Purplephone Consultancy Analysis - Case Study Example

PURPLEPHONE CONSULTANCY REPORT Name of Student Institution Course Number Supervisor Date 1.0 Executive Summary The Purplephone Group is a company that operates in different countries but based in France. The company intends to undertake three major strategic approaches key to the financial success of the enterprise. The organization is set to analyze the suitable option for financial restructuring that will guarantee profit generation. Therefore, this report is an account of the necessary consideration of the company about the expected strategic changes. The report describes the proposed joint venture with EMF AG, which is a company based in Germany. The joint venture is a 50:50 financial engagement that is expected to run for the next four years. The excerpt also analyzes the suitability of the option of restructuring the Purplephone Group operation and relocating the parent company in France to Monaco, which is the best market for the euro sales. The company also has considered venturing into the international market in Asia. Therefore, there is the need to understand the factors that influence the choices of the sources of funding that the organization is expecting to use. Hence, the report also highlights the financial sources that the Purplephone Group will exhaust to fund the intended expansion of the company to Asia. The approach employed in this report solely depends on of the financial analysis methodologies and the expected returns where necessary. Therefore, the suitability of the strategy will rely on the independent information rather than a comparative technique. 2.0 The Joint Venture Strategy in Germany The expectation of the Purplephone Group in the engagement with the EMF AG is based on the financial consideration of the equal share joint venture. The two companies intend to invest a € 4 million that will be equally contributed by the organization. The Purplephone is therefore expected to provide joint venture investment of € 2 million to fund the anticipated engagement. The approach requires a succinct analysis owing to the current financial performance of the Purplephone Group. The current subsidiary capital of the organization stands at € 20 million and contributing € 2 million amounts to a 10% of the cumulative equity and debts. An understanding of the impacts that will come from this option is essential for the management of the company because the decision will define the future success of the business. The financial expectations, challenges, and the long-term results of this proposal will give a baseline for accepting or rejecting the joint venture offer. 2.1 Financial Viability The financial position of a firm is essential in defining the extent to which the organization can collaborate with others within the particular industry. Whenever a company is financially stable, and the profit culture is sustainable, then the shareholders are guaranteed of returns from investments (Pike et al., 2012). Therefore, it is necessary for companies intending to engage in joint financial ventures to consider the not only the period of cooperation but also the financial capabilities of each organization. The suitability of investment can be analyzed using the Internal Rate of Return, the Payback Method, the Accounting Rate of Return Approach, and the Net Present Value (NPV) technique. The Net Present Value method is important because it defines the extent of the viability of an investment and gives a reliable probabilistic consideration of the expected returns over the specified period of engagement (Pike et al., 2012). Therefore, this report adopted the NVP approach to analyzing the magnitude of the advantages or shortcomings that Purplephone Group could accrue if they pursue the joint venture. The method is important because it will show the figures that will be the baseline for defining the decision for accepting of rejecting the association between the two companies. 2.2 Suitability of the Net Present Value Technique The Net Present Value analysis is based on the investments and the expected outcomes over a particular period. The method allows other financial implication factors to be incorporated during the process of determining the viability of corporate engagement. The approach is appropriate because it considers the total capital of the organization. The magnitude of the capital of operation defines the profit margin to be enjoyed by the shareholders if other factors are held constant. Relying on the cash flows to make computations allows the elimination of the chances that might lead to manipulations from secondary costs such as depreciation. The analysis of a business opportunity based on the expected profit will be associated with the misconception of a viable idea because of the level benefit from the computations; therefore, NPV is focused on the cash flows. The method also takes into account the period of engagement and respective income derived from the activities of each year, which is four years for Purplephone Group and EMF AG (Atrill, 2011). 