Smiles Limiteds Funding Requirements - Example

1300 Smiles Limited – Lending Submission Prepared by: Date: 25th May 2013 Background Detail Borrower: 1300 smiles Limited ABN 91 094 508 166 Address : Ground Floor 105 Denham Street Townsville QLD 4810 Directors: Director Number of ordinary shares Options to acquire 1. Robert Jones 32,606 Nil 2. Dr. Daryl Holmes 14,711,729 Nil 3. William Bass 16,200 Nil Top 5 shareholders (%) Name Percentage 1. Dr. Daryl Holmes 59.84% 2. JP Morgan Nom Aust Limited 4.51% 3. Evelin Inv PL 4.14% 4. National Nom LTD 2.55% 5. Krdithaus Pty ltd 2.39% A brief overview of the facts of the deal Currently, 1300 Smiles limited have their bank accounts with I& You bank Australia. They have however expressed their willingness to transfer their business affairs/ business to Excel Bank. They have repaid their borrowings that were held with I& You bank Australia from their existing cash flows. Due to their ongoing growth plans, 1300 Smiles Limited have requested Excel Bank to provide them with $6 million for purchase of new dental equipment , purchase of new offices as well as financing capital for its ongoing operations. 1300 Smiles Limited desires to move their banking and lending facilities to excel bank since the bank has developed a reputation for outstanding customer service as well as expertise in the banking industry. The details for 1300 Smiles Limited’s funding requirements are outlined below; Facility Fixed Term Business Loan Purpose: Purchase of new dental equipment Amount: $4 million Term 5 Years Interest rate: 8% Facility Fixed Term Business Loan Purpose: Purchase of new offices Amount: $1 million Term: 5 years Interest rate: 8% Facility 2 Overdraft facility Purpose: Working capital to finance current operations and cash flow management Amount: $1 million Term: 5 years Interest rate: 8 % Note that the above facilities are required immediately Overview of the borrower 1300smiles limited was founded by Daryl Holmes who is its managing director and has been registered on Australia’s stock exchange since 2005. The company owns and operates full services dental facilities in 24 locations that are mainly found in Queensland regional areas. The company offers self employed dentists with opportunity of focusing on delivering dental services as opposed to being involved in administration of their clinics. In return, the dentists pay 60% of the over the counter payments made by patients in for using 1300 Smiles facilities as well as services. In addition, the company has employed its own dentists though without long-term contractual agreements. Despite this, there is no high turnover rate while most of its costs include property, staff as well as the general operation of its facilities. 1300 Smiles limited operates in a highly fragmented but competitive market. it controls 1% of the $ 9 billion market while its major competitor , the Bupa-Owned Dental corporation having 6% of the market share. Other competitors include Pacific Smiles and dental Corp. It should however be noted that the Queensland region where 1300 Smiles Limited operates has more opportunities. It is worth noting that the company had a net cash position of $ 6 million in 2012 which has grown to a net operating cash flow of $10 million in 2013. This implies a strong cash position for continued growth. The company has a strong management team that has always pursued growth. The current requirements for $6 million are to finance its growth strategy by procuring new dental services equipment as well as a new office block to enable it offer better services to its customers. As stated above, the dental industry is highly fragmented where over 60% of dentists operate in the private sector. 1300 Smiles has thus distinguished itself from similar companies through its disciplined approach of acquiring practices with low debt levels. This is a key driver to its sustainable growth with the management developing a track record of integration and growth practices that are predominantly located in high growth areas. Industry analysis Based on IBIS world report, the Australia’s dental services industry is a significant one valued at $9 billion and expected to grow at 3.1% from the year 2014 to the year 2017. From the year 2009 to the year 2013, the industry grew at the rate of 2.7%. The projected growth is mainly expected to result from increased demand from consumers as well as increases in service prices. Industry surveys however, term affordability as a major impediment for households using dental services with over 70% of the population not visiting any dentist annually. The industry’s key drivers for growth include government policies on funding of dental services, the age of the general population especially on the number of individuals between the ages of 50 years and above as well as young children. The real household income of the population is also a key growth driver for the industry. In addition, access and demand for health insurance as well as dentists per capita greatly influence growth in the industry. The dental industry as indicated above is highly fragmented but also competitive. It is estimated that there are more than 11,000 registered dentists with over 60% of them working privately in 6,500 dental practices spread all over Australia. The