Garmin Incorporated Analysis - Looking to the Future - Case Study Example

Garmin Incorporated Analysis- looking to the future Garmin incorporated is a US based company that is involved in three main industries that is; automotive industry, aviation industry and outdoor/ fitness industry. This paper looks to delve into Garmins intention to venture into the smart phone industry, while at the same time looking at the risks involved along with the profits and benefits that the company shareholders will get, from the investments made. It will furthermore look into sources of capital that the company will use to make the said investment possible. More so, it will look into the methods of budgeting capital that Garmin will use and how the company will determine whether the venture is a profitable one. The shareholders of Garmin incorporated will need to be convinced by the CEO to invest in the Smart phone market. The CEO will further more need to show the investors how he decided that this was the best way forward for the company (Jefferson 2001). Keeping in mind that, smart phone industry is currently growing at a rate of 20% and is not likely to slow down thanks to technological advancement, the CEO decided to attack smart phone industry. The reigning giants in the Smart phone industry include; Black berry, Samsung, Apple, Nokia and HTC. These are the companies that Garmin incorporated is looking to compete with. Currently, Garmin Incorporated is in the aviation, automotive and fitness/outdoor industry and is looking for an investment that will rapidly boost its sales. In attacking the smart phone industry, the CEO looked to devote the companys resources these other three fields which are non-core to the business (Rogosa 2002). The capital needs for this investment will be quite high, at up to $3 billion dollars, to be used for strategic acquisitions that will place the company at par with others in the smart phone industry, growth of the company and research and development into the new market. The main source of capital for Garmin will be equity, as they could look for investors to buy some of their shares. There are some ramifications that the company will face by applying the use of debt and equity capital financing. In equity financing, Garmin will have to share their company with other investors from whom they will source some of the required capital (Uzzi 2006). On the other hand, debt financing is a little tricky as the owners do not retain the company, they are held at some kind of ransom by the lenders until the day the whole amount borrowed is paid back. On top of that, a loan cannot be given unless there is some kind of guarantee to back the loan, and more, there will be a certain amount of interest that will be charged on the loan on a monthly basis. The guarantee used to back the loan is usually an asset which will be confiscated by the lender in case the company defaults in paying the borrowed money. Three years after investing in the smart phone industry, the company will look to sell off or rather divest the non-core assets and get about $500 million that will then be used to clear some of the debts that will have been incurred in the business venture. Considering the fact that the market share that Garmin has in the smart phone industry is zero and that the competitors that Garmin is looking to compete with hold the greatest share of this market, the company will need to analyze the existing market trends and figure out how they can effectively compete (Uzzi 2006). In the event that Garmin Incorporated decides to divest their non-core assets, then the sales that were gotten before in this field will be expected to slowly deteriorate thus bringing about the sale of these assets three years down the line in the investment to get an estimated 500 million dollars. Due to this divesting in these non-core assets, there will be continuous and rapid declines in the automotive sector of Garmin Incorporated. Technological advancement has not stopped since it started growing, which is the main reason why the smart phone industry is steadily growing at a rate of 20% per year. Today, the smart phone industry stands at $65 billion and not to forget that it is rapidly growing. It is more over of great importance that the CEO at Garmin comes up with a plan on how the company will use the excess cash that will be gotten. This is important so that the excess cash does not go to waste. Excess cash is basically the amount that a company gets on top of the expected amount. If the company was for instance looking for $3 billion and got 4 billion, there should be a plan or a way that has been devised by the CEO on how the excess cash gotten will be fueled into the company (Scarborough 2005). Garmin Incorporated had to furthermore come up with, a capital budget analysis before they could plunge into the smart phone market. A capital budget analysis is furthermore of great importance as this will help Garmin to evaluate the benefits such as if the cash inflows are big enough to pay for three major things that the cost of the assets acquired, the cost of financing the assets, like interest and a rate of return, that is a risk premium (Stevenson 2003). There are various methods of capital budgeting that Garmin could use, and they include; Payback period method, the Net Present Value method and the IRR calculation method. The first method is not very common and is considered to be a very weak method of capital budgeting. This is primarily because it does not use the time value of money principle. This method is basically the period of time it takes a company to get back the capital invested in a business. Garmin chose to use the NPV method when they were budgeting for their capital needs for the smart phone industry investment (Uzzi 2006). NPV is positive if the minimum rates of returns are achievable. In a case where NPV is benefits versus costs, the NPV will only be positive if the benefits are greater than the costs and vice versa. If it is positive, Garmin will consider the business venture to be a profitable investment. A positive NPV thus means that the benefits that accrue from the investment should be large enough to repay for the cost of the companys asset, the costs that were incurred to finance the project and the rate of return can adequately meet the compensation for the risk of the cash flow estimates. If the NPV is zero, then the benefits from the investment can barely cover the three things but the company is at a break even period, where there are no profits being made and no losses either, this would place the investment in a tricky position: neither profitable or a loss. In a case that the NPV was