2.3 The Home and Foreign Currency Factor The computations of the Net Present Value statistics are based on the home currency (€), which is more stable as compared to the foreign currency (£). The computations revealed that the amount cash flows generated from the joint venture for each year in euros were higher that the dollars. Besides, the Purplephone Group will be receiving their respective share of the cash flow based on the existing spot rates in euros. Therefore, it is essential for the financial considerations to be based in euros to allow the anticipated receivables to be discounted based on the present values. Exchange rates are subjected to constant changes. Hence, there is the need to focus on the spot rate based on the interest rate parity to avoid the effects that could emanate from inflation and exchange rate instability (DePamphilis, 2010). 2.4 Financial Analysis of the Joint Venture The approach revealed that the joint venture has an additional value of € 1.433 million as compared to the invested € 2 million. The figure is a good indicator for viability and shows that the joint venture with EMF AG is a sustainable engagement. It is the desire of corporate organization to engage in business activities or partnerships that will add a reasonable value to the profit margin. Undertaking activities together guarantee the advantages of scale of operation. It is essential to note that the NPV approach has outlined that a joint venture is a good option for the Purplephone Group. However, it is important to consider some factors. The method recognizes that the cash flow received or utilized at the end of each financial period, which is not realistic as business activities generate income throughout the fiscal year (Brealey & Myers, 2013). Besides, the approach assumes that the company will experience risks that will affect the capital at an equal magnitude throughout the four years, and the non-monetary factors are considered negligible (Fillippel, 2010). Nevertheless, the analysis of the joint venture examined the effects of inputs, the impacts of the non-financial factors, and the risks factors as separate entities for the comprehensive examination. 2.5 Non-Financial Factors The performance of an organization does not rely on the financial results but also the effects of the non-financial factors. The political environment in Germany will influence the performance of Purplephone Group. The regulations that will govern the activities of the engagement will consider the organization as a foreign form. Government regulation and restrictions affect the extent of the activities carried out by an international company (Brealey &Myers, 2013; Verbeke, 2013). The political events in Germany will affect the business more as compared to EMF AG. The financial effects will be eliminated from the home currency consideration. Therefore, the political activities that will alter the exchange rates and the inflation levels will not have a huge impact on the cash flows of the Purplephone Group. However, it is essential to recognize the Purplephone Group will face limited risks because the two countries are member states of the European Union. Moreover, the political effect on the firm has been reduced by a joint venture with a company already established in Germany. Moreover, the Purplephone Group should examine the possible effects that will originate from the nature of management to be employed in the joint venture. The consideration of the organizational culture will explain the extent of sustainable existence within the four years. The administrative approaches of the company and that of EMF AG is different hence there is the need for a management and organizational culture consensus. The performance of organizations is bound to be affected whenever conflicting approached to control structures, and facets are not harmonized (Brealey & Myers, 2013). However, to avoid the dispute of interest, the two companies should formulate a legal document that will define the strategic approach to management, performance, monitoring, and evaluation of the activities of the joint venture. Besides, the mechanisms for change, methods of resolving conflicts, and means of incorporating the modification of the processes should be defined before the business starts to operate. The other non-financial factors to be considered include the availability of skilled and unskilled labor, access to modern technology, and availability of communication structures. 3.0 Re-domiciling the Parent France Company Strategy Moreover, another approach to the financial restructuring process of the Purplephone Group is the intentions to relocate the parent company in France to Monaco. The reason behind the decision is the nature of the market advantages the company has been enjoying in Monaco. The region is an independent and a small microstate with a corporate culture (BBC, 2015). The tourism-dependent economy of the monarchy is a good market for financial engagements such as banking and stock exchange. The previous records of the organization affirm that the high euro sales emanated from Monaco. However, when the company relocates the parent branch to the region, it is bound to face some risks related to the external business environment factors. 