A Report On Silver River

Manufacturing Company
A Case Study Analysis
Uniglobe College

Submitted To: Submitted By:

Prof. Dr. Radhey Shyam Pradhan Shrijana Bhujel

Siksha Upadhyaya
Susmita Kumari Sah
Sujata Nepal
Suman Kumar Poddar
Shikshya Aryal
Subekcha Dhami

[MBA III Trimester- General]

Table of Contents

GENERAL BACKGROUND 2

1.1. LIQUIDITY RATIO 10

1.1.1 CURRENT RATIO 10
1.1.2 QUICK RATIO 11

1.2. LEVERAGE RATIOS 11

1.2.1. DEBT RATIO 11
1.2.2 TIME INTEREST EARNED RATIO 12

1.3. ASSET MANAGEMENT RATIO 12

1.3.1 INVENTORY TURNOVER RATIO (COST) 12
1.3.2 INVENTORY TURNOVER (SELLING) 13
1.3.3 FIXED ASSET TURNOVER RATIO 13
1.3.4 TOTAL ASSET TURNOVER RATIO 14
1.3.5 AVERAGE COLLECTION PERIOD 14

1.4. PROFITABILITY RATIOS: 15

1.4.1. PROFIT MARGIN (%) 15
1.4.2. GROSS PROFIT MARGIN (%) 16
1.4.3. RETURN ON TOTAL ASSET 16
1.4.4. RETURN ON OWNER’S EQUITY 17

2.1. ALTMAN Z FACTOR 21

2.2. DU PONT ANALYSIS 22

4.1. LIQUIDITY RATIOS 33

4.1.1. CURRENT RATIO 33
4.1.2. QUICK RATIO 33

4.2. LEVERAGE RATIOS 34

4.2.1. DEBT RATIO 34

4.3. TIME INTEREST EARNED RATIO 35

4.4. ASSET MANAGEMENT RATIOS 35

4.4.1.INVENTORY TURNOVER RATIO (COST) 35

 
4.4.2. INVENTORY TURNOVER RATIO (SALES) 36
4.4.3. FIXED ASSETS TURNOVER RATIO 36
4.4.4. TOTAL ASSETS TURNOVER RATIO 37
4.4.5. AVERAGE COLLECTION PERIOD 38

4.5. PROFITABILITY RATIOS 38

4.5.1.PROFIT MARGIN RATIO 38
4.5.2.GROSS PROFIT MARGIN 39
4.5.3. RETURN ON TOTAL ASSETS 39
4.5.4. RETURN ON OWNER’S EQUITY 40

CONCLUSION 55
 

 
 Acknowledgements

It's a great pleasure to present this report of case study on “Silver River Manufacturing
Company”. At the beginning, we would like to express our monumental gratitude to our
group members for the initiation till the successful completion of this case.

We are extremely thankful to Prof. Dr. Radhe Shyam Pradhan for extending his
valuable guidance about the analysis of financial statements concerned with this case, and
his support for literature, critical reviews of case and the report.

We would also like to thank our all our group members for their sincere effort and
cooperation throughout the analysis of this case. Above all we would like to thank
everyone for the moral support. We are indebted to all group members for their time &
passion during the case analysis, without such efforts, work could not have been
accomplished on time.

 
  

 
  

General Background
 

This case is mainly concerned with Silver River Manufacturing Company (SRM), which
is a US based and whose stock is traded over the counter, is large regional producer of
farm and utility trailers specialized lives stock carriers and mobile home chassis. More
than 85% of SRM’S sales come from the southern part of the United States though a
growing market for customer horse transport vans designed and produced by SRM is
developing nationally as well as internationally. Several major boat companies in Florida
work closely with SRM in designing trailers for their new offerings.

According to this case the SRM is a major client of Marion Country National Bank
(MCNB) but due to the recession that had been plaguing the nation’s farm economy since
2010s caused problem for agriculture for the SRM who depends on farmers for roughly
45 to 50 percent of total sales. SRM whose products are totally based on latest
technology. SRM hold several patents with which it can partially offsets some of the risk.

SRM had experienced high and relatively steady growth in sales, assets and profits in the
decade prior to 2013. Toward the end of 2013, the demand for new field trailers in the
citrus and vegetable industries started to fall off. In this case the white had recently
attended an executive development seminar on market penetration and profitability, he
was convinced with the factors that key to sustained profit and superior market
performance was sales growth and achievement of the high shares of the market. The
recession that had been plaguing the nation’s farm economy and disastrous freezes for
two straight winters resulted in high curtailment of demand for grove retailer and citrus
transport carriers; SRM was not immune to this.

