Circuit City Case Study Solution
• Circuit City’s debt level is increasing at a rate of approximately 5% per annum (compared to equity), which makes it riskier every year, and this also a sign that the company will not be able to secure long-term, lower interest financing, instead having to secure short-term, higher interest short term financing. Another alarm is that their total liabilities continued to increase progressively in last 2-3 years, while the stockholders’ equity decreased. Also, because of their huge debt, they are not able to meet their interest payment obligations from their last year’s operations.
• Under their asset account, they are showing deferred income taxes when realistically, this is a liability. This is overstating their asset account by over $100 million …show more content…
The income statement shows a net loss in fiscal year ended 02/2007 and 02/2008. Not only a loss, but the net income decreasing to $148 and $310 million respectively in these two years, which results in all the profitability ratios hit badly.
• On a side note, the statement of cash flows reveals some investing activities. Circuit City is a merchandising company and shouldn’t be focusing so much on investing, especially when it is resulting in a loss for them.
• Circuit City’s revenues have been declining sharply over the last two years (FYE 2007 and 2008), which raises eyebrows on their operations, and is result of some bad management decisions (laying off of key salesman in 2006 and hiring cheaper hourly rate based salesman).
• The working capital has been decreasing over the last few years, which might not be of worry as Circuit City is a retail/merchandising store and doesn’t have need of huge working capital.
• The Return on Common Equity and Earnings per Share are declining sharply over the last two years. ROCE and EPS usually serve as a reliable measure of corporate performance. As a general rule of thumb, the ROCE should be a minimum of 1.5 to 2 times the interest rates to lure investors. In the case of Circuit City, the investors are losing their capital for last two years, and even before that, the returns were