3.1 Restricted Operations Effect The governments of several countries have set regulatory policies to manage the activities of a foreign company. The objective of such undertakings has been associated with the protection of local firms and restricted dominance of the international company in the local industry. The decision to relocate to Monaco will make Purplephone Group to operate under the restrictive requirements of the Monaco government. The regulations are affecting the process of moving the generated income from the local country to a foreign economy. The government of Monaco has established such measures to protect the effects caused by the economy injections by adverse foreign withdrawals. The company will face challenges when transferring the acquired income to France. Such a restriction will affect the financial activities of the organization in the home country. The process of loan repayment, which was gained in France, will be affected because it will be costly to service the debt from Monaco. The process of paying the shareholders located in France will not be possible owing to the Monaco fund transfer restrictions. 3.2 Discriminatory Operational Practices Monaco is not the first country to enact corporate laws that are discriminatory in nature. Other countries have also set policies that discriminate the foreign investors from enjoying free trade and financial freedom. The process of re-domiciling the parent company to Monaco will lead to business charges such as the operational fees and taxes that will not apply to the local businesses within Monaco. The huge payments will affect the profit margin, and the consideration of the possible effects is essential. The company will be charged a higher tariff and low quotas as compared to the values in France. The charges will restrict the imports made by the firm while in Monaco. The cost of tertiary services that supports the operation of the business will be higher than what the local businesses will be required to pay. Besides, the government requires that the ownership of the company be shared locally through sales of the organization’s shares to the Monaco residents and firms. The discriminatory practices will not only weaken the competitive power of Purplephone Group in Monaco but will also affect the magnitude of the possible profits that could be accrued from the re-domiciling strategy. 3.3 Profit Repatriation Foreign companies engage in multinational business activities to increase their profit margins. The capital of operation is enormous, and the organizations enjoy the economies of scale. Generated profit is considered as part of the revenue of the country of origin or the parent company. Some group will consider transferring the generated additional income back to the local state or the financial reserves of the parent firm. The process of moving the profit made from a foreign company to the local domain is referred to as the Repatriation of Profit (Fillippel, 2010). However, the gain transfer process is not guaranteed. Different governments have regulations governing the transfer of profits earned from the activities that were carried out in their country. The charges for such process will be high and could affect the profit that will be made by a company intending to relocate. Nevertheless, the scenario surrounding the Purplephone Group is different. The company is relocating to a state where most of its sales have been originating. It will not be necessary to transfer the profits back to France because Monaco has been the huge market for the organization. Most of the financial activities can be tailored to the Monaco corporate environment. 3.4 Human Resource The strategy to re-domicile to Monaco will be associated with some resource acquisitions. The process needs financial support, technology, and physical assets. There is also the need for the skills of the personnel that will be vital in running the business. The organization will require employees from France to be relocated to Monaco. The costs of relocating the labor force are expensive since the employees will need an additional pay related to expenses and foreign allowance. There are also cases of some workers turning down the relocation offer. The Purplephone Group should consider the advantage of conducting anew recruitment process in Monaco to acquire the desired employees to assist in the operations of the business. The complexities associated with the transfer of personnel from one country to another are not favorable for organizations facing financial stagnations. Therefore is important for the company to consider recruitment and training of the new staff from Monaco to match the demands of the body. It is important to understand that the skills and experience of the workers has a direct influence on the performance of the Purplephone Group in Monaco. 