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Working Capital per Dollar of Sales
This is an effort to find the approximate amount of working capital a company should have by comparing the amount of working capital on the Balance Sheet (arrived at by subtracting current liabilities from current assets) to total sales reported on the Income Statement. This is an interesting calculation because the variation from one industry to another is so great. McDonalds, for example, sometimes has a negative working capital figure because they generate cash so quickly, customers pay for product before the corporation has to pay their suppliers. A general rule has it that heavy machinery manufacturers such as Bombardier require somewhere in the range of 20 to 25% of working capital per dollar of sales while RIM might only require 15 to 20% to meet industry standard.
RIM reports sales at $3,037,103,000 on their Income Statement and working capital to be $1,377,393,000, which is 45% of sales.
Bombardier reports sales of $14,726,000,000 on their Income Statement and working capital to be $800,000,000, which is only 5% of sales.
What does this mean to you the investor? RIM is 3 times the norm, nowhere near a warning sign while Bombardier is way beyond cause for concern, begging closer examination. You should question some of the current assets, such as aircraft financing. This is a common strategy to help sell to customers in need of financial assistance. How long is the term and is it truly current? What we know of the airline industry, is the credit secure enough to be classified current? Take that one item out, and the working capital to dollar of sales drops another percentage point.
The bottom line is Bombardier is not in the same business as McDonalds where a negative working capital is a sign of management. In this situation, it is a sign that the company is facing serious financial difficulty.
Acid Test Ratio
Putting these two companies to a stiffer test of their short-term assets being able to pay their liability immediately without selling inventory shows a different result than the working capital ratio. The accepted rule is that a company with a ratio less than 1 should be considered with extreme caution.
RIM has cash, accounts receivable and short-term investments totaling $1,600,037,000, which divided by $541,872,000 yields a ratio of 2.95, much better than the cut-off point of 1.
Bombardier has cash, accounts receivable and short-term investments totaling $5,566,000,000, which divided by $9,769,000,000 yields a .57 ratio this is considerably worse than the caution indicator of 1.
Debt Ratio
Is a measure of the leverage the two companies have and gives an indication of potential risks each company faces in terms of its debt load. The debt ratio is calculated by dividing total debt by total assets.
RIM shows total debt of $600,746,000 and total assets of $3,088,949,000 for a ratio of .19.
Bombardier shows total debt of $15,844,000,000 and total assets of $18,577,000,000 for a ratio of .85.
Clearly, RIM is considerably better but this does not raise any alarms about Bombardier except to take a closer look at their debt picture.
Debt to Equity
This is another simple calculation made by dividing total liabilities by shareholders equity, but it tells a lot about the way a company has managed to finance growth. This is particularly true in the case of our two test case companies.
RIM has total debt of only $600,746,000, compared to shareholder equity of $2,488,203,000. Bombardier shareholder equity is only slightly higher at $2,733,000,000, but total debt is also greater at $15,844,000,000. RIM is in an enviable position, their equity being 4 times greater than debt while Bombardier is faring much worse with debt 6 times greater than equity.
A ratio between .5 and 1.5 is what most industrials strive for. Bombardier is at 5.8 and it is .24 for RIM.
Not much needs to be said here as even the most basic of financial instincts indicates a serious deficiency in the growth habits of Bombardier. It is obvious future investment from financing will be closed to the company and outside investors. The cycle of government backing and assistance is entrenched in the corporate culture.