Though SRM had shown high and steady growth in sales, assets and profits prior to 2013,
however, towards the end of 2013 the demand for new field trailers in citrus and
vegetable industries started for fall off. Likewise, SRM in designing trailers for their new
offerings, and these boat-trailer packages are sold through the nationwide dealer networks
of the boat companies. With few exceptions, the products manufactured by SRM are not
subject to technological obsolescence or to deterioration, and in those instances where

 
technology is a factor to be considered, SRM holds several patents with which it can
partially offset some of the risks. Marion County National Bank (MCNB) is the official
banker of SRM that has sanctioned short and long term credit facilities.

MCNB considered SRM to be a financially sound and efficiently managed firm until the
symptoms of illness of SRM surfaced. Being a close friend and a well wisher, Ms. Lesa
Nix, Vice President of MCNB, informs Mr. White that the financial health of SRM
worsened from 2014 through 2015 such that MCNB might consider calling back the
credit facilities while SRM has made a commitment to expand its facility requiring an
additional fund of $7,012,500. Mr. White Had planned to obtain this additional money by
a short-term loan from MCNB.

Since, to finance these increase in assets, SRM turned to Marion Country National Bank,
(MCNB) for long term loan in 2014 and increase in its short term credit lines in both
2014 and 2015.MCNB had been a major banker of SRM for a long time. In the start, Lesa
Nix, the vice-president of MCNB, had handled the case of SRM. Later, she got promoted
and was no longer responsible for handling SRM’s account. However, as Mr. White was
a close friend, she still took interest on SRM. Even this was insufficient to cover the
aggressive expansion on the asset side. Consequently, Greg White who always made
prompt payments, started to delay payments.

Moreover, this resulted substantial increase in accounts payable and other short-term
loans. Upon analyzing SRM’s financial conditions, Lesa Nix found that the bank’s
computer analysis system revealed a number of significant adverse trends and highlighted
several potentially serious problems. Its 2015 current, quick and debt ratios failed to meet
the contractual limits of 2,1 and 55 percent respectively. Technically, the bank had a legal
right to call for immediate repayment of both long and short-term loans and if they were
not repaid within ten days then this could force the company into bankruptcy.

Despite such adverse conditions Nix considered the company to have good long run
prospects assuming of course that management reacted immediately and appropriately to
the current situation. Hence, Nix had looked upon the threat of accelerating the loan
repayment primarily as a means to get Greg White’s undivided attention and as well to

 
force him to think about corrective actions that must be taken to mitigate SRM’s short-
term problems. Even though she hoped to avoid calling the loans if at all possible because
that action would back SRM into a corner from which it might not be able to emerge
intact, Nix realized that the bank’s examiners, due to the recent situation of bank failures
were very sensitive to the issue of loan problems.

SRM’s Altman Z factor (2.88) for 2015 was below 2.99, which indicated that SRM was
likely to get bankrupt in two years. Because of this deficiency, MCNB was under
increased pressure from the regulators to reclassify SRM’s loan as ‘problem category’
and take whatever steps needed to collect the money due and reduce the bank’s exposure
as quickly as practicable. In order to avoid reclassification, SRM required strong and
convincing evidence to prove that its problems were temporary in nature and it had good
chance of reversing the trend.

The current financial problems were not the only problem, which Mr.White faced. He
had recently signed a contract for a plant expansion that would require another
$7,012,500 of the capital during the first quarter of 2016. He had planned to obtain this
money by a short-term loan from MCNB to be repaid from the profit generated in the
first half of 2016. He believed that new facilities would enhance the production
capabilities in a very lucrative area of custom horse van.

The financial position of the company could improve significantly over the next two
years if the bank maintained or even increase the credit lines according to analysis of Mr.
White’s. Once the new facility is goes online, the company would be able to increase
output in rapidly growing and particularly profitable horse van and home chassis segment
of the market and also reduce the dependency on farm and light utility trailer sales to
35% or less. He also projected that the sales growth would be 6% and 9.5% in an average
for 2016 and 2017 respectively, assuming there is no significant improvement in either
national or farm economy.

He also assumed that SRM would change its policy of aggressive marketing and sales
promotion and return to full margin prices, standard industry credit term and tighter credit
standards. These changes would reduce cost of goods sold to 85% in 2015 and 82.5% in

 
2016 and 80 % in 2017. Similarly administrative and selling expenses are likely to
decrease from 9% to 8% in 2016 and 7.5% in 2017. Also, the miscellaneous expense
would reduce to 1.75% and 1.25% of sales in 2016 and 2017 respectively. Average
collection period and inventory turnover will be maintained at average industry level.

