Predicting A Firm’s Finacila Distress Case Study Solution
Ratio Analysis
For identifying the financial distress and effect on the liquid assets for the year 2008, the ratio analysis has been performed. In this cash ratio; current ratio, working capital, cash flow to debt ratio and other related ratios have been calculated. (See appendix 4 for ratio analysis).
Cash and current ratios show increasing trends, while operating cash flows depict decreasing trends. The liquidity position for preceding years is better than its profitability position. The profitability position had been affected by two reasons, one is acquisition and another is the economic distress. The cash ratio for the year 2007 is .06, while current ratio is 1.26, depicting that company had 0.06 and 1.26 amount available for paying its liabilities.
Recommendations
After the thorough analysis of the company’s financial situation and its operational activities, it is recommended that the performance of the company for the preceding years of the acquisition should be evaluated by scrutinizing the company’s profit and loss statement, its balance sheet as well as its cash flows statement. The origin of this financial distress was the acquisition of the mortgage firm (First Franklin Financial corp.),which added to the massive loss incurrence,and the global environment had also affected the company’s performance and led it towards being acquired.
Conclusion
The world’s leading capital firm Merrill Lynch sustained it’s profitably for almost a century. Although, the company’s financial position had depicted that the company’s position was good enough to survive, but the company faced a huge decline in its revenue to the 1/3 of the last year, contributing to a massive loss of $8.6 billion in 2007, just a year prior to its acquisition by the Bank of America. The main reason behind its acquisition was the acquisition of Franklin Financial corp. in 2006, which added mortgage that was worth billions of dollars,hence resulting in a huge oss incurrence. What made the company’s situation worse was the fact that it had paid high bonuses along massive salaries to the CEO and CFO of the company, which had caused very negative effect on the company’s cash flows and led to the much worse situation for the company. To analyze the performance of the company, an analyst should evaluate the company’s earnings and its cash flows as it would help in depicting the company’s correct position.
Appendices
Appendix: 1
| Income Statement (Trend Analysis) | ||
| Year | 2007 | 2006 |
| Revenues | ||
| Principal transactions | -267% | 99% |
| Commissions | 22% | 13% |
| Investment banking | 20% | 23% |
| Managed accounts | -13% | 10% |
| Earnings from equity investments | 193% | -2% |
| Other | -176% | 56% |
| interest and dividend revenues | 43% | 53% |
| interest expense | 45% | 65% |
| Net Interest Profit | 32% | -5% |
| Gain on Merger | -100% | |
| Revenues, Net of Interest Exp. | -67% | 34% |
| non-interest expense | 0% | 29% |
| EBIT (CONTINIUING OPERATIONS) | -231% | 45% |
| income tax | -255% | 39% |
| EBI (CONTINIUING OPERATIONS) | -222% | 47% |
| Pre-tax earnings from discontinued operations | 127% | 31% |
| income tax | 151% | 27% |
| 114% | 34% | |
| Net loss/profit | -204% | 47% |
Appendix: 2
| Balance Sheet (Trend Analysis) | |||||
| Year | 2007 | 2006 | |||
| ASSETS | |||||
| Cash | 29% | 41,346 | 32,109 | ||
| Cash & securities | 71% | 22,999 | 13,449 | ||
| Receivable under resale agreement | 24% | 221,617 | 178,368 | ||
| Receivables under securities borrowed | 12% | 133,140 | 118,610 | ||
| 19% | 354,757 | 296,978 | |||
| Trading assets | |||||
| Derivative contracts | 100% | 72,689 | 36,262 | ||
| equities and convertible securities | 25% | 60,681 | 48,527 | ||
| corporate debt & preferred stock | 15% | 37,849 | 32,854 | ||
| mortgages | -37% | 28,013 | 44,405 | ||
| Non- US government securities | -28% | 15,082 | 21,075 | ||
| U.S government& agencies | -14% | 11,219 | 13,086 | ||
| Municipals, physical commodities | 20% | 9,136 | 7,643 | ||
| 15% | 234,669 | 203,852 | |||
| investment securities | -1% | 82,532 | 83,410 | ||
