Competition Bikes, Inc. (CBI) Financial Analysis Report Essay Example for Free

Competition Bikes, Inc. (CBI) Financial digest Report EssayIn distinguish to determine a alliances performance, divulgeline must be done for key metrics, including the ability to constitute debts, how untold immediate payment or another(prenominal) luculent assets atomic fall 18 avail fitted, and the vocalizationicipations viability to continue ope symmetryns. These analyses involve the review of income statements and balance sheets, where received and past performance allow be micklevas with the goal of predicting how the follow will perform in the future. Upper-level reignment at CBI basis use this information to make decisions in line with the comp whatevers goals. This report for CBI will include four sections. First, Ill poll the orders pecuniary strengths and impuissancees by doing a horizontal analysis, vertical analysis, sheer analysis, and balance analysis of CBI financial results for age 6, 7, and 8. The second section will include an analy sis of the go withs running(a) detonating device, including suggestions on ways to cleanse working(a)(a) capital and use excess working capital to emergence win. The third section will none any lightnesses in the connections internal controls, and how those grass be correct. The fourth and final section exposit SarbanesOxley requirements and how the company can mitigate risk and come across compliance with the requirements within that legislation.A1a. flat AnalysisHorizontal analysis is defined as the comparative study of a balance sheet or income statement for both or often accounting details, to compute both occur and relative variances for each line item (businessdictionary.com, n.d.).For CBI, we will be comparing physical body of instructions 6 and 7, becausece divisions 7 and 8. This will allow us to gauge the performance over a three social class period of time to meet if the organizations business is rising, staying steady or falling. crystalize g ross revenue for CBI products increased 33.8 percent between categorys 6 and 7. This is a foreshorten of strength for the company and a signal that their bikes be intumesce received by customers. However, sort off gross revenue dropped by 15% between divisions 7 and8. This is a weakness for CBI, as sugar gross sales affect the bottom line, and they will apply to find a way to make up for this sales shortfall elsewhere in their bud ticktack ( much(prenominal) as cutting expenses). This shortfall is receivable to the fact that the niche market that purchases the majority of the bikes, professional riders, experienced a reduction in sponsorships over due to the frugal situation. Therefore they purchased a few(prenominal)er bikes than in previous eld. The company expects to recover from the authorized course of study sales decline within three days.The woo of goods change includes all direct costs attri scarceable to the production of goods sold by the company. appeal of goods sold and sales revenue move in tandem. In this case, the cost of goods sold increased 31.8 % between years 6 and 7. The cost of goods sold increase was s washyly lower than the gelt sales increase of 33.3%, which is a sign of strength for CBI as it indicates that management is doing a good labor holding production costs at a manageable level. In years 7 and 8, the cost of goods sold mitigated by 14.5%, which is similar to the decrease in net sales, down 15% in that same time period.Gross net income, which is net sales less the cost of goods sold, increased by 37.5% between years 6 and 7. This is a strength for CBI. An increase such as this signals that management has do a strong commitment to rearth while at the same time controlling the ope balancenal and production costs. Gross internet was down by 16.3% between years 7 and 8. This is a result of falling sales in the current year.Under General and Administrative expenses, in that respect atomic number 18 two beas of rice beer that warrant gain ground analysis executive compensation and utilities. Executive compensation rose by 29.4% in years 6 and 7, which makes sensation addicted the strong sales increase during that period. Executives made good business decisions during this time and should be compensated for these results. However, executive compensation stayed flat during years 7 and 8. Granted, sales and profits were down for the year, so a large increase would not be warranted. However, no increase in compensation could be considered a weakness for CBI, as salaries and compensation be a significant tool tokeep talent. Morale may suffer if after a years expenditure of hard work, they get no increase at all. Utilities were up a modest 3.8% between years 6 and 7, with an increase to 11% between years 7 and 8. With CBI building fewer bikes in year 8, a reasonable assumption is that utility usage would decrease also. Therefore this increase in utilities should be examined f urther. Some of this increase could be beyond CBIs control (such as rate adjustments by the utility company) but a couple of options for the company to seek to manage this expense and be much efficient would be an energy audit, and/or negotiating with the utility company to pre-pay their utilities for a certain time period to get a discount.Operating income is the amount of profit realized from operations after removing operating expenses such as the cost of goods sold and employee salaries. For CBI, operating income increased potently (154.6%) between years 6 and 7. However, operating income between years 7 and 8 is strongly negative, with a 69.1% decrease. This is due to the fact that gross profits dropped by 16.3% during this time period, but be operating expenses decreased by only 