As per the financial data provided in the case and the projected income statement and
balance sheet, we have to analyze whether SRM is eligible to obtain the bank loan. Now,
the question is whether the bank should extend the existing short and long-term loans or
should rather demand immediate repayment of both existing loans. Also we have to
propose alternatives available to SRM if the bank were to decide to withdraw the entire
line of credit and to demand immediate repayment of the two existing loans.

 
Question 1. (a) Prepare a statement of changes in financial position for 2015
(sources and uses of funds statement) or complete Table 6.

Solution:

Table 6: Silver River Manufacturing Company

Statement of Changes in Financial Position
For The Year Ended December 31st
(Thousands of Dollars)

Particulars 2014 2015

Sources of fund
Net income after taxes 6987 831
Depreciation 1823 2244
Funds from operations 8810 3075
Long-term loan 3506 0
Net decrease in working capital
Total sources 12316 3075
Application of funds
Mortgage change 295 287
Fixed assets change 2574 3051
Dividends on stock 1747 208
Net increase in working capital 7702 (471)
Total uses 12316 3546

 
 Analysis of change in working capital 2014 2015
Increase (decrease) in current assets
Cash change (1260) (107)
Account Receivable change 1501 11985
Inventory change 15505 14992
Current Assets change 15745 26870
Increase (decrease) in current liabilities
Notes payable change 2104 14446
Account payable change 4116 10441
Accruals change 1823 2454
Current liabilities change 8043 27.341
Net increase (decrease) in working
capital 7702 (471)

Question 1. (b) Calculate SRM’s key financial ratios for 2015 and compare them
with those of 2013, 2014, industry average, and contract requirement or complete
Table 7.

Solution:

Table 7: Silver River Manufacturing Company

Computation of Ratio Analysis
For The Year Ended December 31

Financial ratios 2013 2014 2015 Industry Comment

Average

Liquidity ratio

1.CR, Times 3.07 2.68 1.75 2.50 Poor

2.Quick ratio, times 1.66 1.08 0.73 1.00 Poor

 
Leverage ratio

3, TD/TA, % 40.46 46.33 59.801 50.00 Low (Risky)

4.TIE, Times 15.89 7.97 1.48 7.70 Low (Risky)

Assets management
ratio

5.Inventory Turnover 7.14 4.55 3.57 5.70 Higher

(COGS), Times

6.Inventory Turnover 9.03 5.59 4.20 7.00 Higher

(sales), Times

7.FA turnover 11.58 11.95 12.10 12.00 Higher

8.TA turnover 3.06 2.60 2.04 3.00 Higher

9. Average Collection 36.00 35.99 54 32.00 Higher

Period

Profitability Ratio

10.Net profit margin, % 5.50 3.44 0.39 2.90 Higher

11.Gross profit margin, 20.89 18.70 14.86 18.00 Higher

%

12.Return on TA, % 16.83 8.95 0.79 8.80 Higher

13.ROE, % 28.26 16.68 1.96 17.50 Higher

 
Working Notes

Table 7: Silver River Manufacturing Company

Computation of Ratio Analysis for the Year Ended December 31

Particulars Formula used Calculation Result of 2015

Current ratio, times Current 87913/50118 1.75

assets/current
liabilities

Quick ratio, times Current asset- 36589/50118 0.73

inventory/current
liabilities

Total debt/ Total Total liabilities/ 63211/105711 59.80

asset, percentage Total asset

TIE, Times EBIT/Interest 4888/3291 1.48

Inventory turnover COGS/ Inventory 183307/51324 3.57

(COGS), Times

Inventory turnover Sales/ Inventory 215305/51324 4.20

(Sales), Times

FA Turnover Sales/FA 215305/17798 12.10

TA Turnover Sales/TA 215305/105711 2.04

Average Collection 360 X AR/Sales 32293/598.07 53.99

Period

Net Profit Margin, Net income/ sales 831/215305 0.39

percentage

 
Gross Profit Gross Profit/ Sales 31998/215305 14.86
Margin, Percentage

Return on TA, Net Income/ Total 831/105711 0.79

Percentage Asset

ROE, percentage Net Income/ Total 831/42500 1.96

Equity

1.1. Liquidity Ratio

1.1.1 Current ratio

It demonstrates the degree to which current assets are enough to pay current liabilities.
Moreover, it is calculated as following:
Current ratio= Current Assets/Current liabilities

4  
3  
2   SRM  Company  

1   Industry  Average  

0  
2003   2004   2005  

Fig 1.1.1: Current Ratio

We can conclude that the company’s ability to fulfill short-term obligations as current
assets has been decreased. Current ratio of SRM has decreased in 2005 as compared to
2003, 2004 and industry average. i.e. 1.75 < 3.07, 2.68 & 2.50.

