Question

Analysis and Interpretation of Profitability
Balance sheets and income statements for Costco Wholesale Corporation follow.

Costco Wholesale Corporation
Consolidated Statements of Earnings
For Fiscal Years Ended ($ millions)	September 2, 2018
Total revenue	$141,576
Operating expenses
Merchandise costs	123,152
Selling, general and administrative	13,876
Preopening expenses	68
Operating Income	4,480
Other income (expense)
Interest expense	159
Interest income and other, net	(121)
Income before income taxes	4,442
Provision for income taxes	1,263
Net income including noncontrolling interests	3,179
Net income attributable to noncontrolling interests	(45)
Net income attributable to Costco	$3,134

Costco Wholesale Corporation
Consolidated Balance Sheets
($ millions, except par value and share data)	September 2, 2018	September 3, 2017
Current assets
Cash and cash equivalents	$6,055	$4,546
Short-term investments	1,204	1,233
Receivables, net	1,669	1,432
Merchandise inventories	11,040	9,834
Other current assets	321	272
Total current assets	20,289	17,317
Net property and equipment	19,681	18,161
Other assets	860	869
Total assets	$40,830	$36,347
Current liabilities
Accounts payable	$11,237	$9,608
Accrued salaries and benefits	2,994	2,703
Accrued member rewards	1,057	961
Deferred membership fees	1,624	1,498
Other current liabilities	3,014	2,725
Total current liabilities	19,926	17,495
Long-term debt	6,487	6,573
Other liabilities	1,314	1,200
Total liabilities	27,727	25,268
Equity
Preferred stock, $0.01 par value:	0	0
Common stock, $0.01 par value:	4	4
Additional paid-in-capital	6,107	5,800
Accumulated other comprehensive loss	(1,199)	(1,014)
Retained earnings	7,887	5,988
Total Costco stockholders’ equity	12,799	10,778
Noncontrolling interests	304	301
Total equity	13,103	11,079
Total liabilities and equity	$40,830	$36,347

(a) Compute net operating profit after tax (NOPAT) for 2018. Assume that the combined federal and state statutory tax rate is 22%. (Round your answer to the nearest whole number.)

2018 NOPAT = $3494 ($ millions)

(b) Compute net operating assets (NOA) for 2018 and 2017.

2018 NOA = $12,331 ($ millions)
2017 NOA = $11.873 ($ millions)

(c) Compute Costco’s RNOA, net operating profit margin (NOPM) and net operating asset turnover (NOAT) for 2018. (Do not round until final answer. Round two decimal places. Do not use NOPM x NOAT to calculate RNOA.)

2018 RNOA = 28.87%
2018 NOPM = 2.47%
2018 NOAT = 11.70

(d) Compute net nonoperating obligations (NNO) for 2018 and 2017. Confirm the relation: NOA = NNO + Total equity.

2018 NNO = $-$772 ($ millions)
2017 NNO = $794 ($ millions)

(e) Compute return on equity (ROE) for 2018. (Round your answers to two decimal places. Do not round until your final answer.)

2018 ROE = %

(f) Infer the nonoperating return component of ROE for 2018. Use answers from above to calculate. Round your answer to two decimal places.)

%

(g) Comment on the difference between ROE and RNOA. What does this relation suggest about Costco’s use of equity capital?

a. ROE > RNOA implies that Costco's equity has grown faster than its NOA.

b. ROE > RNOA implies that Costco has taken on too much financial leverage.

c. ROE > RNOA implies that Costco is able to borrow money to fund operating assets that yield a return greater than its cost of debt.

d. ROE > RNOA implies that Costco increased its financial leverage during the period.

Can you please help with questions e, f and g? Thanks!

Answer 1

A) NOPAT = (EBIT) * [1-tax rate]

where EBIT is the Operating Income = 4,480

Tax Rate (t) = 22%

NOPAT = 4,480 * (1 - 0.22)

= 4,480 * 0.78

= $3,494.4 millions

b) Net Operating Assets = Total Assets - Total Liabilities - Financial Assets + Financial liabilities

For 2017:

NOA = 36,347 - 25,268 - (4,546 + 1,233) + 6,573

= $11,873 millions

For 2018:

NOA = 40,830 - 27,727 - (6,055 + 1,204) + 6,487

= $12,331 millions

c) For 2018:

RNOA = NOPAT / Average Net Operating Assets

where Average net operating assets = ($11,873 + $12,331) / 2 = $12,102 millions

RNOA = $3,494.4 / $12,102

= 0.2887 = 28.87%

NOPM (Net Operating Profit Margin) = NOPAT / Total Revenue

= 3,494.4 / 141,576

= 0.02468

= 2.47%

NOAT (Net Operating Assets Turnover) = Total Revenue / Average NOA

= $141,576 / $12,102

= 0.11698

= 11.70 %

d) NNO = Debt - (Investment + Cash)

For 2017

= $6,573 - ($1,233 + $4,546)

= $794 millions

For 2018:

= 6,487 - (1,204 + 6,055)

= -772 millions

Now,confirmimg the relation NOA = NNO + Total Equity

For 2017 :

$11,873 = $11,079 + $794 (Confirmed)

For 2018:

$12,331 = $13,103 + (-$772)

$12,331 = $13,103 - $772 (Confirmed)