3.6%. This is not sustainable over the long term and is a weakness for CBI. They privation to reduce their production expenses wherever possible, become more efficient in their operations, and find ways to increase sales revenue ideally, a combination of these.The expiry item on the income statement is net network the so-called bottom line both as a reference to its position on the income statement, and a reflection of the fact that total revenues minus total expenses. CBIs net earnings rose a remarkable 313.4% between years 6 and 7, which is a reflection of the fact that profits grew at a much higher rate than expenses during that period. Net earnings declined by 81.6% between years 7 and 8, which is due to total revenues dropping to a greater extent than total expenses. This is a weakness for CBI as it is not sustainable for long ahead the company runs out of money. As mentioned previously in the operating income section, this is an issue that CBIs management team must address if they want to stay in business.Cash and funds equivalents declined 64.6% between year 6 and year 7. This is aweakness for CBI, stopicularly in light of the fact that sales were up during that period. The company should fool more cash or cash equivalents on hand, not less. In years 7 and 8, cash and cash equivalents increased by 348.2% this during a period where net sales were down by 15% compared to the previous period. While this appears on the surface to be a positive as cash and cash equivalents care with the companys liquidity it can actually be interpreted as a weakness as CBIs large amount of cash and cash equivalents may make some analysts apparent motion the companys ability to manage their cash electric current in a way that maximizes profits and efficiency.CBIs accounts receivable, which represents money owed to them by their customers, increased by 164.3% in years 6 and 7. While accounts receivable are classified as assets, this is a authorisation weakness for CBI as it signals that a lot of the assets they are claiming on the balance sheet are tied up in receivables that are not as liquid they take over not yet received payment. Accounts receivable was -15% in years 7 and 8. This reduction is a strength for CBI as it signals that they are upward(a) their cash flow by more effectively stack away money owed to them.The large scale change in modus operandis year over year for both cash/cash equivalents and accounts receivable at CBI signal volatility year over year. This could be a red flag for investors looking for undifferentiated levels of performance. CBI also might find it tight to continue to hire the best salespeople, who work on commission and are liable(predicate) looking for a company with solid sales that will provide a steady paycheck.Total current assets, or those that are reasonably expected to be converted to cash within one year in the course of business, include cash, enrolment, accounts receivable, marketable securities, prepaid expenses and other liquid assets. CBIs current assets rose 31.5 percent from year 6 to year 7. Growth in current assets is generally regarded as a strength and a sign the company is growing. However the picture changes when current liabilities for the same period are analyzed, which I will do in the next section.Total assets represent total current assets plus net situation and equipmentand give a complete picture of all short term and long term assets. Total assets for CBI increased by 2.2% between years 6 and 7, due in large part to the large increases in accounts receivable and work in process inventory. When a large amount of accumulated disparagement was factored into assets, it brought the total assets render down meaning(a)ly. Between years 7 and 8, total assets decreased by 0.2%. After reviewing the balance sheets I remark that while current assets decreased substantially between years 6 and 7, then 7 and 8 (down 15%), long term assets stayed flat (down 0.5% over the same period). Overall, assets, liabilities and shareowners impartiality were all down between years 6 and 7. This is a weakness for CBI as investors will review these negative num bers and question the companys ability to be profitable and grow.Total current liabilities are debts that are due within one year in the course of business. They include accounts and notes payable, accrued salaries, and other accrued expenses. period liabilities increased by a whopping 122.4% between years 6 and 7, mostly in part to the large increase (192%) increase in accounts and notes payable. Between years 7 and 8, accounts and notes payable increased by 33.3%.This is a serious weakness for CBI, as it signals that they are taking on a dis relative amount of debt compared to their sales offshoot rate. CBI would need to generate substantial sales increases in future years to pay the interest on this debt and continue to cover their expenses. The fact that total current liabilities continue to flair upward year over year while sales actually went down between years 7 and 8 is a warning sign. CBI could have trouble meeting its debt obligations (and getting any further keep fro m creditors) if sales are flat or continue to trend downward.Total long term liabilities those that come due more than one year in the future are holding steady at CBI, decreasing 5.6% between years 6 and 7, and decreasing by 5.9% between years 7 and 8. This is a sign of strength for CBI as it shows they are managing their long term debt responsibly.Retained earnings represent the amount of assets created through profits that are retained in the business and are part of owners equity. Retainedearnings increased by a healthy 17.4% between years 6 and 7, which makes sense given the strong sales results. Retained