Corporate Finance (Theory and Practice) CASE 1: Jones Electrical Distribution

Vikas Khandelwal (2011D39) Tejasvi Vijayaraghavan (2011D40) Pranay jain (2011D41) Taha Lanewala (2011D46) Vikas Gupta (2011D49)

Jones Electrical distribution CASE

Jones Electrical Distribution is involved in wholesales of electrical devices and appliances. Even though Jones Electrical has been profitable, they have noticed a shortage of cash when attempting to take advantage of trade discounts. Their current bank is unable to extend financing over $250,000, and Jones believes they will need considerably more to finance their operations. Even in an extremely competitive market environment the business has been able to show profits (competing on the basis of competitive pricing, effective inventory management, and aggressive sales force). But its ineffective collections policy has drained the companys cash leaving it in need of additional financing. In order to afford to continue taking advantage of trade discounts Jones Electrical Distribution needs to tighten its cash collection procedures. PROBLEM STATEMENT What is the right long term growth plan of the company? Should the company avail the increased line of credit from the new bank at the floating rate of interest or stick to Metropolitan Bank? If yes, should they avail the trade discount from the suppliers at the 2%? or pay the suppliers a little after due date?

To evaluate the case we will forecast the 2007 financial statement of the company with and without trade discount. We assume that sales of the company increases to 2.7 million. In case of no growth the financial statements will not have much effect so we dont forecast.

Income Statement
Profit and Loss Account Q1 Q1 2006 2006 2007 2242 514 608 1818 499 424 109 347 94 31 8 46 7 16 2 30 4 5

2004 2005 Net Sales COGS Gross Profit Operating Expenses Interest Expenses Net Income before taxes Provision for Income Taxes Net Income 1624 1916 1304 1535 320 381 272 307 27 30 21 44 7 15 14 29

2007 E 2700 2189 511 418 37 55 19 36

2007 E (with trade discount) 2700 2145.596789 554 418 37 99 34 65

Balance sheet
2004 2005 2006 Cash Accounts Receivable Inventory Total Current Assets Property and Equipment Accumulated Depreciation Total PP&E Total Assets Accounts Payable Line of Credit Payable Accrued Expenses Long Term Debt, Current Position Current Liabilities Long term debt Total Liabilities Net Worth Total Liabilities and Net Worth 45 187 243 475 187 -74 113 588 36 149 13 24 222 182 404 184 588 53 231 278 562 202 -99 103 665 42 214 14 24 294 158 452 213 665 23 264 379 666 252 -134 118 784 120 249 14 24 407 134 541 243 784 2007 E(with trade discount) 2007 E

32 32 317.9304193 317.9304193 429.1193577 437.8768956 779.049777 787.8073149 303.4790366 303.4790366 -173.4522748 173.4522748 130.0267618 130.0267618 909.0765388 917.8340767 58.78347366 179.9494092 395 310 14 14 24 24 491.7834737 527.9494092 110 110 601.7834737 637.9494092 308 909 279 917

Cash flow statement

Cash Flow Statement PAT Depreciation Increase in Account Receivable Increase in Inventory Increase in Accounts payable Increase in Lines of Credit Increase in Accrued Expenses Debt Repaid Investment in Fixed Asset Change in Cash Balance 2005 2006 29 30 25 35 -44 -33 -35 -101 6 78 65 35 1 0 0 0 -24 -24 -15 -50 8 -30

CFO CFI

Ratio Analysis
Ratio Analysis 2004 Current Ratio 2.14 Quick Ratio 1.05 Inventory Turnover 5.37 Days Of Inventory 68.02 Days Sales Outstanding 42.03 Days Payables 10.08 Fixed Asset Tunover Ratio 14.37 ROA 2.38% ROE 7.61% Cash Conversion Cycle 99.97

CFO

2005 1.91 0.97 5.52 66.10 44.01 9.99 18.60 4.36% 13.62% 100.12

2006 1.64 0.71 4.80 76.09 42.98 24.5 19.00 3.83% 12.35% 95

Conclusions
Inventory turnover ratio for 2005 is (1535/278=5.89) and for 2006 is (1818/379=4.8). It shows that Jones has been overconfident in their predictions. Increasing the inventory is a reason that the company is facing cash money shortage. All of these have dramatically increased days payable outstanding.

In past history Jones took advantage of a 2% discount if supplies were fully paid off ten days upon purchase. With the growth of business and the decrease in Cash Flows, payments for supplies exceed the discount period. The discount that is disregarded only increases the accounts payable and further decreases cash flow. In 2006 Metropolitan Branch Bank issued a loan of $250,000 to Jones in order to finance its growth in sales. Heavy credit dependency on suppliers will continue to draw request for larger loans and Jones must keep its line of credit at a lower rate to increase cash flows. The risk in issuing a $350,000 loan with a company of Jones size could be decreased in hope of creating a long term relationship. Also, the company has lowered the Cash Conversion Cycle from 100.12 days (during 2005) to 95 days(during 2006) thus by increasing the days payable the company can reduce the c2c cycle.

We observe that with trade discount the companys line of credit has to increased its line of credit to $395 assuming it has year ending cash balance of$ 32 and without cash discount the company needs to maintain a line of credit of $ 310. We know that the company can get a maximum line of credit of $350, thus the option of trade discount is not feasible.

One area that we feel that the company could improve in is in its purchasing of inventory. There seems to be a huge influx of additions to its inventory, and based on the decrease in its inventory turnover ratio, the increase of inventory seems to be a bit unnecessary. Looking at the financial statements we feel that the company could improve your cash flows by buying the appropriate amount of inventory. Although the company is expected to continually grow, we feel that if the company purchased inventory in proportion to the growth that the company expects, it would improve its inventory turnover rate. Doing this would help it be more profitable.

Another area of concern for the company is its collections policy. We feel that if it enforced a
more strict collections policy it would improve other areas of its finances. By the looks of it, it appears that the lack of enforcement has deducted the companys available cash which has forced an inhibition of payment during the discount period on its credit line. We feel that it needs to take the necessary steps to collect its Accounts Receivables in a timely manner, so that it may take advantage of the discount period.