 
 1.1.2 Quick ratio

It measures the liquidity position of company and it verifies the ability of payment and
can be shown below on formula:

Quick ratio= Quick assets/Current liabilities

2  

1.5  

1   SRM  Company  
Industry  Average  
0.5  

0  
2003   2004   2005  

Fig 1.1.2: Quick Ratio

Therefore, the quick ratios of SRM’s of 2003, 2004 are high, whereas for 2005 is less
than both years. The industry average is also more than that of quick ratio of SRM
(i.e.73<1.66, 1.08 and 1.00), which indicate the less liquidity position of this company.

1.2. Leverage ratios

1.2.1. Debt ratio

70.00%  
60.00%  
50.00%  
40.00%   SRM  Company  
30.00%  
Industry  Average  
20.00%  
10.00%  
0.00%  
2003   2004   2005  

Fig 1.2.1: Debt Ratio

 
In comparison to the industry average, SRM have more possibility than the competitors
where industry average is 50% and that of the SRM are 59.796%. It is clear in the sense
that the debt ratios have been in increasing trend i.e. 40.46%, 46.33% and 59.796% in
year 2003, 2004 and 2005 respectively which simulates the company’s reliance and
leverage in comparison with previous year.

1.2.2 Time Interest Earned Ratio

18  
16  
14  
12  
10   SRM  Company  
8  
Industry  Average  
6  
4  
2  
0  
2003   2004   2005  

Fig 1.2.2: Time Interest Earned Ratio

The time interest ratio acquired is declined from 2003 to 2005 but is not below 1 so it is
still able to meet its interest necessities. So from this we can easily see the decreasing
interest paying limit of volume held of SRM over the years. And in the year 2005 SRM
has decline to continue the ratio as off industry.

1.3. Asset management ratio

1.3.1 Inventory Turnover Ratio (cost)

 
 8  
6  
4   SRM  Company  

2   Industry  Average  

0  
2003   2004   2005  

Fig 1.3.1: Inventory Turnover

1.3.2 Inventory Turnover (selling)

10  

5   SRM  Company  
Industry  Average  
0  
2003   2004   2005  

Fig 1.3.2 Inventory Turnover

Inventory turnover ratio has decreased from 7.14 to 3.57 times on cost and 9.03 to 5.59
times on sales together in the year between 2003 and 2005, where it shows the company
is not effective in managing the inventory.

1.3.3 Fixed Asset Turnover Ratio

12.2  
12  
11.8   SRM  Company  
11.6  
Industry  Average  
11.4  
11.2  
2003   2004   2005  

Fig 1.3.3: Fixed Asset Turnover Ratio

 
The adequate usage of fixed asset has been done by SRM, as the turnover bring out fixed
asset are in increasing trend i.e. from $11.58, to $12.097 in 2003 to 2005. The industry
average is $12 is less than that of Silver River Manufacturing it means the company has
used its fixed assets efficiently.

1.3.4 Total Asset Turnover Ratio

4  

3  

2   SRM  Company  
Industry  Average  
1  

0  
2003   2004   2005  

Fig 1.3.4 Total Turnover Ratio

In 2005, the total asset turnover is $ 2.06, which is less in difference with 2003 (i.e.$
3.06). This indicates the company is not capable to make use of its total asset. As the
industry average is $3, which means SRM is not using its asset effectively to increase the
productivity of the company with consideration to create sales.

1.3.5 Average collection period

60  
50  
40  
30   SRM  Company  

20   Industry  Average  

10  
0  
2003   2004   2005  

Fig 1.3.5: Average Collection Period

 
This ratio measures the average number of days customers take to pay their bills, which
resemble the effectiveness of credit and selection policies of the business. This ratio
also determines if the credit terms are matter of fact.

Furthermore, in case of SRM it takes 36 days to collect its receivable in 2003, which
increased, to 53.99 in 2005. When compared to the industry average, SRM is less able to
perform of collecting the receivables as compared to industry average.

1.4. Profitability ratios:

1.4.1. Profit Margin (%)

6  
5  
4  
3   SRM  Company  

2   Industry  Average  

1  
0  
2003   2004   2005  

Fig 1.4.1: Profit Margin

The profit margin ratio of SRM Company in 2003 is 5.5 and in 2005 is 0.386, which
shows the rapid decrease in profit margin ratio. The industry average is found to be 2.9,
which indicate SRM should obtain lesser profit margin compared with competitors.

