Tire City Case Study

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Tire City, Inc. (TCI) was a rapidly growing retail distributor of automotive tires in Northeastern United States. Tires were sold through a chain of 10 shops located throughout Eastern Massachusetts, Southern New Hampshire and Northern Connecticut. These stores kept sufficient inventory on hand to service immediate customer demand, but the bulk of Tire City's inventory was managed at a central warehouse outside Worcester, Massachusetts. Individual stores could be easily serviced by this warehouse, which could usually fill orders from individual stores within 24 hours. TSI showed solid results for the year ended in December, 1995; TCI had sales of USD23.51m and net income of USD1.19m. During the previous three years, sales had grown at a compound annual rate in excess of 20%. This record was a reflection of TCI's reputation for excellent service and competitive pricing, which yielded high levels of customer satisfaction. As a result of the company’s growth, Tire City’s management decided to expand their business, but in order to do so they will need to request a loan from a bank. Mr. Martin, Tire City’s CFO, decided to develop a set of pro forma financial statements for the company to present it to the bank in order to accept the requested loan.

In order to evaluate TCI’s financial performance as of FY1995, there are a couple of ratios we should look at to get a full picture of the company’s financial health; our ratio analysis will be divided into a different categories, each studying a different demission of the company. We will start of profitability ratios, which are used to assess a business's ability to generate earnings as compared to its expenses and other relevant costs incurred during a specific period of time. For most of these ratios, having a higher value relative to a competitor's ratio or the same ratio from a previous period is indicative that the company is doing well, in our case we will look at FY1995 figures and compare it to previous years to assess TCI’s performance. The key profitability ratios are summarized in the table below:

 |  | 1993| 1994| 1995|
| | | | |
Profitability| | | | |
|
| Return on Assets| 11.85%| 12.75%| 13.25%|
| Return on Equity| 23.87%| 24.53%| 23.73%|
| Profit Margin| 4.81%| 4.90%| 5.06%|

When looking at the numbers we can see a slight increase in all FY1995 figures except for the ROE which is not a positive sign since ROE is a crucial measure of the efficiency with which a company’s management employs owner’s capital. The drop is not so significant for a serious concern but a guarantee that it won’t go any more down the drain would be more favorable. We then look at the liquidity ratios, which are used to determine a company's ability to pay off its short-terms debts obligations. The higher the value of the ratio, the larger the margin of safety that the company possesses to cover short-term debts.    |  | 1993| 1994| 1995|

Liquidity| | | | |
| Current Ratio| 2.03| 1.92| 2.03|
| Quick Ratio| 1.32| 1.29| 1.35|

Liquidity ratios for TCI for FY1995 are positive and increasing y-o-y which is a good indicator for healthy figures. Then we move to leverage ratios, which show the degree to which the business is leveraging itself through its use of borrowed money. A high financial leverage or debt to equity ratio indicates possible difficulty in paying interest and principal while obtaining more funding, while the interest coverage ratio is a ratio used to determine how easily a company can pay interest on outstanding debt so the higher the ratio, the less the company is burdened by debt expense.  |  | 1993| 1994| 1995|

Leverage| | | | |
| Assets/Equity| 2.01| 1.92| 1.79|
| Debt/Total Capital| 0.50| 0.48| 0.44|
| Interest Coverage| 10.14| 16.16| 21.50|
| Debt to Equity| 1.0135| 0.9242| 0.7912|

TCI’s FY1995 are good, debt to equity ratio is decreasing y-o-y and...
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