| Securities received | 81% | 45,245 | 24,929 | ||
| Other receivables | |||||
| Customers | 43% | 70,719 | 49,427 | ||
| Brokers and dealers | 20% | 22,643 | 18,900 | ||
| Interest & others | 59% | 33,487 | 21,054 | ||
| 42% | 126,849 | 89,381 | |||
| Loans, mortgages | 30% | 94,992 | 73,029 | ||
| Separate account assets | -100% | 12,314 | |||
| Equipment & facilities | 7% | 3,127 | 2,924 | ||
| Goodwill | 107% | 5,091 | 2,457 | ||
| Other assets | 30% | 8,443 | 6,471 | ||
| Total Assets | 21% | 1,020,050 | 841,303 | ||
| current liabilities | 19% | 721,991 | 604,734 | ||
| Non-current Liabilities | 35% | 266,127 | 197,527 | ||
| Total liabilities | 23% | 988,118 | 802,261 | ||
| Total stock equity | -18% | 31,932 | 39,038 | ||
| Total liabilities & equity | 21% | 1,020,050 | 841,299 | ||
Appendix: 3
| Cash Flow Statement (Trend analysis) | ||
| Year | 2007 | 2006 |
| CF from operating activities: | ||
| Net (Loss/Earnings) | -204% | 47% |
| Adjust to reconcile to cash used | ||
| Gain on merger | -100% | |
| Gain on sale of MLIG | ||
| Depreciation & Amortization | 72% | 11% |
| Share-based compensation expense | -43% | 215% |
| Differed taxes | 1268% | -255% |
| Earnings from equity investments | 235% | 1% |
| Other | -85% | 3% |
| Changes in op. assets and liabilities: | ||
| Trading assets | -46% | -314% |
| Cash & securities segregated or deposited with orgs. | 772% | -131% |
| Receivables under resale | 182% | -82% |
| Receivables under securities borrowed | -44% | -1397% |
| Customer receivables | 123% | 331% |
| Brokers and dealers’ receivables | -45% | 35821% |
| Proceeds from loans, notes, mortgages held for sale | 74% | 32% |
| Other changes in loan, note, mortgage | 82% | 38% |
| Trading liabilities | 150% | -177% |
| Payables under repurchase agreements | -56% | -33% |
| Payables under securities loaned | -49% | -933% |
| Customer payables | 2% | 1014% |
| Brokers and Dealers Payables | -98% | -892% |
| Trading investment Securities | -1176% | -142% |
| Other, net | -62% | -230% |
| Cash used for operating activities | 205% | -2% |
| Cash Flows from investing activities | ||
| Proceeds from (payments for) | ||
| Maturities of available-for-sale securities | 1% | -48% |
| Sales of available-for-sale securities | 143% | -56% |
| Purchases of available-for-sale securities | 86% | -39% |
| Maturities of held-to-maturity securities | -89% | 13% |
| Purchases of held-to-maturity securities | -80% | |
| Loans, notes, and mortgages held for investment, net | -851% | -93% |
| Proceeds from the sale of discontinued operations | ||
| Acquisitions, net of cash | ||
| Other investments | -23% | 354% |
| Transfer of cash balances related to merger | -100% | |
| Equipment and facilities, net | -39% | 322% |
| Cash used for investing activities | -36% | 1623% |
| Cash Flows from financing activities | ||
| Proceeds from (Payments for) | ||
| commercial paper and short-term borrowings | -31% | -6024% |
| Issuance and resale of long-term borrowings | 88% | 77% |
| Settlement and repurchases of long-term borrowings | 119% | 36% |
| Deposits | 141% | 1421% |
| Derivative financing transactions | 39% | -65% |
| Issuance of common tock | 160% | 114% |
| Issuance of preferred stock, net | 138% | -77% |
| Common stock repurchases | -42% | 146% |
| Other common stock transactions | -111% | -774% |
| Excess tax benefits related to share-based compensation | 35% | |
| Dividends | 36% | 42% |
| Cash provided by financing activities | 70% | 179% |
| Increase (decrease) in cash and cash equivalents | -47% | -382% |
| Cash and cash equivalents, beg. Of period | 120% | -30% |
| Cash and cash equivalents, end of period | 29% | 120% |
Appendix: 4
| Ratio Analysis | |||
| Year | 2007 | 2006 | 2005 |
| free cash flow | (65,306) | (12,753) | (23,636) |
| Cash Flow to Debt | (0.07) | (0.03) | |
| Operating Cash Flow/Net Sales | (6.43) | (0.70) | (0.96) |
| debt/equity ratio | 0.03 | 0.05 | |
| Cash ratio | 0.06 | 0.05 | |
| current ratio | 1.26 | 1.23 | |
| Working capital | 186,406 | 139,374 | – |
| ROA | (0.01) | 0.01 | |
| ROE | (0.24) | 0.19 | |
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