 
1.4.2. Gross Profit Margin (%)

25  
20  
15  
SRM  Company  
10  
Industry  Average  
5  
0  
2003   2004   2005  

Fig 1.4.2: Gross Profit Margin

The gross profit margin are 20.89% in 2003 to 14.86% in 2005, it shows decreasing
trend. The industry average in term of gross profit margin is 18%, which is more
compared to SRM. Company is unable to make profit by using raw materials, labor and
manufacturing with compared to its competitors.

1.4.3. Return on Total Asset

20  

15  

10   SRM  Company  

5   Industry  Average  

0  
2003   2004   2005  

Fig 1.4.3: Return on Total Asset

The return on assets of SRM has been declining from 16.83% to 0.786% from 2003 to
2005. Compared to industry average of 8.8% other companies are more efficient in
generating profit using its assets. SRM’s return on asset has exceedingly declined from
2003 to 2005 (ie.16.83% to 0.786%) as related to industry average i.e. 8.8%. ROA
indicate the efficiency in generating profit using its asset. Therefore SRM is less effective
in generating profit by using its asset, as compared to compotators.

 
 1.4.4. Return on Owner’s Equity

30  
25  
20  
15   SRM  Company  
10   Industry  Average  
5  
0  
2003   2004   2005  

Fig 1.4.4: Return on Owners Equity

Capabilities of generating profit from shareholders money determine the ROE. Return on
equity for SRM is rapidly declining from 2003 to2005, (i.e. 28.26 to 1.95%), industry
average is found to be 17.5%. which indicate SRM is less capable of generating profit
from shareholder money compared to competitors.

Question no. 2.
Based on the case data and the results of your analysis in Question 1, what are the
SRM’s strengths and weaknesses? What are the causes thereof? (Use of the Du Pont
system and Altman Z factor would facilitate analysis and strengthen your answer.)

Solution:
Table 7: Silver River Manufacturing Company
Ratio Analysis Year Ended December 31

Financial ratios 2013 2014 2015 Industry Comment

Average

Liquidity ratio

1.CR, Times 3.07 2.68 1.75 2.50 Weak

 
2.Quick ratio, times 1.66 1.08 0.73 1.00 Weak

Leverage ratio

3, TD/TA, % 40.46 46.33 59.801 50.00 Weak

4.TIE, Times 15.89 7.97 1.48 7.70 Weak

Assets management
ratio

5.Inventory Turnover 7.14 4.55 3.57 5.70 Strong

(COGS), Times

6.Inventory Turnover 9.03 5.59 4.20 7.00 Strong

(sales), Times

7.FA turnover 11.58 11.95 12.10 12.00 Strong

8.TA turnover 3.06 2.60 2.04 3.00 Strong

9. Average Collection 36.00 35.99 54 32.00 Strong

Period

Profitability Ratio

10.Net profit margin, % 5.50 3.44 0.39 2.90 Strong

11.Gross profit margin, 20.89 18.70 14.86 18.00 Strong

%

12.Return on TA, % 16.83 8.95 0.79 8.80 Strong

13.ROE, % 28.26 16.68 1.96 17.50 Strong

 
For 2013

X1=CA-CL/TA= (45,298.00-14,733.00)/61,539.00 = 0.4966 = 49.66%

X2 = Retained Earnings/ Total Assets = 11,041.00/61,539.00 = 17.94%

X3 = EBIT / Total Assets = 21,251.00/61,539.00 = 0.3453 times

No. of shares = NI/ EPS = 10,355.00/2.69 = 3,849 shares

ME = No. of shares * MPPS = 3,849.44 * 17.79 =68,481.5

X4 = ME / Book Value of Total Debt = 68,481.57/24,901.00 = 2.75 times

X5 = sales/total assets = 188,097.00/61,539.00 = 3.06 times

Altman Z factor = 0.012 X1 +0.014 X 2 +0.033 X3+0.006 X4+0.999 X5

=0.012(0.4966) +0.014 (0.1794)+0.033 (0.3453)+0.006 (2.75) +0.999 (3.06)

= 3.093

For 2014

X1=CA-CL/TA= (61,043.00 – 22,777.00)/78,034.00=0.4904 = 49.04%

X2 = Retained Earnings/ Total Assets = 16,282.00/78,034.00 = 20.86%

X3 = EBIT / Total Assets = 15,364.00/78,034.00 =0.1969 times

No. of shares = NI/ EPS = 6,987.00/1.81 = 3,860.22 shares

ME = No. of shares * MPPS = 3,860.22* 9.69 = 37,405.54

 
X4 = ME / Book Value of Total Debt = 37,405.54/36,156.00 = 1.02 times

X5 = sales/total assets = 203,124.00/78,034.00 = 2.60 times

Altman Z factor = 0.012 X1 +0.014 X 2 +0.033 X3+0.006 X4+0.999 X5

= 0.012 (0.4904) +0.014 (0.2086)+0.033 (0.1969) +0.006 (1.02) +0.999 (2.60) = 2.62

