The Charter Company
Discussion Questions Answer these questions using the overview (p. 1) and 5 Exhibits (pp. 3 – 9). Write your responses in a new thread on the board. 1. Calculate the following ratios for each year during the period 1980-1983. Comment on the trend indicated by each ratio with respect to the financial performance and condition of the Charter Company. a. Profitability: Return on average total assets (assume a 46% income tax rate) b. Turnover: i. Accounts receivable (based on average gross trade receivables). ii. Inventory (based on average total inventory). iii. Total assets (based on average total assets). c. Liquidity: i. Current ratio ii. Quick ratio d. Solvency i. Total liabilities to total equities ii. Total long-term debt to total long-term debt plus owner’s equity 2. The Charter Company had a number of nonrecurring and/or noncash components of income from continuing operations in 1983. Beginning with the 1983 earnings from continuing operations, adjust this figure for nonrecurring and/or noncash items (information for these adjustments are included in Exhibit 1 (p. 3), Exhibit 3 (p. 6), and Exhibit 4 (pp. 7 – 8)). 3. Based on the information presented in the case, discuss the extent to which the stock market, in the aggregate, anticipated Charter’s problems and priced its common stock accordingly (see Exhibit 5 (p. 9)).
Chapter 1 The Charter Company Page 1 of 9 The Charter Company Overview The Charter Company was organized in 1959 as a consolidation of several existing corporations. The company’s primary line of business was petroleum production and marketing, although it also maintained a significant equity investment in the Charter Security Life Insurance Company. In 1983, the Charter Company was listed by Fortune magazine among the 100 largest U.S. industrial companies. For the year ended December 31, 1983, revenues totaled $5.7 billion, and income from continuing operations was $50.4 million. For 1982, revenues were $4 billion, and earnings from continuing operations were $29.8 million. In spite of the continuing worldwide glut in crude oil and petroleum products, Charter had maintained its quarterly dividend of $.25 per share from the second quarter of 1980 through the first quarter of 1984. During 1983 and early 1984, Charter’s common stock traded in a range of $8.00 to $13.75. In the latter half of 1983, however, a number of adverse articles began appearing in the financial press, questioning the quality of Charter’s reported earnings. Nonetheless, the company’s 1983 financial statements, released in early 1984, indicated no particular financial concerns. Moreover, the firm’s “Big Eight” auditing firm, Peat, Marwick, Mitchell & Co., had issued a “clean” opinion subject only to a consistency qualification (to which they concurred). During the first week of April 1984, however, Charter reported a substantial first quarter loss and announced plans to cut oil production and lay off employees. The company’s common stock dropped in price from $9.50 per share on April 3 to $6.625 on April 5. The price then steadily decreased to $3.25 by the end of April. On April 20, 1984, the Charter Company and 43 of its subsidiaries filed voluntary petitions for relief under Chapter 11 of the Bankruptcy Act. Copyright 1988: C. Norgaad and R. Kochanek The Charter Company Page 2 of 9 Discussion Questions Answer these questions using the overview (p. 1) and 5 Exhibits (pp. 3 – 9). Write your responses in a new thread on the board. 1. Calculate the following ratios for each year during the period 1980-1983. Comment on the trend indicated by each ratio with respect to the financial performance and condition of the Charter Company. a. Profitability: Return on average total assets (assume a 46% income tax rate) b. Turnover: i. Accounts receivable (based on average gross trade receivables). ii. Inventory (based on average total inventory). iii. Total assets (based on average total assets). c. Liquidity: i. Current ratio ii. Quick ratio d. Solvency i. Total liabilities to total equities ii. Total long-term debt to total long-term debt plus owner’s equity 2. The Charter Company had a number of nonrecurring and/or noncash components of income from continuing operations in 1983. Beginning with the 1983 earnings from continuing operations, adjust this figure for nonrecurring and/or noncash items (information for these adjustments are included in Exhibit 1 (p. 3), Exhibit 3 (p. 6), and Exhibit 4 (pp. 7 – 8)). 3. Based on the information presented in the case, discuss the extent to which the stock market, in the aggregate, anticipated Charter’s problems and priced its common stock accordingly (see Exhibit 5 (p. 9)). The Charter Company Page 3 of 9 Exhibit 1 The Charter Company Consolidated Statement of Earnings Years Ended December 31 (In thousands) 1983 1982 1981 1980 1979 Revenues $5,656,770 $4,017,161 $4,966,171 $4,563,011 $4,296,370 Equity in net earnings of Charter Security Life and other affiliates 117,958 43,402 14,080 661 2,357 $5,774,728 $4,060,563 $4,980,251 $4,563,672 Expenses: $4,298,727 Cost of sales and operating $5,364,820 $3,744,462 $4,512,215 $4,193,275 $3,624,619 Selling, general and administrative 99,987 101,968 190,656 112,694 154,608 Interest 80,886 69,879 89,196 77,133 44,000 Depreciation, depletion and amortization 37,939 36,074 32,511 35,085 28,851 Write-off of certain units at Bahamas refinery 49,428 - - - - Write-down of tanker 7,772 - - - Total Expenses - $5,640,832 $3,952,383 $4,824,578 $4,418,187 $3,852,078 Earnings before income taxes, etc. $133,896 $108,180 $155,673 $145,485 $446,649 Income taxes 83514 78350 99727 95248 Earnings from continuing operations 78923 $50,382 $29,830 $55,946 $50,237 $367,726 Discontinued operations, net (1,950) 5,430 (48,229) - - Extraordinary charge - - - - Earnings before cumulative effect (2,388) $48,432 $35,260 $7,717 $50,237 $365,338 Cumulative effect on prior years of a change in accounting principle 5,463 - - - Net earnings - $53,895 $35,260 $7,717 $50,237 $365,338 The Charter Company Page 4 of 9 Exhibit 2 The Charter Company Consolidated Balance Sheets 31-Dec (In thousands) Assets 1983 1982 1981 1980 1979 Current assets: Cash & Cash Equivalents........................ $64,031 $59,939 $69,283 $94,112 $95,632 Receivables: Trade accounts........................................ 294,715 262,646 343,862 322,237 296,344 Other....................................................... 22,756 18,736 25,967 32,142 41,488 Affiliates.................................................. 31,030 30,106 11,479 16,312 499 Short-term notes and current installments of long-term receivables............................ 2,868 24,744 8,815 3,133 8,745 351,369 336,232 390,123 373,824 347,076 Less: Allowance for doubtful receivables............................................ 10,951 8,622 14,464 6,062 Net receivables........................................ 14,005 340,418 327,610 375,659 367,762 333,071 Inventories Petroleum......