Managing Financial Resources - Case Study Example

Managing Financial Resources Abstract This paper reports on the current performance of “Must Have Furnishers LTD.” The end of year financial position will be examined and compared to last year’s performance report. New policies were followed this year and it will be interesting to see what effect (if any) that the new policies have had on this company. This report will give recommendations for pricing strategies and will forecast next year’s performance. This paper will also report the results of analysis performed on two projects and make appropriate recommendations. Finally, this report will examine the feasibility of a merger or acquisition of another business already in the furnishings related market. Must Have Furnisher’s current financial information (charts) can be found in Annex A of this report. All other charts and reports related to the projects to be examined and the company in question for the merger can also be found in Annex A. This report begins by comparing the profit/loss statement for the year ending 30/09/03. What follows is a bar graph that compares 2002 profit/loss and 2003 profit/loss. You may find the results quite startling. With sales and gross profit being higher in 2003 one would expect the operating profit to higher, but its not: The blue bars represent 2002’s data and the reddish bars represent 2003’s data. Sales were way up in 2003 as were cost of sales and gross profit. There is a considerable gap between 2002 and 2003 in sales and expenses. When you get down to the number that really counts, the operating profit, 2002 was a better year. 2003’s data shows a 311% increase in sales, 466% more spent in cost of sales, etc…But, when you look at the final bars (operating profit) 2002 reported £674000 profit and 2003 reported £620000 profit. The company actually made less in 2003 (-£54000) and spent considerably more in 2003. What hurt in 2003’s numbers were the expenses such as bad debts, depreciation, selling expenses, and interest owed. It appears that the new pricing strategy and offering of extended terms to customers has backfired. The simplified profit and loss account for the year ending 2003 clearly shows more funds being spent and less funds trickling down into the profit. The Simplified Balance Sheet (See Annex A) for Must Have Furnishers LTD tells more of the story. There are big number differences as seen in the prior graph only this time 2003 came out with the bigger numbers. Why? Because the earlier chart gave a snapshot of one part of the business and the chart below gives a snapshot of the business as a whole and takes a look at such things as stock ownership to raise capital and expenditures for machines and equipment. The bars on the left represent 2002 data while the ones on the right represent 2003 data. The ratio of assets is .358911:1 and the ration of liabilities is .0625:1. The next graph shows the company’s net worth (net assets minus long term liabilities): Column 1 is the company’s 2002 net worth and column 2 is the company’s 2003 net worth. Why is the company worth more in 2003? In 2002 the company had 60 stock holders and that number increased to 476 in 2003. One way of raising money (capital) to fund projects or growth is to sell more stock. This could work well or backfire. Selling more stock could make the stock price fall. The stock owners before the new sale would lose because their stock lost value and their percentage of ownership in the company dropped as well. This company also took on more debtors (1000). That raised the current assets for 2003. The net worth for the company increased from £1858 in 2002 to £2534 in 2003. That equates to roughly a 36% increase in net worth for the company. If the company could reduce its long term liabilities the profit margin would be greater. Also, the company needs to take a good look at the expenses 2002 vs. 2003. Lowering those expenses would raise the operating profit. Overall the company is making money. Using the project cash flows in Annex A. the internal rate of return (IRR) for project A was 20%, the payback period (PP) £200 over a 5 year period, and the Net Present Value is £280.13. The IRR for project B was 15%, the PP was £1500 over a 6.6 year period, and the NPV for project B £1313.16. There are several ways to fund the above projects. The first decision is short term or long term financing? Can we fund the projects from within (rob Peter to pay Paul). Short term financing generally speaking costs less. Trade credit, commercial paper, and long term loan possibilities need to be explored. If you are going for long term loan be sure to get a locked in fixed rate. Perhaps an IPO (initial public offering) is the way to go with common stock and preferred stock. Maybe bonds are the best way. An IPO to fund the projects may be the best way to go. The projects can use some of the resources of the current company. Funds drawn in by the IPO can be put directly to work according to a set budget. Nurturing stockholders will keep them interested as well as give them an opportunity to invest some more in the projects. My suggestion would be: 1. Consider IPO Common and Preferred Stock. 