For 2015

X1=CA-CL/TA= (87,913.00–50,118.00)/105,711.00 =0.3575= 35.75%

X2 = Retained Earnings/ Total Assets = 16,904.00/105,711.00 = 15.99%

X3 = EBIT / Total Assets = 4,888.00/105,711.00 =0.0462 times

No. of shares = NI/ EPS =830.00/0.22 = 3,772.72 shares

ME = No. of shares * MPPS = 3,772.72* 1.02 = 3,848.18

X4 = ME / Book Value of Total Debt =3,848.18/63,211.00 = 0.061 times

X5 = sales/total assets = 215,305.00/105,711.00 = 2.04 times

Altman Z factor = 0.012 X1 +0.014 X 2 +0.033 X3+0.006 X4+0.999 X5

= 0.012 (0.3575) +0.014 (0.1599)+0.033 (0.0462) +0.006 (0.061) +0.999 (2.04) = 2.04

 
2.1. Altman Z Factor

Z  Factor  
4.00%  
3.00%  
2.00%  
Z  Factor  
1.00%  
0.00%  
2013   2014   2015  

Fig 2.1: Altman Z Factor

Du Pont Analysis of SRM

For 2013

ROE = NI/Sales * Sales/Total Assets * Total Assets/Total Equity

ROE = 10,355.00/188,097.00 * 188,097.00/61,539.00 * 61,539.00/36,637.00

ROE = 0.0550 * 3.0565 * 1.6796 = 0.2824 =28.24%

ROE = NPM * TAT * EM

For 2014

ROE = NI/Sales * Sales/Total Assets * Total Assets/Total Equit1

ROE =6,987.00/203,124.00* 203,124.00/78,034.00* 78,034.00/41,877.0

ROE = 0.0344 * 2.6030 * 1.8633 = 0.1668 = 16.68%

 
ROE = NPM * TAT * EM

For 2015

ROE = NI/Sales * Sales/Total Assets * Total Assets/Total Equity

ROE = 830.00/215,305.00* 215,305.00/105,711.00 * 105,711 /42,500.00

ROE = 0.0038 * 2.0367 * 2.4873= 0.0195 = 1.95%

ROE = NPM * TAT * EM

2.2. Du Pont Analysis

ROE  
30.00%  

20.00%  
ROE  
10.00%  

0.00%  
2013   2014   2015  

Fig 2.2: Du Pont Analysis

The key aspects discussed are based on the case data and the results of ratio analysis
SRM’s the strengths and weaknesses and the causes thereof are listed below:

 
Strengths:

• The fixed asset turnover ratio 12.09 in 2015 is increasing. It indicates the number
of times the average fixed assets are turned over during the year of SRM. This
shows that the fixed assets are used effectively.

• SRM’s Altman Z score is compatible with the industry average (i.e. 2.04) against
the industry average of 1.81/2.99). Even though, the factor is compatible with the
industry average, it is not a good sign for the company. The company falls under
gray zone and needs to be more careful about going bankrupt.

Weakness:

• The profitability ratios (Profit Margin, Gross Profit Margin, Return on Total
Assets & Return on owner’s Equity) are in declining from 2013 to 2015. The net
profit margin has drastically reduced from 5.50 to 0.39 and is less than the
industry average. Comparing with the industry average of 2.90, the SRM’s
operating efficiency is very poor considering the competitors in the market.

• The Company is not in a comparatively liquid position. The company has fewer
current assets than the current liabilities thereby showing negative net working
capital. The current ratio and quick ratio also reflect the less liquid position of
SRM.

• The price earnings (PE) ratios are also declining from 6.61 in 2013 to 5.35 in
2014 and finally 4.63 in 2015.

• Earnings per share (EPS) are declining from the year 2013: $2.69 to $1.81 in year
2014 and $0.22 in year 2015.

• Inventories and accounts receivable are increased steadily

 
 • Average collection period is higher in 2015, 54 days.

• Delay in payment of accounts payable.

• The firm’s equity multiplier is increasing from 1.68 times in 2013 to 1.86 times in
2014 and finally 2.49 times in 2015.

Question No.3.