earnings rose by only 2.7% between years 7 and 8, which is not surprising in light of the fact that sales are down in the current year. This decrease is a weakness for CBI, as retained earnings is part of stockholders equity. Those invested in the company (or those considering doing so) will note the sharp decrease in funds available for reinvestment in the company and poss ibly question the prospects for growth unless the company can turn amours around quickly.A1b. Vertical AnalysisThrough a vertical analysis, we review entries for assets, liabilities and equities. These are represented as a dowery of the totals for any given year. The main advantage of a vertical analysis is that it is easy to read, clearly understandable and charts changes in the operations of a business on a yearly basis. By reviewing vertical analysis data, a person can see financial performance over a set period of time.Cost of goods sold decreased from 73.4% of net sales in year 6 to 72.6% in year 7. This is a strength for CBI because a reduction in cgs system lures to higher profit. This is evidence that management is doing a good job controlling product costs. In year 8, CGS increased pretty to 73% a minor increase but this could be considered a weakness for CBI as it signals that the costs to produce their bikes are going up.Gross profit was 26.6% of net sales in year 6 , and increased to 27.4% in year 7. This is a strength for CBI as it signals that the company is doing a good job of selling their product and keeping costs at a manageable level. In year 8, Gross Profit dipped slightly to 27%. This is because the cost of goods sold went up slightly during this time, and sales were down. A gross profit reduction is normally a weakness however, in light of the 15% decrease in sales in year 8, the fact that gross profit only decreased by 0.4% from the previous year should be considered a strength for CBI as it indicates that the company has minify the impact of the sales downturn on their gross profit margins.Upon reviewing the general and administrative expenses, all of the line items followed the trend of decreasing as a percentage of the total in year 7, and then change magnitude as a percentage of the total in year 8. This makes sense given that these expenses are part of the cost of goods sold figure. One example is the Other general and admin expenses which was 2.7% of the operating expenses total in year 6, decreasing to 2.6% in year 7 and then increasing to 3.3% in year 8. While these make up small percentages in the companys overall operations budget, this is a weakness for CBI, as these types of expenses should not be going up if there are not sufficient sales to support the increase. CBI management should keep an eye on these expenses to ensure they do not creep up year over year, which would have a negative effect on their profit margins. When looking at the respective(prenominal) numbers, for example administrative salaries, we see that there is no change in the percentage of the total between year 7 and year 8. Administrative salaries did not increase at all in year eight, and neither was executive compensation. This could be a weakness from an employee morale standpoint, as they worked hard all year and did not see any raise in their pay. However, this data is not surprising given the difficult economic conditi ons in year 8. There was a purchase of 25,000 shares treasury stock in year 7, and its possible that management offered this stock to employees in lieu of a pay increase.Operating income was 2.8% of the total in year 6, increased to 5.3% in year 7 and decreased to 1.9% of the total in year 8. The decrease in year 8 is largely due to the increase in operating expenses, which factors into the operating income equation. The fact that CBIs operating expenses are trending up year over year without accompanying sales increases is a negative trend for CBI and should be considered a weakness. This is something the companys management should be monitoring closely and taking action to control expenses and conjure sales.Net earnings were 0.9% of the total in year 6, rising to 2.8% in year 7 (not surprising given the increase in sales) and decreasing to a three year low of 0.6% in year 8. Since this bottom line number is a key indicator of a companys profitability, this decrease should be some thing that thecompanys management should make a top priority to fix.Cash/cash equivalents were 6.2% of total assets in year 6, decreasing to 2.2% in year 7. This is a weakness for CBI as this is a sign that the company may have trouble paying their debts and expenses. In year 8 this figure mendd substantially to 9.7% of total assets. However, the company needs to make sure they are not sitting on too much cash, but put it to grow the company and maximize profits.Accounts receivable represented 6.5% of total assets in year 6, and increased dramatically to 16.7% in year 7. Although accounts receivable is considered an asset, it should be noted that the cash is not collected right away. This asset is less liquid than cash or other short term assets and CBI should ensure that they are collecting payment from customers in a timely manner. Accounts receivable decreased slightly to 14.2% in year 8, which would be interpreted as strength as it indicates that CBI is doing a good job collec ting payments from customers.Total current assets represented 24.5% of total assets in year 6, rising to 31.5% in year 7 and 36.8% in year 8. Reviewing the line items for current assets, this increase is attributable to the increase in accounts receivable as wellhead as cash/cash equivalents. This could be interpreted as a strength for CBI, as an increase in current assets means the company is in a better