AFM 361 Lecture Notes - Competitive Equilibrium, Perfect Competition, Cogeneration
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Under "Mistake 1: Managing to the Income Statement," starting in about the fifth paragraph of that section, the Note talks about a metals refining firm that decided to bother its clients with calls reminding them to pay their bills on time, something they had never done in the past and something their sales people said "will drive customers to the competition." The Note states that it did cause sales to decline for the firm.
Which answer below best states the relevant working capital facts and analysis of how that change created a positive financial benefit?
CASE NOTE: The Jones Electrical case has facts about ways to create an overall positive financial benefit for the company through different management of working capital accounts. Look for a similar opportunity in that case as the one found in the metals refining firm of the Note.
a. The benefit was $112 million of new profit. The reduction in receivables was $115 million, and clearly outweighed the loss in sales from demanding faster payment, which was $3 million. | |
b. The benefit was $115 million of new profit. Reducing the days of receivables from 185 days to 45 days put the equivalent of $115 million in recovered capital back into the bank account of the company. | |
c. The benefit was $5 million a year of new profit, each year after that. The 45 days of receivables created $115 million less of the "accounts receivable" than did 185 days of receivables. That extra $115 million asset had been funded with money that cost $8 million a year, and the sales declined by only $3 million a year. |
QUESTION: Under "Mistake 3: Overemphasizing Quality in Production," starting in about the fourth paragraph of that section, the Note talks about an Italian food manufacturer that stopped "aging" some of its products in its inventory for 12 - 24 months to increase product quality. Management originally insisted the "aged" products were profitable and should be kept.
Which answer below best states the relevant working capital facts and analysis of how that change created a positive financial benefit?
CASE NOTE: Again, the Jones Electrical case has facts about ways to create an overall positive financial benefit for the company through different management of working capital accounts, like this company tried.
a. The sole effect was a one-time increase in cash. This occurred when the inventory that had been built up for 24 months was sold and no longer kept by the company. | |
b. Return on sales improved. Although quality dipped, the changes was imperceptible to customers, and thus the impact on margins was negligible. | |
c. Return on invested capital improved. The invested capital was the tens of millions of euros (the currency in Italy) that was tied up in working capital represented by the "aging" products that had to be held in inventory for 12 - 24 months. Those "aged" products did not have as good a return on that invested capital as other products did on their invested capital. |
QUESTION: Look at the example given under "Mistake 5: Applying Current and Quick Ratios" in the fourth paragraph of that section, of a French consumer goods company.
Which answer below best states the overall big picture of the mistake the company was making?
CASE NOTE: For the Jones Electrical case, you will need to summarize the overall picture of whether or not something that appears good,in ratios or other numbers, really is good from the perspective of working capital management. You will need to look at the effects good and bad working capital management can have in the long run for a company. Is Jones Electrical better off in the future? Look at their working capital issues, like the ones listed in these case analysis questions.
a. The higher current and quick ratios meant there was a large amount of capital tied up in receivables and inventory. The company's cost of invested capital could have been too high for the company to maintain those large amounts. That could be why they went bankrupt 6 months later. | |
b. The higher quick ratio meant the company did keep higher inventory levels, but there were not enough receivables to repay their loans in the event of distress to the company. That could be why they went bankrupt 6 months later. | |
c. The higher current ratio meant there were not enough receivables and inventory to repay their loans in the event of distress to the company. That could be why they went bankrupt 6 months later. |
You are proposing a new venture, to branch out into animals and cartoon characters but this will require some new equipment and a capital outlay. Pertinent financial information is given below.
BALANCE SHEET
Cash | 2,000,000 | Accounts Payable and Accruals | 18,000,000 |
Accounts Receivable | 28,000,000 | Notes Payable | 40,000,000 |
Inventories | 42,000,000 | Long-Term Debt | 60,000,000 |
Preferred Stock | 10,000,000 | ||
Net Fixed Assets | 133,000,000 | Common Equity | 77,000,000 |
Total Assets | 205,000,000 | Total Claims | 205,000,000 |
� Last year�s sales were $225,000,000.
� The company has 60,000 bonds with a 30-year life outstanding, with 15 years until maturity. The bonds carry a 10 percent annual coupon, and are currently selling for $874.78.
� You also have 100,000 shares of $100 par, 9% dividend perpetual preferred stock outstanding. The current market price is $90.00. Any new issues of preferred stock would incur a $3.00 per share flotation cost.