If the bank were to maintain the present credit lines and grant an additional
$7,012,500 short-term loan at a 16 percent rate of interest effective from January 1,
2016, would the company be able to retire all short-term loans existing on December
31, 2016? (Assume that all of White’s plans and predictions concerning sales and
expenses materialize. In these calculations cash is the residual balancing figure, and
SRM’s tax rate is 48%. Assume that SRM pays no cash dividends during the year.)
Complete tables 9 and 10 included as worksheets to facilitate analysis.

Table 9: Silver River Manufacturing Company

Pro Forma Income Statements (Projected)
Worksheet for Year End 2017 (Thousands of Dollars)

Particulars 2015 2016 Projected 2017 Projected

Net sales 215,305 228223 249904

Cost of goods sold 183,307 188284 199923

Gross profit 31,998 39939 49981

Administrative and selling expenses 18,569 18258 18743

Depreciation 2,244 2665 2006

 
Miscellaneous expenses 6,297 3994 3124

Total operating expenses 27,110 24,917 23873

EBIT 4,888 15022 26108

Interest on short term loan 2,006 4331 4331

Interest on long-term loans 1,052 1052 1052

Interest on mortgage 233 210 189

Net income before tax 1,597 9429 20536

Taxes 767 4526 9857

Net income 831 4903 10679

Dividends on stock 208 0.000 0.000

Additions to retained earnings 623 4903 10679

 
 Table 10: Silver River Manufacturing Company
Pro Forma Balance sheets (Projected)
Worksheet for Year End 2017 (Thousands of Dollars)

Particulars 2015 2016 Projected 2017 Projected

Assets

Cash 4296 39666 49529

Accounts receivable 32293 20286 22213

Inventory 51324 33032 35074

Current assets 87913 92985 106816

Land, Building, plant and 25161 32173 33139

equipment

Accumulated depreciation
(7363) (10028) (10939)
Net fixed assets
17798 22145 22199

Total assets 105711 115130 129015

 
Liabilities and equities

Short term bank loans 20056 27068 27068

Account payable 21998 17594 18474

Accruals 8064 10231 12789

Current liabilities 50118 54894 58331

Long term bank loans 10519 10519 10519

Mortgage 2574 2314 2083

Long term debt 13092 12833 12602

Total Liabilities 63211 67727 70933

Common stock 25596 25596 25596

Retained earnings 16904 21807 32486

Owners’ equity 42500 47403 58082

Total Capital 105711 115130 129015

 
Working Note:

Calculations

Particulars 2016 2017

228223.3*
Projected sales 215,305 *1.06 228223 1.095 2,49904

82.5% of 80% of
Cost of goods sold 228223.3 188284 249904.5 1,99923

Administrative and selling 8% of 7.5% of

expenses 228223.3 18258 249904.5 18743

1.75% of 1.25% of
Miscellaneous expenses 228223.3 3994 249904.5 3124

48% of 48% of
Taxes 9429.23 4,526 20536.24 9857

3.1. Retained Earnings

For 2016: Retained earnings (2015) + Addition in 2016

i.e. 16904+4903.19 = 21807

For 2017: Retained earnings (2016) + Addition in 2017

i.e. 21807 +10679 = 32486

 
 3.2. Account Receivable
For 2016: Average collection period = Receivables / Sales per day

i.e. 32= Receivables / (228223.3 / 360

Therefore, receivables = 20286

For 2017: Average collection period = Receivables / Sales per day

i.e. 32 = Receivables / (249904.5 / 360)

Therefore, receivables = 22213.

Notes:

1. Cash is the balancing figure.

2. Accounts receivables and inventory has been calculated by using the industry
average ratios.
In 2016, the company has total cash balance of 39667 thousands and during the same
year the short-term bank loan to be retired is 27068

= $(39667 – 27068)

= $12599

5% of sales is maintain by the company

Minimum cash balance = $ (228223* 0.05)

= $ 11411.15

From the calculation we can see that the company is able to maintain the minimum cash
balance. Hence, it has enough cash balance to retire the short-term bank loans i.e. SRM
will be able to retire its short term bank loan if the prediction made were materialized.

 
Question No.4.
Compute projected financial ratios for 2016 and 2017 (or complete Table 11).
Compare these ratios with 2015 along with industry averages and analyze
improvement or deterioration in financial condition.