position to pay debt obligations and use assets to grow the company. However, its worth noting that the majority of CBIs current assets are tied up in less liquid assets accounts receivable and inventory. These are more difficult to convert to cash should the need arise.Total long term liabilities (mortgage payable and other long-term liabilities) decreased steadily year over year at CBI. In year 6 they represented 45% of total liabilities and equity, decreasing to 41.6% in year 7 and 39.2% in year 8. This is a strength for CBI as it shows they are paying down their long-term lia bilities. A reduction in liabilities improves liquidity ratios and the companys ability to pay operational expenses as well as their debt obligations.Total current liabilities for CBI followed the trend of current assets and rose steadily year over year 2.5% of total liabilities and equity in year 6, 5.4% of total liabilities and equity in year 7, and 7% of total liabilities and equity in year 8. Looking more in-depth at CBIs current liabilities shows that this increase year over year is due to the rise in accounts and notes payable. The other line items (accrued salaries and other accrued expenses) held steady. I interpret this as a weakness for CBI, and should analyze why their current liabilities were rising when they were collecting more cash, peculiar(prenominal)ly in year 8. The cash flow increase in year 8 was substantial and could have been used for accounts payable obligations. Its possible that the company was holding on to cash/cash equivalents in year 8 to weather the economic downturn.Retained earnings represent earnings not paid out as dividends, but retained by CBI for reinvestment in the company. Retained earnings represented 23.3% of total liabilities and equity in year 6, rising to 26.8% in year 7 and 27.5% in year 8. This is a strength for CBI as it shows that management is affiliated to retaining earnings in order to grow the company. A1c. Trend AnalysisTrend analysis involves the usage of past figures for comparison. For trend analysis, information for a number of years is compared to a habitation year. Each item of the base year is represented as 100% and on that base, the percentage for the other years are computed. This analysis determines the percentage of increase or decrease in each item with respect to the base year and helps analysts make forecasts for future years. For CBI, net sales have been provided for year 6 (the base year) as well as years 7 and 8. The historical trend analysis figures for CBI are shown below, based on n et sales and establishing year 6 as the base year.Year 6 $4,485,000 (100% trend percentage)Year 7 $5,980,000 (133.3% trend percentage)Year 8 $5,083,000 (113.3% trend percentage)This trend analysis does not show any surprises. The horizontal and verticalanalysis clearly showed that various metrics (net sales, operational expenses, net income, etc.) showed a large increase from year 6 to year 7, followed by a decrease between years 7 and 8. The trend here shows a large net sales increase, followed by a decrease. The large swings in sales seem to indicate volatility for CBI. This is a weakness because its more difficult to forecast accurately, which can lead to inaccurate resource planning and negative stock value impacts if performance does not meet stated expectations.The forecasted trend analysis for CBI, using year 8 as the base year is shown below Year 8 $5,083,000 (100%)Year 9 $5,247,450 (103.2%)Year 10 $5,471, 000 (107.6%)Year 11 $5,681,000 (111.8%)Theres no information given o n how these forecasted trend numbers were cipher. Its a positive sign that the sales increases are only a few percentage points each year, as this is much more sustainable and likely than a large increase such as between years 6 and 7 (which is generally not sustainable in the long run). This forecast would seem to indicate that the outlook is positive for CBI for the next few years. Its likely that one of the underlying assumptions is that the economic situation will improve, and the company will sell more bikes. However, given the operational weaknesses pointed out in the horizontal, vertical and ratio analysis, if I were an investor or analyst I would want to know more about the companys plans to address the se weaknesses before taking these figures at face value.A1d. Ratio AnalysisAs part of the ratio analysis, two important ratios to consider when analyzing a companys liquidity are Current RatioAcid-Test RatioThe current ratio is current assets divided by current liabilities, and measures a companys ability to pay their short-term liabilities. In theory, the higher the ratio the better. However, there are some limitations to the current ratio as Ill note in the next section.CBIs current ratio in year 7 was 5.79, and in year 8 was 5.25. Stated another(prenominal) way, CBI could use their current assets to pay their current liabilities 5.25 times over in year 8. This would seem to be a strength for CBI, and in fact this ratio is higher than their competitor twain Wheel Racing (with a ratio of 4.20). However, this ratio has one fundamental flaw its conceptually based on the liquidation of all of a companys current assets to meet all of its current liabilities. In reality, this is not likely to occur. Its the time it takes to convert a companys working capital assets into cash to pay its current obligations that is the key to its liquidity. Much of CBIs current assets are tied up in accounts receivable, as well as work in progress inventory and stinging i nventory. These assets are not as liquid as cash, but are figured into the current ratio calculation. So CBIs high current ratio looks strong on the surface, but upon further analysis there is