Factoring for Business - Term Paper Example

1. Using appropriate websites choose a UK Plc (FOR EXAMPLE IN THE RETAIL SECTOR, Tesco, Sainsbury, Asda, Marks and Spencer etc – for any year beginning 2007. Without going into depth, from the annual reports and financial statements, identify where possible the company’s capital structure ( list them) What kind of finance the company might have raised? You are required to attach just one copy of a balance Sheet as evidence. It is also suggested that you make use of important ratios based on capital structure of the company and make comments. Sainsbury plc is a UK based firm consisting of 504 supermarkets, 319 convenient stores and Sainsbury bank which in 2008 generated $19287 million pounds in revenue (Annual Report: Sainsbury, 2008). The total debt of Salisbury plc in 2008 was 5180 million pounds. Appendix A illustrates the balance sheet of the company. The company has utilized a good mix of short term and long term debt. The ratio of short term to long term debt is distributed at a proportion of practically 50/50. The majority of the short term debts are trade and other payables. This means that the company is obtaining its short term financing from its vendors and suppliers. Nearly 81% of their long term debt is categorized as long term-borrowings. The long term borrowings are possibly either bank loans or corporate bonds since those are the most commonly used long term debt instruments (Garrison & Noreen, 2003). The amount of equity the company has is worth $4935 million pounds the debt to equity ratio of the company is 1.05. A general rule for this ratio is that it is desirable for it to be around 1.00. (Beasley, et. al. 2000). The current ratio of the company which is calculated by dividing current assets by current liabilities is 1.95 (Annual Report: Sainsbury, 2008). That metric is because it means the company has nearly twice as many liquid assets than short debt implying they have no problem paying off its short term obligations. 2. Explain briefly the meaning of: ‘FACTORING FOR BUSINESS’. How useful is it in the organisation ? you may refer to your chosen organisation above. Factoring is an arrangement in which a company sells off its account receivables at a discounted price. The transaction involves the purchase of account receivables by the lender or factor which means that if the purchaser of the goods does not pay for them, the lender rather than the seller takes the loss (Beasley & Brigham, 2000). In the Sainsbury the company has a total of $206 million pounds of account receivables. If for some the reason the company entered into any type of cash flow problems then selling off these receivables would a good solution. Currently the company has a healthy total of $719 in cash reserves. Also another way to look at factoring is as an investment opportunity in the sense that selling off the account receivable could be compared against the discount cost and the conversion into cash could be utilized for other purposes (Weston & Brigham, 1984). If a project can generate a higher return than the discounting rate of selling off the receivables then the company could consider liquidating the receivables to invest in project that can help the company make a profit and increase shareholders wealth in the long term. 3. Control of working capital has always been thought to be the most important factor in the short-term financial management of companies. In what sense your chosen company may have obtained finance. This must be discussed with some evidence from the figures you provide. Managing working capital is extremely important because this is the money that is utilized to produce the output the firm generates. As mentioned earlier the fact that the company is not experiencing cash flow problem is a indicator that the firm has an efficient production cycle. Factoring is potential source of short term capital the company could utilize in the future because they could liquidate the over $200 million pounds the company holds in account receivable (Annual Report: Sainsbury, 2000). The firm’s has been able to establish goods relations with its suppliers which has enable them to pay for the merchandise in favourable terms of 30 / 60 / 90 days after receiving the initial invoices for the purchases. The fact that the company such a high current ratio of nearly 2:1 is another indicator of the good management Sainsbury has displaying as far as its working capital. The actual composition of short term debt at Sainsbury is illustrated in the table in Appendix B. 4. Does capital market efficiency imply that all investors know all that there is to know about all securities traded in the market? You should include in your discussion, the forms of efficiencies. (good reading and basic understanding is required) The capital market efficiency is model that implies that all participants in the marketplace have the same access to information that price movements in common stocks adjust rapidly once information is released to the general public. In the stock market we see how millions of participants in marketplaces such as the New York Stock Exchange are able to see with their owns the validity of the capital market efficiency theory as prices of thousands of stocks change in price every minute and its price adjust instantly to the reaction of buyers and sellers the new information that is released every minute. Three types of efficiencies of the model are operational, allocation, and pricing efficiency. Allocation of resources has do with the relationship between resource scarcity and the allocation of the available resources to the activities that can benefit society the most or in the business world that can be exploited to the maximum in order to achieve a maximum return on investment and increase shareholders wealth (Varian, 2003). 5. Explain briefly the following terms used in finance – give good examples where appropriate. – Your own written work here is important.