Fin 370 Case Study Wk 4

Topics: Financial ratios, Balance sheet, Generally Accepted Accounting Principles Pages: 5 (1243 words) Published: December 19, 2010

Jim Reed and Reed’s Clothier

University of Phoenix

FIN 370

May 11, 2009

Reed’s Clothier is a clothing store in business since 1934 and is currently being operated by Jim Reed II. Jim has had some gloomy days recently in the store and is in need of some rejuvenation. Reed’s Clothier currently is in some serious cash flow issues stemming from buying the whole entire building years ago and not having a renter in the building now that the law office has left. Reed’s also has not been taking advantage of the huge discounts offered by their vendors because they need the time to manage the cash flow. In addition, Reed’s has a great deal more inventory on hand than the demand is currently calling for in the market. Reed’s needs to stay ahead of their vendors’ payables by making some quick changes like inventory reduction.


Quite a few ratios are used in the financial market to measure companies against one another in the market, and within the industry. The top liquidity ratios used in business are the current ratio, quick ratio, receivables turnover, and average collection period. Reed’s current ratio is 2.02% ($921,000/$457,000). The standard in the industry is 2.7%. Compared to other companies, Reed is not as liquid as other companies. Reed’s quick ratio is 1.50% [($921,000-$421,000)/$287,000]. The previous two calculations are quite obvious since Jim has not been able to make the companies short term obligations, and has been borrowing money. Reed’s receivables turnover ratio and average collection period show how quickly the company is collecting on the money owed to Reed’s and how quickly they are turning over those accounts. Jim’s receivable turnover ratio is 4.93 times per year ($2,035,000/$413,000). The industry standard is 7.7 times. Reed’s is not maintaining its receivables or accounts with vendors that owe them money. Not collecting on the accounts receivable means Reed’s has money out there they are not able to use to pay on short term and long-term debts. The average collection period for the industry is 47.4 days and Reed’s is currently sitting at 74 days [$413,000/($2,035,000/365)]. Reed’s is waiting too long to collect money from vendors and this is exactly why they are not able to make their debts. Overall, Reed’s is not too liquid.

The industry also has quite a few efficiency ratios like total asset turnover, inventory turnover, and payable turnover. Reed’s total asset turnover is 1.28 ($2,035,000/$1,591,000) where the industry standard is 1.9. Reed’s is not too far off on that ratio. It shows that they might be efficient with the maintenance of their assets. Right now, Reed’s is turning over their inventory 2.91 times ($1,428,000/$491,000), and the standard is 7.0 times. This particular ratio shows exactly why Reed’s is holding onto too much of the inventory and they should have an inventory reduction sale. Payable turnover is another way to see how efficient the business is operating. Reed’s ratio is 2.40 ($491,000/$205,000) and the standard is 15.1. Jim is not being efficient on paying his accounts either. Right now, Reed’s is missing out on quite a few opportunities to catch a break on discounts by paying early.

Profitability ratios are also important when investigating exactly where the business is at any given moment. A few of the profitability ratios are gross profit margin, net profit margin, and return on common equity. Right now, Reed’s is not showing they are profitable in any of the ratios above. The company’s profit margin is below the industry standard. Typically, these profitability ratios explain what is left in the business to invest and what amount of money is available for the stockholders. Reed’s is not meeting any of the standards.

Figure 1: Profitability Ratios

|Gross Profit Margin= |Gross Profit= | $ 607,000.00 |29.80% |...
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