a weakness in the somewhat large proportion of less liquid assets CBI holds that factor into the equation.The acid test ratio is another measure of liquidity, and more stringent than the current ratio in that it measures a companys ability to cover their short term liabilities without selling inventory to do so. Looking at CBIs numbers, the acid test ratio in year 7 was 4.41, and in year 8 it was 4.14. These numbers are higher than that of their competitor 2 Wheel Racing (3.40) and that represents strength for CBI. However, Ill note once again that the company will need to monitor and manage their current assets to ensure that the proportion of less liquid assets (accounts receivable and inventory) does not greatly outweigh their more liquid assets (such as cash).Average collection period is the time that it takes CBI to collect accounts receivable payment from customers. This number held steady at 43.8 sidereal days in years 7 and 8. However, its higher than that of competitor Two Wheel Bikes (32.5 days). This is a weakness for CBI, as it signals that the company may be too lax in collecting whats owed to them and may eventually have difficulties meeting their short-term and long-term obligations. CBI should focus on strategies to reduce the time it takes to collect on accounts receivable.The debt ratio represents the total percent of assets financed by debt, and is calculated by dividing total liabilities by total assets. In year 7, 47% of CBI assets were financed by debt, which decreased slightly in year 8 to 46.2%. However this number is belt up substantially higher than that of their competitor, Two Wheel Bikes, at 38%. This is a weakness for CBI, and if they cannot bring this ratio down by increasing sales and profits to pay down some of their debts, they may ha ve trouble paying their debt obligations.Gross profit margin for CBI was 27.4% in year 7 and 27% in year 8. This is lower than that of their competition, Two Wheel Racing at 32.1%. This is a weakness for CBI, as it signals that they are not as efficient as their competitors. CBI could improve this ratio by decreasing expenses, which would in turn decrease the cost of goods sold. Another way to improve this ratio would be to increase revenues.The operating profit margin for CBI differed substantially from year 7 to year 8. In year seven the figure was a healthy 5.3%, but in year 8 it dropped sharply to 1.9%. This is a weakness for CBI as this is a lot lower than that of Two Wheel Bikes (5.2%) and this signals that CBI is not doing a good job generating cash flow and providing shareholder value. One way CBI could improve their operating profit margins is by auditing their operating expenses and trimming costs wherever possible. An example would be adopting lean work processes with as little waste as possible. The raw materials inventory in particular should be reviewed to see if efficiencies could be gained by improved internal controls for inventory.Net profit margin is the percentage of each dollar earned that is translated into profits. CBIs net profit margin in year 7 was 2.8%, and a glooming 0.6% in year 8. These numbers are much lower than those of the competition (Two Wheel Racing had a margin of 5.2% in year 8) and are a definite weakness for CBI, as companies with low net profits can go bankrupt in the event of a sustained downturn. This low number signals that the company is not running their operations efficiently and would be a red flag for investors.Earnings per share is an indicator of a companys profitability and ability to generate shareholder wealth, and is the most important factor when determining the companys share price. As the name suggests, its the earnings that the company generates per share outstanding. In year 7, CBIs EPS was 0.17, or 17%. In year 8 that figure declined to 0.03%, which is nearly zero. This is a serious weakness for CBI as it suggests that the company is not doing a good job of generating wealth for shareholders, and this could lead to a selloff of the stock. In a worst case scenario, the stock price would decrease and the company could go out of business. fade on total assets is an indicator of how effectively a company is using its assets to generate earnings before contractual obligations must be paid (Investopedia.com, n.d). In year 7 CBI had a 4% return on assets, slightly lower than that of their competitor Two Wheel Bikes (at 4.8%). In a year where sales were up 33.3% from the year before, investors might expect a higher return. As Ive pointed out in other sections, the reason this number is not higher is because CBI did not do the best job keeping their expenses under control. In year 8 the number is even worse a dismal 0.7%. This is a weakness for CBI overall as it shows the company has some work to do to control expenses and use their assets effectively.Return on common equity measures how much profit a company generates with the equity shareholders have invested. This ratio is calculated by subtracting preferred dividends from net income, then dividing that number by common equity. CBIs return on common equity was 7.5% in year 7, and decreased sharply to 1.4% in year 8. This is much lower than that of the competition Two Wheel Racings ratio was 8.1% and is a weakness for CBI. This signals that the CBI is not doing a good job generating profit from the equity shareholders have invested, and it could lead to a stock sell off or investors demanding that measures be taken to increase equity returns. Financial analysts and investors would likely not have much confidence in these numbers.The price/earnings (P/E) ratio is a measure of the valuation of a companys share price compared to its per-share earnings. scathe/earnings ratios aretied to