industry is indeed a cottage one with most participants being self employed or employed in private practices. Competition in the industry is mainly on the basis of the fees, practitioners’ reputation, location and range of services offered. In addition, most patients tend to be loyal to specific dentists. The industry’s competition is also ruled by the forces of demand and supply where areas of big populations have many practices. Competition in the industry is mainly between private and public practitioners with largest players being consolidators such as 1300 Smiles limited as well as public dental services. Major competitors in the sector include the Dental corp. with 6% market share, Pacific smiles with 1%, Dental partners with 2%, 1300 Smiles with 1% the public health sector with 21% market share while the private practice control the rest of the market. It is worth noting that the number of dentists entering the Australian market is on the rise and this may contribute to oversupply of dentists. In addition, changing on the government policy on dental funding may result in increased competition in the industry which may affect profitability in the sector. Financial analysis Appendix 1 to 3 attached below shows the analysis of the company’s financial performance indicators. It has been demonstrated that all of the company’s financial indicators are strong and continuing to improve. The company’s current ratio indicated a strong short term liquidity position for the company. 1300 Smiles limited has a strong cash position as well as a debtor position amounting to $795,000 in 2013. The company’s shareholder funds amount to $27,952,000 which is an improvement from the 2012 position. The strong position is also indicated by the extremely low gearing ratio at 2.29% in 2013. It should also be noted that the company ahs repaid all the facilities it held with I& you bank Australia which is an indication of the company to repay its financial obligations. As such, the company has the ability to repay the facility it is requesting for. The company’s profitability is also sound and stable. The company’s net income for instance increased from $6.175 million to $6.367 million in 2013. All of the company’s profitability, solvency and liquidity indicators have been noted to improve in 2013 as shown in the appendices. In addition, most of the company’s assets are fixed assets thus alleviating the risk that would be posed on its solvency position should the revenue generation slow down. In essence, all of the company’s financial indicators including the analysis of the company’s ability to pay indicate a strong first way out for 1300 Smiles Limited. Based on the company’s first way out therefore, I would recommend that the facility be extended. Key Strengths and weaknesses regarding the deal Key strengths Presence of a strong first way out for the company- based on the financial analysis, it has been established that the company has a strong first way out. The strong first way out is backed by the company’s past profitability, its current cash balances. The fact that it has no current loans after repaying its facilities with I& You bank is an indication of its first way out’s strength. A strong second way out – based on Appendix 1, the second way out has been found sufficiently strong to cover the entire loan amount. Bearing in mind that the second way out is only utilized after the first way out has been exhausted, it is my opinion that the second way out is sufficiently strong The company has repaid all its current obligations with the previous bank. Also, the company has been declaring dividends as a result of its high profitability levels. This coupled with its strong balance sheet adds to its strength. As indicated above, the company’s operations are all located in high growth areas of Queensland. This implies that there is an all year round demand that may exceed supply at times. This means that the company’s revenue, profitability and hence the cash flows with which to repay the debt will most likely be strong throughout the facility period. Owing to increasing number of dentists in the country, the company aims to continue on a growth path by increasing its facility locations as well as by equipping them with most modern equipments. This implies that its profitability is likely to continue on an upward trend which would be good if the facility is extended as the company’s ability to repay would be assured. Weaknesses and their mitigating factors The company’s ability to repay is threatened by increasing competition especially bearing in mind that its revenue is heavily reliant on one source. This implies that revenue and hence ability to repay may be threatened. Mitigation: the company has such an ambitious growth plan mainly based on establishing facilities in high growth areas in a bid to ensure revenues remain high throughout. In addition, there would be need to take advantage of the increasing dentist numbers to establish more facilities in a bid to boost revenue. The modernization of its facilities can only mean improved quality of service and hence increased revenue. There has been a change in government’s policy especially as regards funding for dental health related issues. The uncertainty is increased by the fact that 2013 