc. In addition, you must appropriately cite all resources used in your response and document them in a bibliography using APA style. (280 points) (A 10-page, double-spaced, narrative response plus appendices are required.)
This case focuses on your decision-making process. Either conclusion is valid as long as your recommendation is consistent with your analysis of the data. Use the following criteria as a guide in framing your responses.
This case analysis, like all cases, contains abstractions of reality and simplified assumptions. Use the facts of the case as given in conducting your analysis. Resist the temptation to dispute the facts or assumptions. Also, refrain from modifying them to suit your interpretation of reality. (For instance, do not state that the note’s structure or interest rate is unrealistic and then proceed to modify them.)
In Lessons 3 through 6, you will analyze specific financial statement components (e.g., short-term liquidity). You will then apply your analysis to determine whether Apple has sufficient current assets to meet maturing obligations and base your conclusions on your interpretation of the data. Remember, analysis requires attaching meaning to the information. In other words, it is far more than reciting trends in ratios over time.
The following project parts facilitate your paper’s composition, as discussed in the “Decision Report Format” above. Your Stand-Alone Project paper should address the following issues and should do so in a seamless, integrated fashion rather than presenting a series of independent responses to the issues raised and questions asked in the lesson benchmarks. (Remember that you will not be able to begin this project until you have completed Lesson 1.)
Part A Begin your financial report on Apple Computer by analyzing Apple, Dell, and Gateway. (28 points)
1. Determine the requested loan amount (rounded to the nearest million) and its interest rate.
2. Make a preliminary assessment of the financial condition and performance of Apple, Dell, and Gateway. Begin by comparing the common sized data of the latter two (2) companies’ income statements and balance sheets from 1999-2002 to that of Apple’s financial statements you created in Lesson 1.
3. Analyze the revenue growth of each of the three (3) firms, their net income as a percentage of sales, current assets as a percentage of total assets, and liabilities as a percentage of total assets from 1998 through 2002.
Part B Examine the global economy as it impacts the computer industry. (30 points)
1. Discuss the impacts of global, economic and industry conditions on the personal computer industry through 2002.
2. Classify the industry as either an emerging, growing, mature, or declining segment of the economy.
3. Compare and contrast Apple’s products and markets with those of Dell and Gateway.
4. Determine if each firm files consolidated financial statements and discuss the analytical implication associated with the companies’ fiscal years. Identify the type of audit report each company received in its 2002 Form 10-K filing and discuss the implications of that report on the credibility of the firms’ financial disclosures.
5. Compare and contrast inventory costing, methods of depreciation, and revenue recognition policies for Apple, Dell, and Gateway. Identify which of those three (3) accounting policies (inventory costing, depreciation methods, or revenue recognition) would be more important than the other two in influencing your loan recommendation.
Part C Look at the financial stability of all three (3) companies by analyzing their liquidity rates. (54 points)
1. Add the short-term liquidity ratios for Dell and Gateway to Apple’s short-term liquidity ratio charts that you created in Lesson 3. Use the 1999-2002 ratios contained in Supplement II for Dell and Gateway and their 1994-1998 ratios presented in Appendix A (page 346 of your textbook) to accomplish this task.
2. Analyze Apple’s short-term liquidity. Be sure to discuss each of the seventeen (17) liquidity measures.
3. Compare Apple’s short-term liquidity measures with those of Dell and Gateway. In doing so, you should determine if the data indicate that Apple has historically been able to meet its maturing obligations, and then project whether it will be able to do so in the near future.
4. Discuss whether technical adjustments for LIFO reserves or LIFO liquidation are necessary. (Ignore other technical adjustments, such as substituting purchases for cost of goods sold in computing accounts payable turnover.)
Part D In addition to liquidity rate, cash flow is an important indicator of a company’s financial stability. For that reason, analyze the cash flow of all three (3) companies. (37 points)
1. Add the cash flow ratios for Dell and Gateway to Apple’s cash flow ratio charts that you created in Lesson 4. Use the 1999-2002 ratios contained in Supplement II for Dell and Gateway and their 1994-1998 ratios presented in Appendix A (page in your text) to accomplish this task.
2. Analyze Apple’s cash flow. In doing so, you should determine whether the data indicate that Apple has historically been able to sufficiently and efficiently generate cash, and then project whether it will be able to do so in the near future, given its life cycle stage.
3. Compare Apple’s cash flows with those of Dell and Gateway.
Part E Analyze the assets and operating performance of each company. (35 points)
1. Add the asset utilization ratios for Dell and Gateway to Apple’s asset utilization ratio charts that you created in Lesson 5. Use the 1999-2002 ratios contained in Supplement II for Dell and Gateway and their 1994-1998 ratios presented in Appendix A (page 346 in your text) to accomplish this task.
2. Analyze Apple’s operating performance and asset utilization. In doing so, you should determine if the data indicate that Apple has historically generated quality earnings and produced adequate investment returns, and then project whether it will be able to do so in the near future.
3. Compare Apple’s operating performance and asset utilization with those of Dell and Gateway.
4. Discuss whether technical adjustments should be made to returns on assets and equity. (Do not make the numerical adjustments if you think they are necessary.)
Part F Combine some of your prior research and begin thinking seriously about whether Apple Computers should get the loan. (66 points)
1. Add the capital structure ratios for Dell and Gateway to Apple’s capital structure ratio charts that you created in Lesson 6. Use the 1999-2002 ratios contained in Supplement II for Dell and Gateway and their 1994-1998 ratios presented in Appendix A (page 346 in your text) to accomplish this task.
2. Analyze Apple’s capital structure. In doing so, you should determine if the data indicate that Apple has historically achieved an acceptable balance between debt and equity financing, and then project whether it will be able to do so in the near future.
3. Compare Apple’s capital structure with those of Dell and Gateway.
4. Compute and compile Apple’s January 1, 2003 pro forma balance sheet assuming the loan is made on that date.
5. Calculate optimistic, likely, and pessimistic 2003 pro forma income statements for Apple. Assume the loan took place on January 1, 2003; income statement line items increase by 10% (optimistic), 5% (likely), and 1% (pessimistic) from their 2002 amounts; there are no unusual, nonrecurring items, or irregular items that occur in 2003; and the effective income tax rate is 25%.
6. Compute Apple’s 2003 earnings coverage ratio (times interest earned ratio) under the optimistic, likely, and pessimistic income scenarios. Comment on Apple’s ability to cover interest incurred from the January 2003 loan. (Ignore interest expense on other loans in making the calculations.)
7. Regardless of your pro forma income statements, forecast a $.25 EPS range for Apple in 2003 (e.g., earnings will range from $.35 to $.60 per share). Justify your estimated range.
8. Based on your EPS forecast, project Apple’s 2003 price to earnings ratio with a range of five (e.g., the P/E ratio will fall between 15:1 and 20:1). Justify your estimated range.
9. Rank order Apple, Dell, and Gateway from highest to lowest in terms of EPS and price to earnings forecasts for 2003.
Part G Write an Executive Summary explaining your position on Apple’s loan in light of the analysis you have done throughout the course. (30 points)
1. Discuss the major points concerning the computer industry as a whole that the bank would have to consider in making this loan.
2. Discuss four (4) factors disfavoring the granting of the loan.
3. Discuss four (4) factors favoring the granting of the loan.
4. Write a conclusion that states your loan recommendation and includes your rational for the recommendation.