4.0 Expansion Strategy to Asia The economic growth and development in the Asian region have been continuously increasing over the recent years. The industrialization progress recorded in the area has created a business hub for investment. The area also offers the ready market for goods and services. China and India have been on the forefront in financial stability and per capita improvement. Foreign investments and technology development have contributed to a greater percentage of the success witnessed in the region. The culture of the area is essential for a France-based organization to invest because of a greater mimic of the corporate factors. Investing in China will be favorable because of the improved infrastructure as compared to their Indian counterparts. Challenges originating from the diversity of business culture will be solved through evidence-based analysis of the market and the industry (Fillippel, 2010). The nature of market competition in the Asian region is not as the Europe where the industry is established, and entry and exit mechanisms are restrictive. The organization investing in a growing economy will benefit from the less competitive industry in India and China. The Purplephone Group if a financial service company and the extent of the effect of the non-monetary factors are limited or manageable. 4.1 Factors Influencing the Choice of Financial Source The duration of the foreign investment is important because it defines the amount of the capital to be invested in the business. The need for a sustainable financial stability for organizations requires the knowledge of the period of investment. The number of years the company will be investing in Asia will define the sources and the magnitude of the financial resource to be invested in the business. The financial capability of the organization plays a key role in determining the source of the funds to be engaged in the firm. However, it is recommended that a viable business should be supported through external financial assistance because of the taxation burdens linked to internal funding (Brealey & Myers, 2013). Another factor that defines the nature of project funding is the structure of the organization regarding the ownership. The financial acquisition method employed will affect the shareholders and the business operation. Often, the owners of the company will not recommend an approach that will directly affect their benefits. The choice of the method is, therefore, a sensitive matter to be based on evidence and prediction analysis. 4.2 Internal and External Financial Sources The internal sources of finance for an organization are retained earnings and the working capital. Depending on the retained earnings to fund the business activities is a reliable method. The approach eliminates the complexities that the organization will have to go through while trying to comply with the external requirements. There are restraining factors for businesses that are servicing loans; therefore, the method will shield the organization from such factors. Using the working capital to fund the business activities will not affect the shareholders’ position and the company will not be subjected to periodic payments. The company can generate more income by disposing off the assets, not in use or limiting the credit facilities advanced to the customers (Evans, 2011). The external sources of finance for Purplephone Group include mechanisms such as borrowing and selling of shares. The process of borrowing involves the process whereby the company will acquire funds from another organization to be repaid at a later period with additional interest. The organizations that can advance money to the company include banks, other enterprises in the industry or region, and the government. Borrowing is an easy source of finance although not favorable for Purplephoe Group because of the load already being serviced. Issuance of shares of the company can also generate the required income. Public or right issuing of the company’s shares is necessary since the organization can raise the intended amount quickly. But the approach will affect the benefits of the primary shareholders. However, this shortcoming can be eliminated if the body restricts the shares through a right issue, which preserves the ownership structure of the organization. 