� The company has 10 million shares of common stock outstanding with a currently price of $14.00 per share. The stock exhibits a constant growth rate of 10 percent. The last dividend (D0) was $.80. New stock could be sold with 15% flotation costs.
� The risk-free rate is currently 6 percent, and the rate of return on the stock market as a whole is 14 percent. Your stock�s beta is 1.22.
� Stockholders require a risk premium of 5 percent above the return on the firms bonds.
� The firm expects to have additional retained earnings of $10 million in the coming year, and expects depreciation expenses of $35 million.
� Your firm does not use notes payable for long-term financing.
� The firm considers its current market value capital structure to be optimal, and wishes to maintain that structure. (Hint: Examine the market value of the firm�s capital structure, rather than its book value.)
� The firm is currently using its assets at capacity.
� The firm�s management requires a 2 percent adjustment to the cost of capital for risky projects.
� Your firm�s federal + state marginal tax rate is 40%.
� Your firm�s dividend payout ratio is 50 percent, and net profit margin was 8.89 percent.
� The firm has the following investment opportunities currently available in addition to the expansion you are proposing:
Project | Cost | IRR |
A | 10,000,000 | 20% |
B | 20,000,000 | 18% |
C | 15,000,000 | 14% |
D | 30,000,000 | 12% |
E | 25,000,000 | 10% |
Your expansion would consist of a new product introduction (You should label your venture as Project I, for �introduction�). You estimate that your product will have a six-year life span (after all how many people will really buy this stuff), and the equipment used to manufacture the project falls into the MACRS 5-year class. Your venture would require a capital investment of $15,000,000 in equipment, plus $2,000,000 in installation costs. The venture would also result in an increase in accounts receivable and inventories of $4,000,000. At the end of the six-year life span of the venture, you estimate that the equipment could be sold at a $4,000,000 salvage value.
Your venture, which management considers fairly risky, would increase fixed costs by a constant $1,000,000 per year, while the variable costs of the venture would equal 30 percent of revenues. You are projecting that revenues generated by the project would equal $5,000,000 in year 1, $10,000,000 in year 2, $14,000,000 in year 3, $16,000,000 in year 4, $12,000,000 in year 5, and $8,000,000 in year 6.
The following list of steps provides a structure that you should use in analyzing your new venture.
Note: Carry all final calculations to two decimal places.
Find the WACC:
1. Find the costs (rate of return under current market conditions) of the individual capital components:
a. long-term debt (Hint: PV=-$874.78, FV = $1000, PMT=$100, n=15 solve for i)
b. preferred stock
c. retained earnings (avg. of CAPM and bond yield + risk premium approaches)
d. new common stock
2. Compute the value of the long-term elements of the capital structure, and determine the target percentages for the optimal capital structure. (Carry weights to four decimal places. For example: 0.2973 or 29.73%)
Find the Cash Flow from the project:
3. Compute the Year 0 investment for Project I.
4. Compute the annual operating cash flows for years 1-6 of the project.
5. Compute the additional non-operating cash flow at the end of year 6.
Find alternative capital budgeting measures:
6. Compute the IRR and payback period for Project I.
7. Determine your firm�s cost of capital. (Hint this is the WACC plus an adjustment from the write up)
Make Some Decisions:
8. Compute the NPV for Project I. Should management adopt this project based on your analysis? Explain. Would your answer be different if the project were determined to be of average risk? Explain.
9. Indicate which of the other projects (A through E) should be accepted and why.
I have a essay written up already, the problem is that I submitted it and received a 62% return from turnitin, which is totally unacceptable. It must be below 20%. Is it possible for you to look over it, make any corrections or suggestions to re-submit it. The majority of the repetitiveness was from my intro paragraph and the definitions I used in the essay. Sent at 04:42 AM The essay is attach. I will need this by this evening if that's possible. thanks
Identify the type of corporate restricting that fits with common theories of what are assumed to be causes of mergers and acquisitions.