negative, the benefits would be less than the costs of the investment, not large enough to cover the three and so the project would turn out to be a loss, thus should be rejected. In the above case, the company would not be making any profits as the costs would be more than the benefits. The Internal Rate of Return is the rate of return that an investor can expect to earn on the investment. Technically, it is the discount rate that causes the present value of the benefits to equal the present value of the costs. According to surveys of businesses, the IRR method is actually the most commonly used method for evaluating capital budgeting proposals (Uzzi 2006). It is a very easy number to understand because it can be compared very easily to the expected return on other types of investments (savings accounts, bonds, etc.). If the internal rate of return is greater than the projects minimum rate of return, we would tend to accept the project. There are four basic steps that will be utilized as the Net present value analysis is carried out. The net present value is basically the difference between the present value of cash inflows and the current value of cash outflows of any given business. The NPV is used in the analysis or rather the evaluation of the long-term financial costs and benefits of any given business investment. These steps are forecasting of the benefits and costs in each given financial year. The next step is the determination a discount rate at which to work. The company will then use a formula in the calculating of the net present value. The final step that the company will adopt is the comparison of the net present values of the alternatives. Return on Invested Capital (ROIC) is basically the calculation used to assess a companys efficiency at allocating the capital under its control to profitable investments. It gives a sense of how well a company is using its money to generate returns. (ROIC) with its cost of capital (WACC) reveals whether invested capital was used effectively. The Internal Rate Of Return - IRR is the discount rate often used in capital budgeting that makes the net present value of all cash flows from a particular project equal to zero. Generally speaking, the higher a projects internal rate of return, the more desirable it is to undertake the project. As such, IRR can be used to rank several prospective projects a firm is considering. Assuming all other factors are equal among the various projects, the project with the highest IRR would probably be considered the best and undertaken first (Sachdeva 2008). As Garmin Incorporated takes to investing in another very competitive and fast growing industry, there are several issues that arise in financial management that the CEO ought to be aware of. The most common ones are: benchmarking, budget exercises, capital budgets, data security, barter exchanges, free credits, invoicing discounts, juke bond finances, IRR and finally the Lehman wave. These mentioned issues are some of the things that the CEO at Garmin should keep in mind when he is looking into investment in the Smart phone industry. Companies that are short on cash trade their products for services and vice versa. This are called barter exchanges and could significantly sustain the operations of such companies especially when a company is going through trying financial times. Benchmarking is another issue in financial management that finds relevant points that compare finances and other quantitative analyses. Improper benchmarking could very easily cause a company to make flawed decisions which could prove to be very costly to the company. Budget exercises are also essential to ensure that the company the runs smoothly, this more over increases the amount of stress that those in power undergo (Scott 2007). Thus it is very important for budget exercises to be done continuously. Garmin must also ensure that capital budgets are used to set the levels of expenditure for the company so that long-term assets that are expected to generate returns over a given period of time can do this. Data securities are another important concern of companies as they have a very high level of potential liabilities. Here, the risk management staffs, IT department and even the controllers and compliance personnel are put in the spot light. Free credits could also be dangerous to any said organization as it is basically free money that is used in the financing of daily operations in the organization. To encourage customers to pay their bills faster and more promptly, the invoicing discounting is brought in where there are penalties such as the payment of interest for delayed payments. Some companies further more use the principle of invoice discounting in reverse whereby companies with a lot of money give suppliers who cannot get bank loans the required financing at quite reasonable rates. Another core issue in the financial management field is the IRR; this is the internal rate of return which is used in analyzing profitability of projects, such that it identifies any profitable business investments for a company (Stevenson 2003). Junk bond finance became popular in the 80s as a source of alternative financing for new companies that were not really able to adequately tap into the equity markets. The last issue in financial management is the Lehman wave, which basically describes the fluctuations in the demand or production at one end of a long supply chain can become greatly magnified by time they reach back to the opposite end of the chain. This set of insights has huge implications for financial managers in a variety of industries (Stevenson 2003). References Jefferson, S. (2001) "When Raising Funds, Start-Ups Face the Debt vs. Equity Question." Pacific Business News. Washington, DC: American Psychological Association. Rogosa,D. (2002).A growth curve approach to measuring change. New York, NY: Russell Sage Foundation. Scarborough, W. (2005). Essentials of entrepreneurship and management (5th ed). Washington, DC: American Psychological Association. Sachdeva, P. (2008). Analytical framework for the organization and structure. New York, NY: Anchor. Scott, W. (2007). Organizations: Rational, natural, and open systems. London: Englewood Cliffs. Sörbom, D. (2009). Advances in factor analysis and structural equation models. Cambridge, Cambridge University press. Stevenson, A. (2003). Problem solving networks in organizations: Intentional design and emergent structure. New York, NY: Dover. Uzzi, B. (2006). The sources and consequences of embeddedness for the economic performance of organizations: The network effect. American Sociological Review. Chicago, IL: University of Chicago Press. Read More