is an election year thus creating regulatory uncertainty. Mitigation: 1300 Smiles Limited is a company with strong sustainable business that has attractive locations and innovations such as its membership program as well as its interest free payment solutions. In addition, establishing contracts with government related institutions is all intended to overcome this uncertainty by ensuring continued business. Loss and inability to recruit productive dentists Mitigation: Undertaking aggressive marketing and offering more competitive terms to the dentists can serve to alleviate this risk. . The threat of reducing patient numbers including reducing value per patient that is a great threat to revenues and hence the company’s ability to repay the facility if extended. Mitigation: there has been increasing desire within the population especially among children and those aged above 50 years to retain their natural teeth. In addition, there is increasing awareness on the need to maintain good dental health in the population. This implies that demand for services is likely to continue on the rise hence assuring the company of the much needed revenue. Recommendations: The company has requested for $6,000,000 from excel bank that it is willing to repay within five years. These facilities are to be used for financing the acquisition of new dental machine, purchase new offices as well as an overdraft facility for cash flow and operations financing. The loan if granted will be helpful in strengthening the company’s service quality and hence its revenue base and despite its weakening its gearing ratio, the loan will help the company become better financially hence making it a better customer in future. It is expected that the loan together with its current obligations can generate sufficient cash flows for meeting the resultant financial obligation. Based on the review of both its first and second way out, the company is in a strong position to repay the facilities if extended. The company’s exceptionally good reputation in the dental industry, its strong balance sheet and the improving revenues serve to support this position. Based on this, the bank should immediately accept the company as a customer. It is therefore my recommendation that based on my findings that both the first way out and the second way out for the company are relatively strong, Excel bank immediately extends the requested facility of $6 million to 1300 Smiles company limited. Appendix 1: Safe Lending Margin Item Amount Extended at Safe lending margin $000s $000 Cash 8,051 0% 0 Debtors 795 50% 397,500 Plant and Equipment 15,747 40% 6,298,800 Other 233 0% 0 Loans receivable 1,827 0% 0 Investments accounted 333 40% 133,200 for using the equity method Intangible Assets 13,314 0% 0 Deferred tax assets 546 0% 0 Total SLM 6,829,500 In computing the safe lending margin, the above information was obtained from the books of 1300 Smiles Limited. NB// it was found unnecessary to allocate any value for cash as it is not held in a term deposit and hence it can not be used as a security. It was found necessary to increase the value of Property, plant and equipment due to the planned acquisition of new dental equipment was increased by $7 million owing to the planned acquisition of offices and new dental equipment. The safe lending margin of $6,829,500 is above the facility requested by 1300 Smiles Limited of $6 million. This implies that the second way out is sufficient. Appendix: 2 Comparative statement of financial position 2013 2012 Assets Current assets Cash and cash equivalents Trade receivables Other Total current assets Non Current assets Loans receivable Investments accounted for using the equity method Property, plant and equipment Intangible assets Deferred tax assets Other Total non- Current assets Total assets Liabilities Current Liabilities Trade and other payables Borrowings Current tax liability Provisions Other Liabilities Total current liabilities Non-current liabilities Provisions Other liabilities Total non current liabilities Total liabilities Net Assets Equity Contributed Equity Retained profits Total equity 8,051 795 202 9,048 1,827 333 8,747 13,314 546 31 24,798 33,846 4,178 - 886 36 154 5,254 290 350 640 5,894 27,952 15,501 12,451 27,952 13,741 356 382 14,209 1,702 - 9,690 12,251 635 32 24,310 38,519 4,166 7,500 519 39 25 12,249 257 - 257 12,506 26,013 15,370 10,643 26,013 Statement of changes in Equity Contributed Equity $000 Retained profits $000 Total equity $000 Consolidated balance as at 1st July 2012 Profit after tax Total comprehensive income Transaction with owners Deferred tax benefits Dividends paid Balance as at 30th June 2013 15,370 131 15,501 10,643 6,367 6,367 - - (4,559) 12,451 26,013 6,367 6,367 - 131 (4,559) 27,952 Ratio analysis Ratio 2013 2012 Fixed assets/Shareholders funds Shareholders funds /total assets Shareholder funds/Outside liabilities Gearing Current Assets /Current Liabilities Current assets less stock/current liabilities less overdraft 88.72% 82.59% 474% 2.29% 172.21% N/A 94.45% 67.53% 212% 0.99% 116% N/A Owing to the fact that there was no stock and overdraft, the current assets less stock/ Current liabilities less overdraft ratio could not be computed. Fixed assets/ Shareholders funds – the company’s fixed assets/shareholders funds