investor expectations. Investors are willing to pay more if they believe that future earnings will be substantially higher. On the other hand, if a company is stagnant and investors dont believe that future earnings will be going up, they will not want to pay as much and the P/E ratio will be lower. CBIs P/E ratio in year 7 was 29.41. This means that investors would be willing to pay $29.41 in share price for every $1 in earnings. This is a strength for CBI because it suggest investor confidence in the company, which typically leads to an increase in share price. However, in year 8, the P/E ratio declined to 23.33. This is due to the companys lackluster sales and operational performance in year 8. This is definitely a weakness for CBI if investor confidence continues to decline, the share price will decline also.Times interest earned represents the number of times operating income can cover interest expense. CBI generated enough profits in year 7 to cover their interest expense 5.27 times. This number i s a strength for CBI as it demonstrates that the company is doing a good job of generating income while keeping expenses at a manageable level, and is higher than the 4.24 figure from their competitor, Two Wheel Racing. However, the times earned interest ratio in year 8 is only 1.77, mainly due to the large drop in net income in year 8. This is a weakness for CBI as sales and profits decreased, while interest expenses did not drop in proportion. CBI needs to do a better job managing their operating expenses, which will improve this ratio.A2. Working Capital Analysis for CBIAn important measure of a companys efficiency and short-term financial health is the amount of working capital they have on hand. This is one measure of the companys liquidity, and the ability to meet short-term (current) debt obligations with current assets. Working capital is used for day to day operational expenditures to pay bills of the business including employee wages, utilities, and rent, among others. Th is number is calculated by subtracting current liabilities from current assets. Investors view working capital as measure of a companys operational efficiency. In general, companies with greater amounts of working capital are better able to achieve success by investing assets clog up into the business, rather than suspension on to non-cash assets in large amounts. While a business may have a large amount of assets, it may be very difficult to convert them into cash in order to take advantage of opportunities that require fast action an example of this is an asset such as land or buildings. If current liabilities are greater than current assets, a working capital deficit is created, and a business cannot survive long-term in this scenario. Working capital numbers for CBIYear 61,029,303 105,080 = 924,223 (9.79 current ratio)Year 71,353,044 233,700 = 1,119,344 (5.79 current ratio)Year 81,575,831 300,200 = 1,275,631 (5.25 current ratio)CBI has been steadily increasing their working capital in years 6-8, with a 21.1% increase from year 6 to year 7, and a 14% increase from year 7 to year 8. This concordant rise in working capital confirms that the business has sufficient working capital to cover their short-term liabilities and invest for future growth of the company. One thing to note here is the large increase in current liabilities from year 6 to year 7 (82%) when assets rose by only 21.1%. This is largely due to the large increase in accounts and notes payable. Large increases in liabilities such as this are not a negative per se and can signal that the company is investing for growth, but should be monitored over time to make sure the company does not become overleveraged. The ideal scenario is if the increases in assets and liabilities are more proportionate (rising at a similar rate).Working capital is related to the current ratio, which measures the companys ability to pay current liabilities with current assets. Its calculated by dividing total current assets by total current liabilities. This ratio should be at least 1, which means the company has exactly enough capital to pay its short term liabilities, with no excess cash. Its preferable if theratio is higher than 1. However, a ratio that is much higher than the average could be considered a weakness, as it may signal that the company has too much inventory on hand, is slow to collect on accounts receivable, or that they are hanging on their excess cash rather than investing it for future growth. Its important to note that working capital ratios vary widely between industries when analyzing a companys working capital ratio, a comparison to the average ratios for the overall industry should be included in the analysis.CBIs current ratio was very high in year 6 9.79. This means for every $1 in liabilities, the company had $9.79 in assets. On the surface this appears to signal strength, but this could actually be considered a weakness for CBI as it suggests that they are holding on to cash and liquid assets and not investing to grow the company to its skilful potential. In years 7 and 8, the current ratios decreased to 5.79 and 5.25, respectively. This is largely due to taking on additional short term liabilities (accounts and notes payable). The ratio in years 7 and 8 is much closer to the ratio of their closest competitor, Two Wheel Racing and suggests that the company is moving toward using their current assets more effectively. If CBI can keep operating and goods costs under control and not overleverage themselves, the taking on of additional debt could be considered part of the cost of doing business and part of their growth strategy, i.e. a positive development.Working capital could be improved in the following ways1. Decreasing the amount of liabilities in short term debts such as accounts and notes payable. 