4.3 Possible Foreign Entry Modes Purplephone Group can access the Asian market through a Foreign Direct Investment. The method will involve the identification of an existing company in Asian region operating on similar interests as the organization by acquiring a stake control. This approach is important because it is associated with less rigid regulatory approaches from the authority of the ventured country (Blonigen & Piger, 2014). The countries in the Asian region are sourcing for foreign investment to boost their economy. The unpredictable political changes may affect the operation of the businesses with an FDI entry mode through actions like profit, assets, and liability control measures. Moreover, the company may engage in business mergers and acquisition whereby the company takes control of an identified Asian company or merge to form a synergistic organization. The advantage of such an approach for Purplephone Group is that the business will not involve the costs of setting it up from the beginning. Besides, the other option for Purplephone Group is the Greenfields Approach whereby the organization will start a purely new firm in Asia from the planning stage to structural establishments (Nagano, 2013). The method is associated with greater control over the activities of the company, although it is costly. 5.0 Recommendations and Conclusions i. The Purplephone Group should pursue the joint venture in Germany with the EMF AG Company. The venture is viable according to the Net Present Value analysis conducted. The expected returns on investment are considerate and favorable for the company owing to the current position of the organization. Cooperation between the two companies will reduce the cost of business activities and increase the profit margin. ii. Concerning the re-domiciling strategy, the company should do a risk analysis and assessment investigation and create a predictive model that will assist the business. Besides, the organization should plan ahead of time by studying the features that could be indicating the possibility of political effects. PurplePhone Group should examine the performance of other foreign companies in Monaco and make possible adjustments where necessary. iii. The Purplephone Group should raise the 250 million euros through a right issue to preserve the control structure of the organization. The method will not subject the company through a regular payment procedure in terms of interests and loans. The right issue is less costly because the company will not need prospectus. The company should consider the Greenfield Investment entry mode into Asian market because of the advantages of total control of the business. 6.0 Appendices Appendix 1: Assumptions i. The inflation rate in Germany to remain stable at 2.5% ii. The interest rates in UK to remain 2.5% and the rate for the Eurozone to remain 1.5% iii. The operational cost to remain 235,000 euros which includes a depreciation of 25,800 euros annually iv. The spot rate is 0.732 dollar/euro v. Taxes will be computed in Germany rate of 30% vi. The depreciation is not considered when calculating taxable profit Appendix 2: Summary of Values PRIMARY VALUES Cost of equity 14% Cost of debt 6% Tax rate (Germany) 30% Spot rate (£/€) 0.732 Duration (years) 4 Interest rate (UK) 2.5% Interest Rate (Euro Zone) 1.5% Growth in Projected cash flow 13% Appendix 3: The First Computations COMPUTATIONAL ANALYSIS ONE Year Expected Exchange Rate = Spot Rate x ((1+Rate in UK)/(1+Rate in Euro Zone))^Time Expected Exchange Rates 0 0.732 0.732 1 0732*[(1+2.5%)/(1+1.5%)]^1 0.739 2 0732*[(1+2.5%)/(1+1.5%)]^2 0.746 3 0732*[(1+2.5%)/(1+1.5%)]^3 0.754 4 0732*[(1+2.5%)/(1+1.5%)]^4 0.761 Appendix 4: The Second Computations THE SECOND COMPUTATIONAL ANALYSIS YEARS 1 2 3 4 UK Cash flows £'000 550 621.5 702.30 793.59 Exchange Rates 0.739 0.746 0.754 0.761 Converted Cash flows €'000 744.25 833.11 931.43 1042.83 Euro Cash flows €'000 980 1107.40 1251.36 1414.04 Total €'000 1724.25 1940.51 2182.79 2456.87 Appendix 5: The Third Computations THE THIRD COMPUTATIONAL ANALYSIS   €' 000 Weight Equity 12,000 60% Debt 8,000 40% Total 20,000 100% Appendix 6: The Fourth Computations THE FOURTH COMPUTATIONAL ANALYSIS Cost of capital =WE x KE + WD x KD = 60% X 14%+40% X 6%(1-29%) = 10.1% Appendix 7: The Fifth Computations THE FIFTH COMPUTATIONAL ANALYSIS  Year (figures in €'000) 1 2 3 4 Operating costs 235 235 235 235 Less Depreciation 25.8 25.8 25.8 25.8 Cash Operating costs 209.2 209.2 209.2 209.2 Add Inflation Adjustment - 5.23 5.23 5.23 Total Cost 209.2 214.43 214.43 214.43 Appendix 8: The Sixth Computations THE SIXTH COMPUTATIONAL ANALYSIS  YEAR 0 1 2 3 4 5 Gross Cash flows €' 000           1724.25 1940.51 2182.79 2456.87     Less OC €'000 209.2 214.43 214.43 214.43 Taxable Profits €'000 1515.05 1726.08 1968.36 2242.44 Tax Value 30%  - 454.52 517.82 590.4 672.73 Profits (AfterTax) €'000 1515.05 1271.56 1450.54 1652.04 -672.73 Initial Investment €'000 -2380 - 360 - - - - Net Cash flows €'000 -2380 1155 1272 1451 1652 -673 10.1 % Discount Factor 1.000 0.899 0.808 0.726 0.653 0.587 Present Values €'000 -2380 1038 1028 1053 1079 -395 NPV €'000 1433 References Atrill, P., 2011. 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Corporate Finance and Investment: Decisions and Strategies. 7th ed. London: Pearson. Verbeke, A., 2013. International Business Strategy. 2nd ed. Cambridge: Cambridge University Press. Read More