Dilutive Securities and Earnings per share:
Sepracor, Inc., a U.S. drug company, reported the following information. The company prepares its financial statements in accordance with U.S. GAAP.
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2007 (,000)
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Current Liabilities
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$ 554,114
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Convertible Subordinated Debt
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648,020
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Total Liabilities
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1,228,313
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Stockholders' Equity
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176,413
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Net Income
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58,333
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Analysts attempting to compare Sepracor to international drug companies may face a challenge due to differences in accounting for convertible debt under iGAAP. Under IAS 32, “Financial Instruments,” convertible bonds, at issuance, must be classified separately into their debt and equity components based on estimated fair value.
INSTRUCTIONS:
(a) Compute the following rations for Sepracor, Inc. (assume that year-end balances approximate annual averages.)
(1) Return on assets.
(2) Return on stockholders’ equity
(3) Debt to asset ratio
(b) Briefly discuss the operating performance and financial position of Sepracor. Industry averages for these ratios in 2007were: ROA 3.5%; return on equity 16%; and debt to assets 75%. Based on this analysis would you make an investment in the company’s 5% convertible bonds? Explain.
(c) Assume you want to compare Sepracor to an international company, like Bayer (which prepares its financial statements in accordance with iGAAP). Assuming that the fair value of the equity components of Sepracor’s convertible bonds is $150,000, how would you adjust the analysis above to make valid comparisons between Sepracor and Bayer?