2. Converting short term debt to long term debt to free up funds for investment. 3. Increasing efficiency via internal process improvements, t hereby reducing expenses and increasing profits. Examples include shortening accounts receivable collection periods (CBIs are longer than that of their closest competitor) and consolidating sales offices. 4. Issuing stock to generate capital for investment in assets that will help the company grow, such as the purchase of a new distribution center or bike assembly location.Excess working capital (liquid assets) could be invested in the followingways to increase profits 1. Internal systems updates such as new, faster computer systems for employees or manufacturing equipment. This investment has the get ahead of improving efficiency. 2. Investing in people hiring new talent as well as training the salespeople already working for the company. 3. Investing in merchandise and advertising to create compelling sales promotions and get the countersign out about CBI. Since the companys sales are largely through word of mouth advertising, there is considerable untapped sales potential.A3. Evaluation of the internal controls for the buying system at CBI After reviewing the purchasing system for CBI, there are a few weaknesses in the internal controls that the company should address to mitigate risk and increase efficiency.1. No receiving discussion section currently exists to monitor incoming shipments from suppliers. Having no internal controls in place for this measuring in the supply chain is a weakness for CBI. This can result in an increased risk of inaccurate orders being processed, resulting in unused parts being sent to the raw materials inventory stores as noted in the storyline. These parts must be create verbally off the books if they are not used in the current year, and this costs the company money. The other impact is damaged orders being accepted by the company. If orders are monitored upon arrival and found to be damaged, CBI can contact the supplier immediately to remedy the situation. This will minimize costly delays in production since errors are caught preferably in the supply chain, and the company can save money if they have ensured that all orders are accurate and undamaged before payment is sent to the supplier.2. The purchasing departments procedure for selecting suppliers is not as robust as it should be. Checking for three sources of similar quality, as noted in the storyline, is a good nonplus but not sufficient to ensure good internal controls. Suppliers should be vetted in a selection process using criteria defined and documented by CBI. If this is not done, it could lead to increased risk of fraud (collusion between the CBI Purchasing manager and the supplier, for example).3. The purchasing manager is responsible for multiple related responsibilities in this example, selecting the supplier, placing the order and sending the suppliers bank note to the accounting department. There is not sufficient separation of duties throughout the purchasing process.A3a. Weakness Corrective ActionsThe following scenario i llustrates what a purchasing procedure policy with good internal control procedures in place could look like for CBI.1. The production department evaluates existing inventory of raw materials, then creates a list of raw materials they need for the next month and sends it to the purchasing manager. 2. The purchasing manager gets the list and consults with the policies and procedures manual for the raw materials. The manual instructs the purchasing manager to consult the trade journal for the industry, which contains a list of suppliers for the raw materials requested. 3. The purchasing manager should review the supplier list to ensure theres no conflict of interest (such as close friends/relatives working for any of the suppliers on the list, stock ownership in any of the companies, no gifts accepted from the companies). If there are conflict(s) of interest for any of the suppliers, they should be removed from the list. 4. The purchasing manager should then review the Better Business Bureau (BBB) list for the remaining suppliers to see if any complaints have been registered during the past year. Suppliers with complaints registered with the BBB should be removed from the list. 5. The purchasing manager should contact the remaining suppliers to request competitive bids. Once they are submitted, the bids should be reviewed and the net competitive bid selected. 6. Once the bid is selected, the purchasing manager should send a purchase order to the selected bidder. Once this is done, the purchasing managers job is complete. 7. The supplier sends the shipment to the company upon arrival it is taken in by the CBI receiving department for inspection and documentation. A shipping note is generated by the receiving department which details each item and can be used to confirm that all items that were ordered actually arrived. 8. A copy of the shipping note is sent from the receiving department to theaccounting department, and accounting will compare that note with the invoice from the supplier requesting payment. They cross check these two documents to ensure they match. 