Corporate reconstructing is more often defined as re-designing organizationâs practice and structure; so to remain competitive and sustainable in the market (s). There may be several reasons for corporate restructuring. These includes, but not limited to, re-positioning in the market, discovery of a new market or becoming more profitable and/or economical. The corporate restructuring is generally classified into or two different categories: operational reconstructing and financial reconstructing. This entails changes in the alignment of firmâs asset structure by acquiring new business outright, by partial sale, by a spin-off of companies or via product lines. This can also include downsizing through closure of non-profitable units. Financial reconstructing deals with the changes in the capital structure of the firm. Share repurchase or adding debt in capital structure; just to name. Financial limiting hardly deals with mergers and acquisitions, hence we will discuss the cause of mergers and acquisitioning and how it is related to that the operational restructuring only.
Omit the chart in the question!
There are several types of Restructuring are given below:
A merger is a combination of two or more firms who combine all operations, officers, structure and other functions of business to form a new entity. Desired effect being not just the accumulation of assets and liabilities of the distinct entities, but also to achieve several other benefits such as: economics of scale, acquisition of new technologies and having access to new markets. Additionally, the merger allows for one company giving shareholders in the other stock in exchange for surrounding the stock of the first company. And it allow for the entities to retain its original identity.
Mergers can be classified into the following categories:
Horizontal Mergers
Two merged units were doing the same business i.e. TMobile and Sprint they were competitors with one another in the market. The basic motive in this type of merger is to consolidate in the market so as to gain advantage in negotiating with customers as well as having better position with respect to other competitors.
Vertical Mergers
This type of mergers is conducted between customer and suppliers of a value chain process and main motive in this type of merger is gain maximum efficiency in supply chain and minimization of transaction cost.
Congener Mergers
In this type of mergers, the two firms will be sharing similar kind of industry structure at least in one form of their operation and therefore try to combine operation in that one form and get efficiency benefit in supply chain and other operations.
Conglomerate
A conglomerate merger is a merger between two firms having unrelated business. The motive behind a conglomerate is a.) Better utilization of financial resources b.) Increase in debt capacity, c.) Increase in the share price by increased EPS with decreased cost capital d) Cross selling and e.) Synergy
Cash-out merger
In this type of merger the share of one unit involved in merger donât want to retain their share in the merged unit and therefore are compensated with cash in place of the share.
Acquisitions or take-over has said to have happened when the acquirer company buys out majority of the shares of the acquired company and the ownership of the assets and liabilities of the acquired company get transferred to the acquirer company. The process of acquisition or take-over may be conducted in both friendly and hostile manner depending upon the specific strategy of the acquirer.
Friendly takeover
In a friendly takeover, the targetâs board and management recommend shareholdersâ approval. To gain control, the acquiring company usually will offer a premium to the current stock price. The excess of the price over the targetâs premerger share price is called a purchase premium and can vary widely by country, which reflects the perceived value of obtaining a controlling interest in the target, the value of expected synergies resulting from combining the two entities and any overpayment of the target firm. Acquirers often prefer friendly takeovers because the post-merger integrations process in usually more expeditious when both parties are cooperating fully and customer, employee attrition is less.
Hostile takeover
A Hostile takeover occurs when the offer is unsolicited, the approach was contested by the targetâs management and control changed hands. The acquirer prefers hostile mode rove the friendly mode only when it becomes possible to acquire the shares in a friendly mode. The acquirer may attempt to circumvent management by offering to buy shares directly from the targets from the targetâs shareholders and buy shares in a public stock exchange. A hostile takeover can be accomplished through either a tender offer or a proxy fight.
The Pros to a merge and an acquisition is that both types of transactions include the potential increase in the competitiveness, cost-efficiency and stock value of the new enterprise. And with everything pro there has to be Cons. One disadvantage of these transactions; it could be very expensive. A significant amount of capital typically must be raided before entering negotiations. Another mergers drawback is that there is now a new owner, co-owners, in which they must now collaborate.
In conclusion any entity or entities that have chosen to merge or entering an acquisition should consider prior to move. Identify the goals of acquisition clearly, if the move is a good fit and what conditions must be met for the pursing the merge or the acquisition. An in-depth due diligence must occur; the financial records must be thoroughly examined, is the marketplace a profitable absolute, as well as the senior executives should also be conducted. There could be potential for disaster if all areas are not explored. Negotiation process is should have clear written rules and guidelines before following through with the merger or acquisition. Assembling an acquisition team can be very valuable to the success of the new owners. The team will be able to define the responsibilities of each company; considering all parties are in agreement with the new implementations such as computer systems, new HR policies and so forth. Lastly, be flexible and ready for unexpected surprises and have a supplemental plan in case of potential disasters.