Q1FSAC - Intermediate Accounting (Kieso)

Question

Kellogg Company has its headquarters in Battle Creek, Michigan. The company manufactures and sells ready-to-eat breakfast cereals and convenience foods including cookies, toaster pastries, and cereal bars.

Selected data from Kellogg Company’s 2014 annual report follows (dollar amounts in millions).

	2014	2013	2012
Sales	\(14,580	\)14,792	$14,197
Gross profit %	34.73%	41.26%	38.28%
Operating profit	1,024	2,837	1,562
Net cash flow less capital expenditure	1,211	1,170	1,225
Net earnings	633	1,808	961

 

In its annual reports, Kellogg Company has indicated that it plans to achieve sustainability of its operating results with operating principles that emphasize profit-rich, sustainable sales growth, as well as cash flow and return on invested capital. Kellogg believes its steady earnings growth, strong cash flow, and continued investment during a multi-year period demonstrates the strength and flexibility of its business model.

Instructions 

(a) Compute the percentage change in sales, operating profit, net cash flow less capital expenditures, and net earnings from year to year for the years presented. 

(b) Evaluate Kellogg’s performance. Which trend seems most favorable? Which trend seems least favorable? What are the implications of these trends for Kellogg’s sustainable performance objectives? Explain.

Step-by-Step Solution

Answer

1. Percentage change:

	% Change in 2013	% Change in 2014
Sales	4.19%	(1.43%)
Operating profit	81.62%	(63.91%)
Net cash flow less capital expenditure	(4.49%)	3.50%
Net earnings	88.14%	(64.99%)

 

1. Performance evaluation:

Most favorable	Net cash flow less capital expenditure
Least favorable	Net earnings

 

Step 1: Definition of Operating Profit

Operating profit can be defined as a financial metric calculated by the business entity by deducting all of the operating expenses from the operating income generated during the period. 

Step 2: Calculation of percentage change in various figures

 For % change in 2013

	2012	2013	% Change
Sales	$14,197	$14,792	4.19%
Operating profit	1,562	2,837	81.62%
Net cash flow less capital expenditure	1,225	1,170	(4.49%)
Net earnings	961	1,808	88.14%

 

The formula for calculation of percentage change

 $\mathit{P}\mathit{e}\mathit{r}\mathit{c}\mathit{e}\mathit{n}\mathit{t}\mathit{a}\mathit{g}\mathit{e}\mathit{c}\mathit{h}\mathit{a}\mathit{n}\mathit{g}\mathit{e}\mathbf{=}\frac{\mathbf{V}\mathbf{a}\mathbf{l}\mathbf{u}\mathbf{e}\mathbf{i}\mathbf{n}\mathbf{2013}\mathbf{-}\mathbf{V}\mathbf{a}\mathbf{l}\mathbf{u}\mathbf{e}\mathbf{i}\mathbf{n}\mathbf{2012}}{\mathbf{V}\mathbf{a}\mathbf{l}\mathbf{u}\mathbf{e}\mathbf{i}\mathbf{n}\mathbf{2012}}$

For % change in 2014

	2013	2014	% Change
Sales	$14,792	$14,580	(1.43%)
Operating profit	2,837	1,024	(63.91%)
Net cash flow less capital expenditure	1,170	1,211	3.50%
Net earnings	1,808	633	(64.99%)

 

The formula for calculation of percentage change

 $\mathit{P}\mathit{e}\mathit{r}\mathit{c}\mathit{e}\mathit{n}\mathit{t}\mathit{a}\mathit{g}\mathit{e}\mathit{c}\mathit{h}\mathit{a}\mathit{n}\mathit{g}\mathit{e}\mathbf{=}\frac{\mathbf{V}\mathbf{a}\mathbf{l}\mathbf{u}\mathbf{e}\mathbf{i}\mathbf{n}\mathbf{2014}\mathbf{-}\mathbf{V}\mathbf{a}\mathbf{l}\mathbf{u}\mathbf{e}\mathbf{i}\mathbf{n}\mathbf{2013}}{\mathbf{V}\mathbf{a}\mathbf{l}\mathbf{u}\mathbf{e}\mathbf{i}\mathbf{n}\mathbf{2013}}$

Step 3: Evaluation of performance

• Sales of the business entity increased in the year 2013 and further decreased in the year 2014.
• Operating profit of the business entity increased in 2013, and further, it decreased in 2014.
• Net cash flow less capital expenditure decreased in 2013 compared to 2012, and then it increased in 2014 compared to 2013.
• Net earnings increased in the year 2013 compared to 2013 and then decreased in the year 2014 compared to 2013.

Implication: The gross profit percentage of the business entity decreased for the year 2014 after an increase in the year 2013. This decrease in the gross profit percentage coincides with the decrease in the operating profit. But there is an increase in the cash flow of the business entity. It suggests that the business entity is facing challenges and has started recovering the cash. This might the outcome of the strength and flexibility of the business model adopted.