9. Once accounting has ensure these documents match, they keep a check to the supplier and the process is complete.A3b. RisksAll of the weaknesses, if not remedied, increase the risk of fraud. An example of this would be the purchasing manager colluding with the supplier to send an invoice with inflated numbers to accounting, which would result in overpayment to the supplier that does not reflect an accurate order. In a worst case scenario, if the record keeping is weak and the employees are able to subvert the system and falsify the documents, then financial statements based on numbers in these documents are no longer accurate. experience financial analysts who review the companys financial statements will immediately know that something isnt right with the numbers, and will sell the stock, leading to a drop in stock price. If this is left unchecked it can result in the downfa ll of the company and/or criminal prosecution of the companys financial executives. given(p) these risks, it would be very prudent for CBIs management team to take an in-depth look at the internal controls for purchasing and make adjustments to correct the weaknesses.A3bi. Risk moderatenessIn the proposed purchasing system in section A3a, there are two ways that the identified internal control risks are mitigated. First, theres a good separation of duties this avoids the situation where one employee is responsible for multiple related responsibilities (which can lead to greater temptation for fraud). An example of this is in step 7. The purchasing manager is not involved in this step they were directly involved in the placement of the order and so should not also be in charge of receiving the order or generating the shipping note (therefore maintaining separation of duties). Second, there are also multiple checks and balances to ensure accuracy for orders, as well as documentatio n for each step to ensure good records are kept. Accounting will then have accurate numbers on which to base their financial report, minimizing the risk of materialmisstatements on their yearly or interim financial statements.A4. Analysis of compliance with SarbanesOxley requirementsAn important piece of legislation related to financial reporting and internal controls for existencely traded companies is the Sarbanes-Oxley Act (SOX). After several highly publicized accounting scandals among corporations in the US in the 1990s, SOX was enacted to reform companies financial reporting processes, as well as the internal and external auditing of the financial reporting process (Hilton, 2011). Its very important that companies understand and comply with the rules laid out within this legislation, as the penalties for not doing so are severe. Top executives including the CEO and CFO can be held criminally responsible and go to prison if their companys financial statements are fraudulent o r misstate the firms financial condition.There are two sections within SOX that are of particular relevance sections 302 and 404. Section 302 requires the signing officers of a companys financial reports (such as the CEO and CFO) to establish, maintain, and monitor the effectiveness of internal controls over financial reporting. In other words, these executives are ultimately responsible for the accuracy of the companys financial documents, and must disclose to the companys auditors any weaknesses or changes in the companys internal control system.Section 404 requires a company include an internal control report for financial reporting within its annual report. This internal control report must contain two key elements a statement of managerial responsibility for establishing and maintaining an effective internal control twist for financial reporting, as well as an assessment of the effectiveness of the defined internal control structure.A4. ComplianceIn regard to CBI and its com pliance with SOX, the company believes they are adequately addressing the requirements of the legislation. CBIs internal audit stated that internal controls over financial reporting are accuratebased on criteria set frontward by the Committee of the Sponsoring Organizations of the Treadway Commission (COSO).However, the annual report issued by the auditors to the shareholders noted that the companys internal control over financial reporting could lead to a possibility of a misstatement in the companys annual or interim financial statements that would not be detected or corrected in a timely manner. This will be noticed by financial analysts and investors, and could affect the companys stock prices as well as the increase the likelihood of close financial scrutiny and audits by the Public Company Accounting Oversight Board (PCAOB), whose mission is to oversee and investigate the audits and auditors of public companies, and sanction both firms and individuals for violations of laws, rules, and regulations (Hilton, 2011).A4a. Noncompliance Corrective ActionsBased on this information, CBI should take immediate actions to ensure compliance with SOX, including reassessing and addressing weaknesses in their internal controls over financial reporting, possibly consulting with the Public Company Accounting Oversight Board to do so. When CBIs annual report is published, it should include an internal control report with the elements noted in Section 404 (statement of managerial responsibility over financial reporting internal controls, and an assessment of the effectiveness of the defined internal structure). The statement should clearly state any and all corrective action taken to bring the companys financial reporting into compliance with SOX regulations. The companys auditors need to be able to vouch for the effectiveness of the implemented internal controls.RESOURCESHilton, R. (2011). Managerial accounting Creating value in a dynamic business environment (9th ed.). McGraw-Hill. Hardcover ISBN 9780073526928.What is Horizontal Analysis? Definition and Meaning (n.d.). Retrieved from Business Dictionaryhttp//www.businessdictionary.com/definition/horizontal-analysis.htmlDefinition of Return on Total Assets ROTA (n.d.). Retrieved from Investopedia http//www.investopedia.com/terms/r/return_on_total_assets.asp