As mentioned in the introduction of the mini case, Hobby Horse Company, Inc. (HH) experienced a tough year in 2011. HH opened up a number of new stores but experienced a poor Christmas season. Christmas season is the biggest sale period for retail stores. As a result, bad Christmas sales performance played a big part of HH’s loss for year 2011. As we computed the financial ratios for HH, we can see the effects from new stores openings and poor sales performance.
First of all, return on asset (ROA) is a ratio used to measure how efficient a company generates profit using its assets, which is the invested capital. We noticed that HH’s ROA was increasing from 2006 to 2010. However, HH’s ROA for 2011 dropped dramatically from 18.41%(year
HH’s high total debt ratio make lenders reluctant to issue loans and may increase HH’s cost to borrow money from lenders. Therefore, this helps explain HH’s high interest expense in year 2011. With the help of times interest earned ratio, we see that HH has enough EBIT to pay interest from 2006 to 2010. However, the times interest earned ratio for HH in 2011 is -0.24, which means HH doesn’t have enough earnings to cover its interest expense, which worsen its loss for the year. As an alternative, HH should consider raising funds through shareholders’ equity instead of long-term debts in 2011 as its earnings per share was increasing through 2006 to 2010. This can keep its long-term debts ratio lower so that it can borrow money at a lower cost if needed in the future.
Lastly, we will take a look at HH’s liquidity ratio, which measures HH’s access to cash or assets that can be turned into cash on short notice. As seen in the data, HH’s current ratio dropped from 128.49% to 98.38%; quick ratio dropped from 72.88% to 27.94% and cash ratio dropped from 19.73% to 2.06%. These all show great reduce in HH’s access to cash or assets that can be turned into cash on short notice. In addition, HH’s current asset is not enough to cover current liability because its current ratio at the end of 2011 is 98.38%. This shows HH’s inability to pay off its current liability if it was asked.
In conclusion, HH’s