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Mod 5(c) - CH 5 EXERCISES/PROBLEMS (31 pts)

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Ratio of Cash to Monthly Cash Expenses

Kips Bay Medical Inc. is a medical device company that develops, produces, and sells products used in coronary surgery. The following data (in thousands) were adapted from recent financial statements.

		Year 4		Year 3		Year 2		Year 1
Operations:
Net income (loss)		$(5,607)		$(6,060)		$(5,507)		$(4,250)
Net cash flows from operating activities		(5,026)		(5,537)		(4,203)		(8,105)
Balance sheet:
End of the year cash and cash equivalents		3,138		2,316		9,403		6,211
Short-term investments*		457		2,684		947		2,957
Financing activities:
Issued common stock		3,643		—		5,441		13,632

*Includes various short-term securities that are readily convertible to cash.

1. Compute the monthly cash expenses for Years 1 -4. Round your answers to the nearest thousand.

	Monthly Cash Expenses
Year 4	$ thousand
Year 3	$ thousand
Year 2	$ thousand
Year 1	$ thousand

2. Compute the ratio of cash to monthly cash expenses for Years 1 -4. Round your answers to one decimal place.

	Ratio of Cash to Monthly Cash Expenses
Year 4	months
Year 3	months
Year 2	months
Year 1	months

3. Including short-term investments as part of cash and cash equivalents, compute the ratio of cash to monthly cash expenses for Years 1 -4. Round your answers to one decimal place.

	Ratio of Cash to Monthly Cash Expenses
Year 4	months
Year 3	months
Year 2	months
Year 1	months

4. Based on the calculations above , which of the following statements is incorrect?

Kips Bay Medical has reported losses and negative cash flows from operations in each of the four years.

Kips Bay Medical was not able to raise funds by issuing stock in Years 1 and 2.

Kips could continue to operate only 7.5 months using cash and 8.6 months using cash and short-term investments.

Long term, Kips Bay Medical must generate positive cash flows from operations in order to remain in business.

Choose the correct answer:
1

5. Based upon the preceding results in (2) and (3), an investment in Kips Bay Medical common stock would be extremely risky . Unless management of Kips could convince you that a turn around was likely and that Kips would generate positive cash flows from operations and profit in the future, you should probably not invest in Kips common stock.

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1. Keep in mind that monthly cash expense is equal to net cash flows from operations divided by 12.

2. Recall that cash and cash equivalents are divided by monthly cash expenses to arrive at the ratio of cash to monthly cash expenses.

3. Keep in mind that short term investments are added to cash and cash equivalents; then, the total is divided by monthly cash expenses to arrive at the ratio of cash to monthly cash expenses.

4. Keep in mind that short term investments are added to cash and cash equivalents; then, the total is divided by monthly cash expenses to arrive at the ratio of cash to monthly cash expenses.

5. Focus on the negative cash flows generated and losses reported by Kips Bay Medical. Unless the management of Kips convinces investors about future positive cash flows, it is risky to invest in Kips’ common stock.

2 more Check My Work uses remaining.

Answer 1

		Year 4		Year 3		Year 2		Year 1
Operations:
Net income (loss)		-5,607		-6,060		-5,507		-4,250
Net cash flows from operating activities		-5,026		-5,537		-4,203		-8,105
Balance sheet:
End of the year cash and cash equivalents		3,138		2,316		9,403		6,211
Short-term investments*		457		2,684		947		2,957
Financing activities:
Issued common stock		3,643		—		5,441		13,632
Ans 1
Monthly Cash expense		418.8		461.4		350.3		675.4
Ans 2
Ratio of Cash to monthly expense		7.5		5.0		26.8		9.2
Ans 3
Ratio of Cash to (monthly expense + Investment)		8.6		10.8		29.6		13.6
Ans4
The following statement is incorrect "Kips Bay Medical was not able to raise funds by issuing stock in Years 1 and 2."
This is because it has issued common stocks in year 1 (13632) and Year 2 (5441) & also cash & cash equivalent has increased in year 2 despite having negative income and cashflow from operating activities, which proves that there has been cash inflow on capital account to manage the business negative cashflow