( good reading and basic understanding is required) a) Shareholders’ wealth – Shareholders wealth means is the amount of accumulated retained earnings that are added to the capital account of a company. Every year the money that a company earns (net income) after dividends are paid out the remaining capital is transfer the equity account of the company which increases overall shareholders wealth. In the event of a net loss at the end of the fiscal year the shareholder wealth diminishes. b) Debentures – A debenture is a corporate or public agency bond that does not any type of collateral to guarantee the issue. The security other than goodwill assurances that the firm is trustworthy would be the unencumbered assets of the issuer. c) Leasing – leasing is a rent arrangement utilized in the corporate world to acquire vehicles or equipment from a vendor. The terms of the lease agreement include monthly payment, interest being charge, and the length of the contract. Typically the person leasing the equipment at the end of contract has an option to pay the equipment with a balloon payment that is predetermined in the initial negotiations of the lease contract agreement between the two parties. d) Gearing – gearing is a ratio formula for debt that provides the users of financial information insight regarding what proportion of long term debt came from loans and what proportion came from shareholder’s wealth (Tutor2u, 2009). The gearing ratio helps bank officials determine if a company has the capacity to acquire more debt. e) Convertible loan stocks – A loan stock is a type of fixed income security such as a loan that is made to a company (Wisegeek, 2009). In the convertible loan stock arrangement the borrower receives a fixed low rate, but in exchange the lender has the added benefit of being able to convert the loan into common stocks of the company they made the business transaction with. f) Portfolio theory/diversification – portfolio theory has to do with the combination of equity and bond holdings a person has selects and the diversification strategy utilized based on the risk the investor is willing to take. For example a high risk investor is likely to have some penny stocks in his portfolio, while a low risk investor is likely to purchased U.S. Treasury notes. g) Overtrading – occurred in the business world when a company takes on a project it can not fulfil. h) Time value of money – time value of money is finance concept that is utilized to determine the value of money in the future in terms of what it is worth today. For example a bond with face value of 1000 to be redeem in five years. Without considering the effects of the interest being earn the $1000 principal that can redeem five years into future today is not worth $1000 because money due to the yearly interest factor or inflation loses value over time. The time value of money is value finance concept that many application for annuity payment, loans, and investment. i) Issuing houses - Is a merchant bank that specializes in underwriting shares and security issues (Anz, 2009). j) Capital asset pricing model (CAPM) – The capital asset pricing model deals with the equilibrium relationship between the risk and the expected return on risky assets (Jones, 1996). In practical terms the CAPM determines what the required rate of return for any security with the risk of that security measured in terms of beta. k) Average cost of capital – The average cost of capital knows as the (r) variable what a corporate has to pay to acquire funds / capital. A corporate determines its cost of capital based on what the bank offers, how much they have to pay coupon rates of bonds and its costs of issuing equity stocks. Each company has a unique cost of capital. l) Spot rate – The spot rate refers to the current market price of an item available for immediate delivery (Jones, 1996). The items referred within the definition are financial instruments in the future markets such as options. m) Hedging – to hedge it means protecting a long position in one asset while being short in another in order to reduce overall risk; in commodities one side of the hedge is in the cash market and the other in the future markets (Teweles & Bradley & Teweles, 1992, p.537). n) Preference shares – It is similar to a preferred stock but would it is considered below in the finance hierarchy in case of liquidation. It is typically issued by companies whose charters preclude issuance of additional preferred stocks (Teweles, et al., p.544). o) Premium share value – shares have a face value printed in their issuance, but a company can sell them at different offer price. If a company sells the shares at a price higher than its face value the stock is being sold at a premium. The difference between offer and face price is the premium. References Annual Report: Sainsbury (2008). Retrieved March 23, 2009 from http://www.jsainsburys.co.uk/files/reports/ar2008_report.pdf Anz.com (2009). Financial dictionary. Retrieved March 24, 2009 from http://www.anz.com/edna/dictionary.asp?action=content&content=issuing_house Besley, S., Brigjham, E. (2000). Essentials of Managerial Finance (12th ed.). Fort Worth: Hardcourt College Publishers Garrison, G., Noreen, E. (2003). Managerial Accounting (10th ed.). Boston: The McGraw Hill Companies. Jones, C. (1996). Investments: Analysis and Management (5th ed.). New York: John Wiley & Sons. Teweles, B, Bradley, E., Teweles, T. (1992). The Stock Market (6th ed.). New York: John Wiley & Sons. Tutor2u.net (2009). Accounting – Gearing. Retrieved March 23, 2009 from http://tutor2u.net/business/presentations/accounts/gearing/default.html Weston, F., Brigham, E. (1984). Essential of Managerial Finance (7th ed.). Chicago: Dryden Press. Wisegeek.com (2009). What is a loan stock? Retrieved March 23, 2009 from http://wisegeek.com/what-is-loan-stock.htm Varian, H. (2003). Intermediate Microeconomics: A Modern Approach (6th ed.). New York: W. W. Norton & Company. Appendix A: Balance Sheet Salisbury fiscal year 2008 (Annual Report: Sainsbury, 2008) Appendix B: Composition short term debt Sainsbury plc (2008) Short Term Debt (million pounds) trade and other payables 2280 short term borrowings 118 derivative financial instrument 6 taxes payable 191 Provisions 10 Read More