ratio slightly declined from 94.5% in 2012 to 88.72% in 2013. This decline is associated with an increase with shareholders funds and is healthy for the company as it implies that most of the company’s assets have been financed through shareholders funds. Shareholders funds/total assets- This ratio greatly improved from 67.53% in 2012 to 82.59% in 2013 owing to the increase in shareholders funds in 2013. This is a good sign for the company since it minimizes risks associated with most assets being financed through debt. Shareholders funds/outside liabilities –this ratio greatly increased from 212% in 2012 to 474% in 2013, the increase is associated with the great decline in the company’s liabilities which is a good sign as the risk of takeover as a result of not being able to meet financial obligations is greatly minimized. Gearing – the company’s gearing is very low at 0.99%in 2012 and 2.29% in 2013. The slight increase is associated with an increase in the level of long-term liabilities in 2013. However, the low level of gearing ratio is desirable for the company as it shows the company is under no risk posed by accumulation of long-term debts. Current ratio – the ratio increased from 116% in 2012 to 172.21% in 2013. The increase resulted from the decline in the company’s current liabilities. This is healthy for the company as it shows the company’s operations are under reduced risk that would arise from being unable to pay its current obligations. Statement of comprehensive income 2013 $000 2012 $000 Revenue Other income Expenses Consumables, lab fees and other supplies Employee benefits expense Depreciation and amortization expense Property expenses Operating expenses Corporate and administrative expenses Share of net profit of joint venture Profit before income tax expense Income tax expense Profit after tax 36,183 5 (5,284) 15,044 (2,120) (2,207) (302) (106) (27,250) 3 8,491 (2,574,) 6,367 36,661 6 (5,361) 16,055 (1,772) (1,730) (381) (498) (27,907) - 8,760 (2,585) 6,175 Ratio Analysis 2013 2012 Gross profit/Sales Operating expenses/ Sales Net profit before tax/Sales Net profit/sales Trade debtors/Average daily sales Trade creditors/Ave. daily cost of sales Stock turnover Basic earnings per share Diluted earnings per share No. of shares 85.40% 75.311% 23.47% 17.60% 8.02 288.54 N/A 26.9 26.9 23,678,384 85.38% 76.12% 23.89% 16.84% 3.55 284.37 N/A 26.6 26.6 23,678,634 The company’s gross margin was relatively the same during the two years at 85.38% in 2012 and 85.40% in 2013. The slight change resulted from the slight increase in the company’s sales. This level is desirable for the company as it shows ability to generate profits is stable. Operating margin – the ratio declined slightly from 76.12% in 2012 to 75.31% in 2013. The decline resulted from a slight increase in the company’s operating expenses. Net profit margin –increased slightly in 2013 to 17.60% from 16.84% in 2012. This resulted from a decline in the taxes and is healthy for the company as it shows increased ability for the company to generate profits. Trade debtors/average daily sales –the ratio increased to 8.02 in 2013 from 3.55 in 2012. This resulted from an increase in the company’s debtors. Trade creditors/average daily cost of sales –the ratio s is almost stagnant at 284.37 in 2012 to 288.54 in 2013. The company’s earnings per share increased slightly from 26.6 cents in 2012 to 26.9% in 2013. This resulted from a slight increase in net income in 2013. This is a sign of the company’s good financial health. Short term Liquidity As stated above, the company showed an improvement in its current ratio and hence short-term liquidity. The company has $795,000 in debtors as well as $8,051,000 cash while its shareholders funds stood at $27,952,000 that included $12,451,000 in form of retained earnings. The company’s low gearing ratio of 2.29% is desirable. It should also be noted that the company has already repaid all its current loan facility with I& You bank further showing that the company has the ability to meet its financial obligations. Profitability The profitability ratios calculated above shows that the company’s profitability is improving. For instance, the company’s performance for 2013 was better than that of 2012. This is shown by the company’s net income having increased from $6.175 million in 2012 to $6.367 million in 2013. Long-term Solvency Generally, there is an improvement in the company’s long-term solvency as indicated by the solvency ratios. This is further strengthened by the fact that the company’s net income increased and is also supported by the company’s strong current liquidity indictors. Note that the bulk of the company’s net assets is in the form of fixed assets indicating that there is little risk on the company’s solvency position that would arise in case revenue by the company slightly slowed down. Apendix3: Projected cash flow The company did not provide a projected cash flow statement. As such, the customer’s ability to repay was calculated as shown below; Customer’s ability to pay calculation = EBIT –Interest-Tax- Principal = Surplus =$8,491,000-2,574,000-6,000,000 =$367,000 From the above calculation, it is clear that the company can be able to repay the principle amount borrowed while still remaining with $367,000. Read More