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TABLE OF CONTENT

1.0 Company Profile

2.0 Problem Statement

3.0 Analysis on Different Strategies

3.1 Zero Dividend Payout 4

3.2 Below 40% Dividend Payout 5

3.3 40% Dividend Payout 5

3.4 Residual - Dividend Payout 6

3.5 Corporate Rebranding 6

3.6 Share Buy Back 7

4.0 Recommendation

5.0 Appendices
1.0 Company Profile of Gainesboro Machine Tools Corporation
James Gaines and David Scarboro founded Gainesboro Corporation
in the year 1923 focusing their business on designing and
manufacturing machine parts. By 1975, the company had
developed a reputation as an innovative producer of industrial
machinery and machine tools, which made Gainesboro stood out
as an industry leader as press and mold companies were mostly
small local or regional firms with limited clientele.

In the early 1980s, Gainesboro ventured into a new field;


computer-aided design and computer aided manufacturing (CAD/
CAM). Gainesboro worked with a small software company and
developed manufacturing metal parts by responding to computer
commands. Several years later, Gainesboro merged the software
company into its operations and perfected the CAM equipment
while developing a superior line of CAD software and equipment. In
the CAD/ CAM industry, large firms like Autodesk, Inc., Cadence
Design, and Synopsys, Inc. sets the standard for CAD/CAM. In the
late 1990s and early 2000s, the technological advances and
aggressive venture capitalism fueled the entry of highly
specialized, cutting edge CAD/ CAM firms. From there, Gainesboro
fell behind some of its competition in the development of user-
friendly software and the integration of design and manufacturing.
As a result, revenues slipped from a high of $911 million in 1998 to
$757 million in 2004.

Gainesboro took two separate approach to tackle the


declination of revenues and to improve the weak margins:
a) Devoted a greater share of its research and
development budget to CAD/CAM in an effort to re-establish
its leadership in the field
b) The company also went for two massive
restructurings:
i) In 2002, the company sold two
unprofitable lines of business with revenues of $51
million, sold two plants, eliminated five leased

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facilities and reduced personnel. Restructuring cost
totaled $65 million.
ii) In 2004, the company took second round
of restructuring by altering its manufacturing
strategy, refocusing its sales and marketing approach
and adopting administrative procedures that allowed
for further reduction in staff and facilities. Total cost
of the operational restructuring in 2004 was $89
million.
iii) These two restructuring produced losses
totalling $202 million in 2002 and 2004 but by 2005,
the restructurings and emphasis on CAD/ CAM
research which made the company leaner, and
research also led to the development of a system that
Gainesboros management believed would redefine
the industry.

Gainesboro introduced a new system known as the Artificial


Workforce, an array of advanced control hardware, software, and
applications that could distribute information throughout a plant.
Applications of the products was developed for chemical industries
and oil and gas industries in 2004 and in the next year, it had
created applications for the trucking, automobile parts and airline
industries. By October 2004, the first Artificial Workforce was
shipped and Gainesboro orders was totaling $75 million. By year
end, backlog was $100 million.

Securities analysts were optimistic about the products


impact on the company and viewed that the Artificial Workforce
will enable Gainesboro to increase its share market (ignoring the
periodic growth spurts) will expand to annual rate of 5% over the
next several years and when production is in full swing, it will help
restore margins.

Gainesboro management expect domestic revenues from


Artificial Workforce series to total $90 million in 2005 and $150

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million in 2006. International sales through Gainesboros existing
offices were expected to provide additional revenues of $150
million by early 2007. Currently, the international sales accounted
for approximately 15% of total corporate revenues.

A number of corporate objectives had grown out of the


restructurings and recent technological advances. The
management wanted and expected the firms to grow at an
average annual compound rate of 15 percent.

Gainesboros Director of Investors Relations, Cathy Williams,


concluded that investors misperceived the prospects of the firm
and its current name was more consistent to its historical product
mix and markets than those projected for the future. After
conducting surveys in financial magazines, a program of
corporate-image advertising targeting on guiding the opinions of
institutional and individual investors was recommended to
enhance the firms visibility and image. A new name had been
identified, Gainesboro Advance Systems International, Inc. with
advertising campaign and name change costing to approximately
$10 million.

With the recent impact of Hurricane Katrina, causes untold


destruction across the southeastern United States. After the storm,
the stock market spiraled downward and Gainesboros stock had
fallen 18 percent, to $22.15.

2.0 Problem Statement


Some of the present challenges that the company faced is
regarding its corporate goals and the growth of the company on
how the companys production should be structured, international
expansion plans and planned acquisitions. Additional to the
Hurricane Katrina causing Gainesboros stock to drop, the Chief
Financial Officer Gainesboro is required to submit a

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recommendation to Gainesboros Board of Directors regarding the
companys dividend policy, a subject of an ongoing debate among
the firms senior managers. Large number of companies had
announced plans to buy back stock, while some want to signal
confidence of their companies and the U.S. financial markets.
Swenson has dividend-decision problem which compounded by the
dilemma of whether the company should use companys funds to
pay shareholders dividends or to buy back stock.

