Finance and Accounting Pacific Grove Spice Company - Example

Finance and Accounting Pacific Grove Spice Company Efficiency of the company’s operation to comply with the requirements of the bank The Pacific Grove Spice Company is in need of additional capital to expand the business operations but it has only option to raise the finance which is through debt financing. Arrangement of additional capital is the most important part of financial planning and operations. From the case study we can see that the bank has given a condition to the company and before it can raise additional finance the company needs to comply with the conditions of the bank. If the company is able to meet the requirements of the bank then only the bank will grant any further credit or loan to the company. According to the bank the Pacific Grove Spice Company has $37 million debt and it needs to reduce the debt total assets ratio to 55%. It also needs to reduce the equity multiplier by 2.7 times. If Pacific Grove Spice Company is unable to reduce the inter4est bearing debt and the equity multiplier then the bank will provide any additional loan to the company. Now we need to consider that the business of the company has increased over the years and its assets and profits have also grown over the time period. Particulars From 2007- 2011 From 2010 to 2011   Growth rate of assets 62.35% 18.38%   Particulars (currency in million of US dollars) 2007 2010 2011 Total Assets 36.722 50.365 59.62 The total asset of the company has increased from $36.722 million in the year 2007 to $59.620 million by the year 2011. The growth rate of assets is 62.35% from 2007 to 2011 and the growth rate of assets is 18.38% from 2010 to 2011. Particulars (currency in million of US dollars) 2007 2011 Net Profit 46.18 80.94 Particulars From 2007- 2011   Growth rate of net profit 75.27%   The net profit of the company has also increased from $46.180 million in the year 2007 to $80.940 million by the year 2011. The growth rate of net profit is 75.27% from 2007- 2011. This statement of increased profit and total assets has shown that the business of the Pacific Grove Spice Company is going profitably and the company was able to expand its business operations. From the above growth rates it can be seen that the company is efficient and it is growing by earning profit on the total capital employed. Particulars (currency in million of US dollars) 2007 2010 2011 Long term Debt (interest bearing) 14.6 18.606 22.247 Particulars From 2007- 2011 From 2010 to 2011   Growth rate of interest bearing long term debt 52.38% 19.57%   But the bank with which the company is doing its business expects that the company will reduce its excess interest bearing debt for the company. From the above table we can see that the long term interest bearing debt of the company has grown by 52.38% from 2007-2011 and by 19.57% from 2010-2011. It clearly shows that in spite of good profitability the company has huge interest bearing long term debt. The company needs to lower the debt to total assets ratio in order to get additional loan from the bank. The bank has given the condition because then current market situation is not good as it was before in 2007 when the bank has granted the loans. The financial recession has affected the business of the financial institutions and banks by increasing their risks in the current market situation. Thus the bank is more cautious now about the operations of the company. This is the main reason for which the bank has instructed the company to reduce the two ratios. According to the forecasted financial statements it can be said that the company will be able to easily achieve the targets that have been set by the bank. Should Pacific produce and sponsor the new television program Pacific Grove Spice Company is in need of additional finance which will be used to support their expansion of the business. In current time, the financing for the company is done by a bank which is concerned about the higher interest bearing debt to total asset ratio in the balance sheet of the company. Thus top get additional funding the company is consulting with cable cooking network to create and sponsor a television show which will boost the sales growth by 5%. If we consider the option, then at first it might be lucrative for the company as it will increase they profit, cash flow and sales of the company but it will also increase they working capital of the co0mpany the particular project will earn negative cash flow for two years. The company needs an amount of $2573118 in the initial phase to start the project before it can earn any positive cash flow. When we consider the internal rate of return (IRR) and NPV of the project then it can be seen that these are positive at 41.28% and the option seems to be a good option for investment purpose. But from the exhibit 3, it can be seen that cash flow it can be seen that the financial leverage of the company is not sufficient to decrease the ratios. . If we add the NPV of that particular project with the net profit of the company then we can see there is a minimum change in the financial leverage of the company. There is higher risk involved in the project of TV program. Thus the TV program will be a