2. Consider Commercial Paper if your company has a good reputation and you have investors willing to fund the projects. Commercial paper is generally short term so may be used in conjunction with long term loans with locked in interest rates. Growing the existing business may require a look at what is being sold, what makes money for the company, and what costs the company money to produce and sell (not for profit). Products have a life cycle and marketing the products requires knowing where they are in that life cycle. Definitely drop the products that do not make money for the company. Must Have Furnishers has identified an existing business that may have the potential to add value to the company thru a merger or acquisition. Furniture Concepts limited has a chain of carpet shops in the midlands. That could mean broadening the market for products marketed by Must Have Furnishings. First let’s look at the profit/loss statements for Furniture Concepts LTD: Furniture Concepts LTD Profit and Loss Account for the Period March 2001 to March 2002 £000 Sales 9685.5 - Cost of goods 8688.9 = Gross Profit 966.6 - Expenses 263.8 = Net Profit (before tax) 732.8 Profit and Loss for the period March 2002 to March 2003 £000 Sales 10583.2 - Cost of goods 9574.5 = Gross Profit 1008.7 - Expenses 639.9 = Net Profit (before tax) 368.8 What are most notable between 2002 and 2003 for the company are the gains in every category except net profits. According to the profit/loss statement this company could be heading into trouble if not already there. Sales increased 9.2%, cost of goods increased 10%, gross profit increased 4.4%, and expenses increased a whopping 142%. Net profit decreased approximately 50%. What really set this company back were the expenses. The balance sheet doesn’t look to bad. They are not in the red as their shared capital is £3028.7 (£000). If these companies were to merge then Must Have Furnishers LTD would double in size money wise. Fixed assets (machinery and equipment) would be £8941 (£000). Shared capital would be about £5562.7 (£000) combined. As a new/merged company Must Have Furnishers will grow overnight, but their main tasks ahead would be reducing costs of goods sold and expenses related to operating both merged parties. Both companies will gain access to a wider established market to sell their goods. Their related offerings (furnishings and carpets) could naturally merge into a number of stores with more to offer the customers in those markets. The key here is to reduce costs of goods sold and expenses related to operating the business to ensure more profit for the new company. References American Psychological Association (2001). Publication manual of the American Psychological Association (5th ed.). Washington, DC: American Psychological Association. Giles, R.S. and Capel J.W. (1991), Financing and Accounting Third Edition, The MacMillan Press LTD. London Dyson, J.R.. (1994) Accounting for Non-Accounting Students 6th Edition. Prentice-Hall. Upper Saddle River. NJ. Gallagher, Timothy J. and Joseph D. Andrew. (2003) Financial Management Principles & Practice, Third Edition. Prentice-Hall. Upper Saddle River. NJ Annex A Year Project "A" Cash Flows £000's Project "B" Cash Flows £000's 0 -1,000 -10,000 1 240 2300 2 288 2640 3 346 3040 4 414 3500 5 498 4020 Cost of Capital 10% 10% 2002 2003 £000's £000's Sales 1800 5600 Less: Cost of Sales 720 3360 Gross Profit 1080 2240 Expenses Selling Expenses 300 540 Bad Debts 36 280 Depreciation 58 416 Interest 12 384 406 1620 Operating Profit 674 620 Simplified profit and loss account for the year ended 30/09/03 2002 2003 £000's £000's £000's £000's £000's £000's Fixed Assets Factory 900 882 Machinery & Equipment 980 3582 1880 4464 Current Assets Stocks 60 476 Debtors 166 1166 Bank 24 0 250 1642 Less: Current Liabilities Creditors 72 350 Bank 0 22 72 372 178 1270 Net Assets 2058 5734 Less:long term liabilities 200 3200 Net Worth 1858 2534 Financied by: Issued Share Capital 600 656 Reserves 1258 1878 1858 2534 Simplified Balance Sheet for Must Have Furnishers LTD for the year ended 30/09/03 Furniture Concepts LTD Profit and Loss Account for the Period March 2001 to March 2002 £000 Sales 9685.5 - Cost of goods 8688.9 = Gross Profit 966.6 - Expenses 263.8 = Net Profit (before tax) 732.8 Profit and Loss for the period March 2002 to March 2003 £000 Sales 10583.2 - Cost of goods 9574.5 = Gross Profit 1008.7 - Expenses 639.9 = Net Profit (before tax) 368.8 Balance Sheet at 12 March 2002 £000 £000 Fixed Assets 4477.9 Current Assets Stock 448.2 Debtors 95.3 Cash and Bank 260.5 Creditors: due within one year Trade Creditors 1524.6 Net Total Assets -720.6 3757.3 Creditors: due after one year(long term loan capital) 728.6 3028.7 Share Capital 3028.7 Read More