3.0 Analysis of Different Strategies


In this section, analysis of the strategies and its implication are
discussed. Advantage and disadvantage of the strategies are
presented together with the supportive calculations which are
applicable.

As for the dividend payout, we have calculated the Debt By Equity


Ratios in Appendix 1.

Payout Ratio 2005 2006 2007 2008 2009 2010 2011

0% 34% 33% 30% 28% 25% 23% 21%

20% 36% 37% 36% 33% 30% 27% 25%

40% 37% 41% 43% 43% 41% 40% 36%

Table 1.0: Debt by Equity Ratio

3.1 Zero-Dividend Payout

A zero-dividend payout will be financially favourable strategies for


the company as no external funds need to be borrowed to payout
dividends. Moreover, existing cash can be invested to fund new
projects. However, the future growth of the company is uncertain
and depends heavily on the market to react favourably. After a few
years however, company still have to pay dividends to the
shareholders and every year thereafter. In the circumstances if the
company fail to get growth and income to company portfolio the
shareholders or investor confidence will be jeopardized.

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Advantages:

1. As per the company strategy


2. Coincides with high-growth and advance technology firms
3. No debt

Disadvantages:

1. Board of director will not meet their commitment to the shareholder


2. Investor who are looking for stable investment will not be happy

3.2 Below 40% Dividend Payout i.e. 20% Dividend Payout


This strategies will imply debt burden to the company but not as
high as the 40% dividend payout. However this strategies would
have better financial flexibility and reduce yearly liability of the
company to the investors.

Advantages:
1. Consistent with Gainesboros dividend payout policy
2. Board will continue to pay dividends
3. Uses debt capacity but still has flexibility

Disadvantages:
1. Did not give good impression to the investor on the companys future
2. Still higher that the other advanced technology companies

3.3 40% Dividend Payout


This strategies will strain the cash of the company and also
increases the debt on the balance sheet. From the Table 1.0 we
can see that the debt by equity ratio is high. The result suggest
that with fixed 40% dividend payout it will reduce flexibility of the
company.

Advantages:

1. Restores firms implied dividend payout


2. Payout ratio is in-line with electrical-industrial equipment manufactures
3. Strong impression to shareholders on companys future

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Disadvantages:

1. Exceed maximum debt capacity


2. No debt flexibility
3. Not reflective to the current business model

3.5 Residual-Dividend Payout


From appendix 1, the calculations show that the companys
success of making a dividend payout depends on the ability to
capitalise on the new technology being implemented which in turn
will able to implement production in fully automated thus reducing
the human capital and production cost. As it has already been
mentioned that competitors are planning to introduce similar
technologies, the growth estimated might have to be revisited.
The growth projections taken optimistically therefore making a
pay-out of 40 % which might not be the best strategies. However
the pay-out ratio is inconsistent depending on the growth of the
company and it might upset the investor.

Advantages:
1. Fund receive to be utilize in projects and capitalise new technology while
the excess funds is to build trust with investor.
2. Consistent with Dividend Irrelevance Theory which state that investor
will obtain the same return even if company pay high dividends or
reinvest the fund.
3. Debt will not be so high

Disadvantages:
1. Does not in line with company growth strategy
2. Dividend payout ratio is not predictable
3. Negative influence on the stocks prices during its implementations

3.6 Corporate Rebranding


Corporate rebranding by changing their name from Gainesboro
Machine Tools Corporation to Gainesboro Advanced Systems
International, Inc will reflect that the company is embarking or

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strategizing the business in technology locally and internationally
which will attract more investor. With this objective, they can
enhance the firms visibility and image as such stock prices will
respond positively to the campaign and name changes.

Advantages:
1. Indication to shareholders that company commit to future growth and
locally and international expansion strategy
2. Indication that company business will change from traditional machine
tool to CAD/CAM

Disadvantages:
1. The campaign is costly. Approximately 10 million
2. No empirical evidence show correlation between name changes and
stock price

3.7 Share Buyback


In this strategy, the company will determine whether or not to buy
back share. Basically, shareholders would prefer a buyback
because in this way they would rather see their share prices
increase in value (if they didnt sell) or they can enjoy the return
coming from the positive difference in buying their shares cheap
and selling high (Urry 2004).

The decision on whether to buy back stock or not should be


that, if the intrinsic value of Gainesboro is greater than its current
share price, then the shares should be repurchased. But in the
case, it does not provide the information needed to make free cash
flow projections. So we only can assume the case, if the intrinsic
value is higher than share price, the company should repurchase
share.