flop program. Although the TV program will increase the return of the company but it will not able to meet the financial needs which the company will need to meet the criteria of the bank. Thus the company should not invest in the TV program. Should Pacific issue new common stock to the external investment group The Pacific Grove Spice Company has another option by which it can raise additional; finance to expansion the growth of the business and to reduce the equity multiplier and the debt of the company. The company can sell new shares in the stock exchange through which the company will be able to raise more funds. The shares of the company are traded on NASDAQ stock exchange and the current price per share is $32.60. The owners of the company have 25% of the total stock and the Peterson has 7% of the total stock. Apart from this there is an investment company which wants to purchase 400000 shares of Pacific and from the exhibit 1 it can be seen that the common outstanding is 1165327. Among the 1165327 shares the investment company 400000 shares. If the company sell the shares to the investment company then at a time it will be able to earn 400000*32.60 = $13040000. Although it seems like a good option to raise finance but we need to consider that by selling this amount of shares the company will lose its ownership to the investment company. But the option will reduce the interest bearing debt of the company. Thus the company should consider every aspect before taking into account the investment option for raising finance. Should Pacific acquire High Country Seasoning The Pacific company has another option to raise finance by acquiring the High Country Seasonings Company. The company is situated in Colorado and it was founded in the year 1991. It was started as local company but then it has grown into a large business which is spread over various regions. The actual owners of the company are not willing to have the ownership of the company anymore and they want to sell the total ownership. Negotiations of the deal have taken place between Pacific and High Country Seasonings Company and it was decided that High Country seasonings Company needs to have $13.2 million in exchange of the common shares of the company. The owners of the company are willing to have 404908 stocks of the Pacific at a rate of $32.30 per share. Thus if we calculate then we can see that by undertaking this deal the Pacific company will get 404908*32.60 = $13200000.8. Analysis of High Country Seasoning 2008 2009 2010 2011 Current Ratio 3.24 3.24 3.24 3.24 Gross Profit Margin 35.80 35.40 35.60 35.50 Net Profit Margin 5.20 4.63 4.63 2.28 Return on Equity 17.47 16.08 16.82 8.75 But we need to analyze the financial position and profitability of the company. From the above table we can see that the current ratio of the 3.24 and it is same for the years 2008-2011. It shows that company has enough liquidity to fund any certain liquidity crisis. The gross profit has slightly declined from 2008 to 2009 but then it has again increased in the year 2010 and 2011. But the net profit has decreased over the years and it indicates the net profit of the company has declined over the years. Thus the profitability position of the company is not very good. The return on equity has also declined over the years and in the year 2011 it has declined drastically. It indicates that the managers of the company are not efficient enough to generate over the equities of the company. Thus in this case it will be a riskier position for Pacific Grove Spice Company to acquire the High Country Seasoning. Recommendation for the company and compare each option for the company and write the cons and pros for each one Recommendation:- From the above study it can be said that the company has four options to raise finance for the further expansion of the business. From the above it can be seen that the growth rate of assets and net profit has increased and along with this growth rate of interest bearing long term debt. Thus the advantages and disadvantages of bank loans are that to get a bank loan the company needs to reduce the long term debt levels but the bank loan will be safest among other options. Now if consider the TV program then we can see that the advantage of TV program is that the company doesn’t need to reduce the debt levels but the disadvantage is that it is a very riskier program as because the project might fail. If we consider issues of 400000 of common stock to the investment company then we can see that the advantage is that it will reduce the burden of debt of the company but the disadvantage is that the investment company will interfere in the managerial decisions of the Pacific Grove Spice Company. The last option is to acquire the High Country Seasonings. The advantages of this options are that the company will get the 100% ownership of the High Country Seasoning Company and it will get huge of funds through selling the common stock. But the disadvantages are that from the above table we can see that the profitability position and the return on equity of the company is not good. Thus it will be a riskier decision to acquire such company as it may act on the profitability of the Pacific Grove Spice Company. Read More