What problems for the firm does this examination and analyze point to for the firm in trying to deal with its shrinking profit margin?

Carnevale Winery Part 1

Philip Carnevale and his wife Brenda started their winery over 12 years ago. It has grown from a small winery that rented everything in order to make a few barrels of wine for the couple

and some of their friends to a true winery with a small plot of grapes (less than 2 acres) and a tasting room open five days a week. The bulk of the wine is still made with grapes purchased from growers in the area, but Philip has developed a good relationship with them and gets some

very high quality produce to use in making his wine. The winery produces over 10,000 cases of wine a year now and total sales are over $4

million a year. The vast majority of the wine, 85%, is sold through distributors throughout the

country with whom the winery has established relationships. These distributors are shipped the wine with invoices that are due 30 days after shipment. Carnevale wines are considered to be a good value as the wine is rated highly by wine review magazines and wins a number of awards at

industry tastings. Current Situation

Philip and Brenda knew that the last year had been a bit difficult in the industry overall.

Some areas of the country had been hit with bad weather right at harvest time, including theirs. This weather problem drove up the price of grapes somewhat, but Carnevale had been fortunate that about 50% of the grapes that it bought were under contract so the price hadn’t hurt it as

much as it had some of the other smaller wineries. Unfortunately for Carnevale, the majority of those contracts were coming up for renewal and Philip knew that the vineyards were going to need to try to cover some of their losses. Luckily, total sales in the wine industry were still going

up in both the premium category, which is what Carnevale is considered, and the value wine category.

It was early in January and Philip and Brenda were getting started on planning for the next year. Brenda took care of the financial aspects of the family winery and ran the tasting room, while Philip did the day to day running of the winery, making the wine, tending to the grape

vines, and maintaining the relationships with the growers. Philip asked Brenda how the last year had ended up for the winery and whether she saw any problems they might be facing in the new year. She replied that she was just sitting down to work on the financial information now. She

did tell Philip that the profits for the year were definitely down from the previous year as a percentage of sales based on the income statement that she had run.

Doing the Ratios The first thing Brenda needed to do was to see how last year’s financial ratios compared the

financial ratios from two years ago and to the industry averages. She recognized the industry averages included the larger wineries, but there were so many small wineries included in those averages she felt that it did provide a good benchmark for comparing Carnevale’s performance.

After that task was complete she and Philip would sit down together and go over them to see what had changed and see what they could do to improve the performance for the upcoming year.

Once she had a good idea of where the winery stood compared to other firms financially, Brenda and Philip were going to have to seriously consider whether they needed to raise the prices for the wines. They had not increased prices for about three years, which may be part of

the reason Carnevale wine is considered such a good value in the marketplace.

Carnevale Winery Income Statement For the Period Jan. 1, 20XX to Dec. 31, 20XX

Net Sales Revenue $4,107,000

Cost of Goods Sold

Beginning Inventory $457,665

+ Cost of Goods Produced $2,196,535

Goods Available for Sale $2,654,200

– Ending Inventory $471,250

Cost of Goods Sold $2,182,950

Gross Profit $1,924,050

Operating Expenses

Utilities $49,700

Marketing $407,900

Insurance $99,500

Depreciation $182,000

Salaries and Benefits $389,780

E-Commerce $62,760

Repairs and Maintenance $72,575

Travel $58,750

Supplies $51,950

Misc. Expenses $56,420

Total Operating Expenses $1,431,335

Other Expenses

Interest Expenses $224,300

Total Other Expenses $224,300

Total Expenses $1,655,635

Net Income $268,415

Carnevale Winery Balance Sheet as of Dec. 31, 20XX

Current Assets Current Liabilities

Cash $124,987 Accounts Payable $197,865

Accounts Receivable $429,870 Notes Payable $201,500

Inventory $471,250 Line of Credit Payable $75,000

Supplies $4,330 Accrued Wages Payable $32,750

Prepaid Expenses $2,100 Accrued Interest Payable $19,000

Total Current Assets $1,032,537 Accrued Taxes Payable $32,000

Fixed Assets Total Current Liabilities $558,115

Land $302,560

Buildings, net $170,800 Long-Term Liabilities

Vehicles, net $98,000 Mortgage $376,800

Equipment, net $237,490 Loan $197,600

Furniture and Fixtures, net $29,780 Total Long-Term Liabilities $574,400

Total Fixed Assets $838,630

Owner’s Equity

Capital and retained earnings $738,652

Total Assets $1,871,167 Total Liabilities and Owner’s Equity $1,871,167

Carnevale Ratios

Two Years Ago

Industry Mean

Liquidity Ratios

Current Ratio 1.90 2.00

Quick Ratio 0.98 1.05

Leverage Ratios

Debt Ratio 0.64 0.70

Debt to Net Worth Ratio 1.60 1.70

Times Interest Earned (TIE) Ratio 2.90 2.40

Operating Ratios

Avg. Inventory Turnover 5.10 4.90

Avg. Collection Period (Days) 34.60 33.10

Avg. Payable Period (Days) 31.20 32.50

Net Sales to Total Assets 2.50 2.10

Profitability Ratios

Gross Margin (GM) 50% 49%

Net Profit Margin (NPM) 10% 10%

Net Profit on Assets 21% 20%

Return on Equity (ROE) 39% 25%