However, it will not resolve the company dividend/financing


problem. By doing so (repurchase shares), it will would reduce the
resources available for a dividend payout. Also, a stock buyback

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may be inconsistent with the message that Gainesboro is trying to
convey, which is that it is a growth company.

Advantages:

1. The management believes that repurchase share will estimate the stock
to be undervalued.
2. By repurchase share will give decision to the investor.

Disadvantages:
1. Increasing the debt to equity, makes debt riskier (Investor).
2. Loss for the company (EPS is lower).
3. Increasing the debt to equity (Higher risk)

4.0 Recommendation

In reference to the above discussion on the dividend payout


percentages and share repurchase, Gainesboro could declare the
dividend payout however at a lower percentage than 40% due to
outcome of company restructurings and recent technological
advances in the industry. The company is now having new
objectives and projection of sales growth at an average annual
compound rate of 15%. Based on the second-quarter financial
data, revenue of $870 million is projected in 2005 and consistently
will achieve $2.0 billion of total sales and $160 million in net
income. However, this dividend payout proposal is based on the
positive projection sales growth of 15%.

In view of the board put a commitment to pay the dividend


in 2005, retracting its decision will give negative impression or
negative signal to the shareholders on the company business
operation status and this would jeopardize the companys business
strategy and initiatives as the outcome of the restructuring as
follows:

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i. Corporate rebranding - reimaging Gainesboro with a
campaign of corporate-image advertising and change of
name to Gainesboro Advanced Systems International, Inc in
order to improve perception in the market.
ii. To revitalize the operating divisions
iii. New products to penetrate the market with positive feedback
since the product would substitute the current products in the
market.
iv. Company A rating rated by Value Line
v. Artificial workforce will increase and replace the existing
workforce

Hence, in meeting the Board commitment and shareholders


expectation, based on the projection dividend payout of 0%, 20%
and 40%, it is suggested that a declaration of dividend payout of
20% to shareholders is recommended due to the following
reasons:
i. This will maintain the board decision and commitment to pay
dividend to the shareholders and gain trust from the
shareholders since retracting its decision after the initial
position that no dividend payout will give negative signal to
the shareholders. It renders inconsistency of the management
decision and signal on way of conducting day-to-day
management.
ii. This will retain shareholders who want to receive dividends as
well as who wants to see the companys growth as a new
business strategy as an outcome of restructuring by focusing
its sales and marketing approach, manufacturing strategy and
adopting administrative procedures which reduced the
number of staffs and facilities and new product in line namely
Artificial Workforce, a system of advanced control hardware,
software and applications which by end of 2004 the backlog
order was $100 million.
iii. This will balance the financial needs of the company i.e. within
the maximum debt capacity of the company and

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disbursement of free cash flow towards achieving the
projection from 2005 until 2011. The company needs to
compete with two strong competitors who developing
comparable products and would launch the products in 12
months. This would disrupt the sales growth projected should
the company delay to meet the orders.
iv. The debt to equity ratio is not more than 40% which normally
gives comfort level to the lenders since the lender's interests
are better protected in the event of business decline; since the
Value Line rated A for the company.
By proposing the dividend payout of 20% and with the
positive projection of sales and net income throughout the years
until 2011, Swenson may decline to consider the share repurchase
since this will breach the company dividend payout commitment
which had been declared to the shareholders. Based on the
analysis above also it is also suggested that no major benefit will
be earned by the company by doing share repurchase since the
proposed dividend payout declaration of 20% couple with the
strategic restructuring initiatives and new product in line will
rebound the company financial performance. On top of this, the
company will lose its debt capacity flexibility since the company is
using its money to repurchase its own shares instead declaring
dividend and invest in new investment in artificial workforce. It
will also reduce its cash reserves or debt capacity and potentially
affect its credit rating.

In meantime, it is suggested that the company to undergo


corporate rebranding - reimagining Gainesboro in the new era with
the restructuring with a target to have an efficient cost of
operation and new product in line namely Artificial Workforce will
reflect companys new image. By changing its name from
Gainesboro Machine Tools Corporation to Gainesboro Advanced
Systems International, Inc will reflect that the company is
embarking or strategizing the business in new advanced
technology locally with the business expansion internationally

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which would attract the investors attention to invest in the
company anticipating positive growth over a period of 5 years. By
having a dividend payout of 20% will help the company to retain
and support the new image of CAD/CAM focus as a true industry
leader in competition with others including Autodesk, Inc., Cadene
Design, and Synopsys, Inc.. This is strategically in line with the
growing market and aggressive marketing strategy, efficient
production in developing its new product in competing with its
other two (2) alliance in the same industry.

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