AbdiKadar Abdi 1.

What can the historical income statements (case exhibit 1) and balance sheets (case exhibit 2) tell you about the financial health and current condition of Krispy Kermes doughnuts. Inc.? The historical income statement from Krispy Kreme Doughnuts shows the annual results to be a consistent growth from Jan 2000 through Feb 2004 statements. We see the final net income growth of 2003 is reported to be almost 10 times more then it was in 1999 fiscal year. However, equity loss in joint ventures is also increasing in negative figures for four consecutive years from 2001. This suggests that the directions of the company development in other business areas arent successful and that it has impacted the companys income. Also, the restricting impairment charges and closing costs for 2004 quarters shows signs of operational inefficiencies. Examining the balance sheets of Krispy Kreme Doughnuts total assists look good in general from Jan 200 through Feb 2004 filing; however there are some concerning later-year shifts. For instance, cash and cash equivalents between Feb 2003 and Feb 2004 filings dropped considerably. Another suspicious indication is asset held for sale in Feb 2004 was up almost 37 million. Since Krispy Kreme did not amortize their reacquired franchise rights, goodwill, other intangibles it was an overstated asset in 2002 fiscal year to 2003 therefore their entry skyrocketed from 49 to 175 million respectively. Like assets the total liabilities and shareholders equity looks impressive, but lets break it down into components. For instance, in 2004 shortterm debt and revolving line of credit are at zero, but the long term revolving lines of credit increases from 7.2 million in 2003 to 87 million in 2004. Also, long-term debt, net of current portion increased to 49.9 million in 2003 and the decreased about a million in 2004. The companies trend in taken large long term debt maybe the cause of large expenses in late years. In the shareholders equity portion of filing we see that the common stock jumps dramatically from 173 million in 2003 to 294 million in 2004, accounting for bulk of the increase in total shareholders equity. The company obviously focused on rapid growth in exhibit 3 we can see the store openings for later years have doubled; therefore the long-term debt is likely to support it. However, the risk is too high there is too much capital into the growth plan without allowing more time to stabilize the new markets, before attempting to expand. 2. How can financial ratios extend your understanding of financial statements? What questions do the time series of ratios Exhibit 7 Raise? What questions do the ratios on peer firms in case Exhibit 8 and 9 raise? Examining the quick and current ratios of Krispy Kreme we see that it is increasing fairly from 200 to 2004 filings. This suggests that the company is growing more stable over time, and the will be able to pay off its short-term obligations with its current resources available. In 2001 and 2002 filings we see that leverage ratios start to peak in long-term health, with low long term debt to equity ratio and an impressive times interest earned ratio both are good in one year and better in the other. We see in the same years that the activity ratios show a better performance then in other measured years. The only ratio that seems to be more divided is the

profitability ratio even though the highest return on asset and return on equity seem to peak in 2002, but in operating profit margin and net profit margin are consistently increasing through the years. Looking at the profitability ratio why is it that the company is falling out of favor even though it looks perfectly acceptable in 2004 with that said other ratio arent showing any strong concerns of the overall companies financial health. Exhibit 8 shows that Krispy Kreme quick ratio looks great when compared to their competitive firms. They seem to be on top of there current obligations with current assets. They have funded their growth largely from equity rather than long term debt therefore gave them low long-term debt/equity. Maybe they need to use additional debt to continue their growth in order to successfully compete. Their activity ratios indicate lower than normal levels of turnover for all of their activities compared to their peers. The company seems to be selling inventory slower and uses its assets less efficient manner then there competitors. As they grow this cannot be acceptable it shows that they are operating inefficient manner. Yet, profitability ratios are great along side their peer so why is it the sudden fall in favoritism in the stock market. 3. Is Krsipy Kreme financially healthy at the year end of 2004? What accounts for the firms recent share price decline? Krispy Kreme is financially unhealthy at the year end of 2004. As Wall Street Journal said the biggest problem Krispy Kreme may be that the company grew to fast. We notice that the starved to grow but the products were on the decline and still they seemed to just wanting too expand. The number of stores was overwhelming in such a short time firm even though the overall revenues seemed to increase in previous years, but it could not sustain. Therefore actual revenues per store had decreased along side the bad headlines it received from Wall Street. Krispy Kreme was using unethical practices in its accounting by inflating revenues and reducing income. Report on Wall Street Journal on May 25th published a story of Krispy Kreme acquiring a Michigan franchise after agreeing to raise the purchase price in return for payment for interest, equipment and ingredients owed to it by the franchisee. Furthermore, Krispy Kreme reordered the interest as interest income and booked inflated price of the store and franchising rights as intangible assets, which it did not amortize. We could see in Exhibit 2 that Krispy Kreme recorded almost 176 million in intangible assets. After the article was published Krispy Kreme started to close stores rather then buying them back. Notice that on Exhibit 1 the company recorded closing on first and third quarter of 2004 which lead in further reducing income. The trend continued in exhibit 8 the activity ratio shows the company having trouble keeping up in sales and difficulties in managing growth. The company for the first time in history started to decline on May 7, 2004 it closed down 30% to $22.51 per shares. This decline could be of insider information. On the same day the company told its investors to expect earnings to drop 10% because people were following a low-carbohydrate diet trend in the United States. The company also blamed that the new coffee shops were falling short of expectations and that it had plans t o close down three of them. Couple months later on July, 29 United States Securities and Exchange Commotion (SEC) had launched an informal investigation related for franchise

reacquisition and the companies previously announced reduction in earnings. On the same date the company fell another 15% closing at 15.71 a share. Krispy Kreme earning have since been eroding.