Question

Kendra Massey is trying to decide how to invest a recent windfall inheritance. Because she considers herself a fashionista, her first thought was to look at two of her favorite stores, Nordstrom and Macy's. Kendra visited each company's website and calculated the following ratios based on the financial statements she found there. She also found some industry averages to use as a comparison.

	Macy's		Nordstrom		Industry Average
	2015	2014	2015	2014	2015	2014
Current ratio	1.34	1.69	1.04	1.87	1.90	1.70
Acid-test ratio	0.29	0.53	0.27	1.12	0.50	0.60
Accounts receivable turnover	55.2 times	65.2 times	11.3 times	5.9 times	40.8 times	56.4 times
Average collection period	6.6 days	5.6 days	32.3 days	61.9 days	8.9 days	6.5 days
Inventory turnover	3.02 times	3.07 times	4.99 times	5.15 times	3.20 times	4.10 times
Average days to sell inventory	120.9 days	118.9 days	73.1 days	70.9 days	114.1 days	88.8 days

Required

(a)  Which of the two companies has the stronger liquidity position?

(b)  How do the companies' positions compare to the industry averages?

Answer 1

Part A

For stronger liquidity position only two ratios are to be seen that are current ratio and acid test ratio now ideal current ratio is 2:1 and ideal acid test ratio is 1:1

Macy having a good current ratio as per industry average as it found to less variable to industry ratios.As average of two years of industry is 1.8 and Macy Average of two years is 1.34+1.69/2=1.515 and of Nordstrom is 1.04+1.87/2=1.455

Now for Acid test ratio industry Average of two years is 0.5+0.6/2=0.55

Macy Average of two years is 0.29+0.53/2=0.41

Nordstrom average of two years is 0.27+1.12/2=0.695

As per acid test ratio Nordstrom is good.

Quick ratio is more rigorous test of liquidity than the current ratio when used together with current ratio as it gives better picture of short term financial position so Nordstrom has stronger liquidity position.

Part B

Industry average gives ideal ratio for companies in industry and companies having similar or nearby ratio indicates good sign for companies as in this question

Accounts Receivable turnover indicates the speed of the amount collected from debtors.Higher the ratio the better it is. Macy having better ratios in this compared with industry.

Average collection period indicates time in which customers are willing to pay for credit sales.less ratio is better again Macy has good collection period.

Inventory Turnover shows the speed with which the stock is rotated into sales. So higher the ratio better it is .So here Nordstrom is better as it is having even better than industry.

Average days to sell inventory less the days better it is and here Nordstrom is better as taking less days even when compared to industry average.

So this is how companies position is compared to the industry averages.

Kendra should go with Nordstrom as it is good in more aspects than Macy.