Solution:
Table 11: Silver River Manufacturing Company
Ratio Analysis Year Ended December 31, 2017 (Projected)

Particulars Formula 2015 2016 2017 Industry

Projected Projected Average

Liquidity ratios

Current ratio CA/CL 1.75 1.69 1.83 2.50

Quick ratio (CA-Inventory)/CL 0.73 1.09 1.23 1.00

Leverage ratios

Debt ratio (%) Total debt/TA 59.80 58.80 54.98 50.00

Time interest earned EBIT/Interest charge 1.48 2.68 4.69 7.70

Asset management
ratios
COGS/Inventory 3.57 5.70 5.70 5.70
Inventory turnover (cost)
Sales/Inventory 4.19 6.91 7.1 7.00
Inventory turnover
(Selling)

 
Fixed asset turnover Sales/Net fixed 12.10 10.3 11.26 12.00
assets

Sales/Total assets
Total asset turnover 2.04 1.98 1.94 3.00
Receivables/(annual
Average collection 54.00 32.00 32.00 32.00
sales/360)
period

Profitability ratios

Profit margin (%)

0.38 2.15 4.27 2.90
Net income/Sales
Gross profit margin (%)
14.86 17.5 20.00 18.00
Gross Income/Sales
Return on total assets
0.78 4.26 8.2 8.80
Net Income/TA
Return on owners equity
1.95 10.34 18.38 17.50
Net Income/equity

Working Notes:

Particulars Formula Computation

2016 2017

Current ratio Current assets / 92984/ 1.69 106815/58331 1.83

current liabilities 54894

Quick ratio (Current assets - (92984- 1.09 (106815- 1.23

inventories) / 33032)/ 31074) /58331
Current liabilities 54894

Debt ratio Total debt / Total 67727/ 58.8 70933/ 54.98

asset 115130 1290151

 
Times interest earned EBIT / Interest 15022/5593 2.69 26108 /5572 4.69

Inventory COGS / Inventory 18824/ 5.70 199904 / 5.70

turnover(cost) 33032 35074

Inventory Sales / Inventory 228223 / 7 227,185.70 / 7

turnover(selling) 233032 32,455.10

Fixed assets turnover Sales / Fixed asset 207475.53 / 10.3 227,185.70 / 11.84
20,132.25 19,186.76

Total asset turnover Sales / Total asset 207475.53 / 1.98 227,185.70 / 1.94
104,664.12 117,287.76

Average collection Receivables / Sales 18,442.27 / 32 20,194.28 / 32

period per day (207,475.53 (227,185.70 /
/ 360) 360)

Profit margin(%) (Net income / (4,457.89 / 2.15 (9,708.62 / 4.27

Sales) * 100 207,475.53) 227,185.70)*1
*100 00
Gross profit margin(%) (Gross profit / (36,308.22 / 17.5 (45,437.14 / 20
Sales) * 100 207,475.53) 227,185.70)*1
*100 00

Return on total assets (Net income / (4,457.89 / 4.26 (9,708.62 / 8.28

Total asset) * 100 104,664.12) 227,185.70)*1
*100 00

Return on owner's (Net income / (4,457.89 / 10.3 (9,708.62 / 18.39

equity Total equity) * 100 43,094.36)* 4 52,802.98)*10
100 0

 
4.1. Liquidity Ratios
4.1.1. Current Ratio

3  
2.5  
2  
1.5   SRM  Company  

1   Industry  Average  

0.5  
0  
2015   2016   2017  

Fig 4.1.1: Current Ratio

In 2016, the projected current ratio is lower than 2015 and Industry average. This shows
that the firm’s ability to meet its short term obligations has decreased in 2016. In 2017,
the projected current ratio is quite higher than 2015 and lower than the industry average.
This shows that the firm’s ability to meet its short term obligations has improved but is
still poor in comparison to industry average.

4.1.2. Quick Ratio

1.5  

1  
SRM  Company  
0.5   Industry  Average  

0  
2015   2016   2017  

Fig 4.1.2: Quick Ratio

 
In 2016, the projected quick ratio is higher than 2015 and industry average. This shows
that the ability of firm to meet its short term obligations has improved. In 2017, the
projected quick ratio is quite higher than 2015 and industry average. This shows that the
firm has improved its ability to meet its short term obligations.

4.2. Leverage Ratios

4.2.1. Debt ratio

62  
60  
58  
56  
54   SRM  Company  
52  
50   Industry  Average  
48  
46  
44  
2015   2016   2017  

Fig 4.2.1: Debt Ratio

In 2016, the projected debt ratio is lower than 2015 and quite higher than industry
average. This shows that company has decreased its assets which is financing from debts
but it is quite higher in comparison to industry average. In 2017, the projected debt ratio
has decreased than 2015 and also higher than industrial average. The debt ratio indicates
that the company has minimized its risk level.

 
4.3. Time Interest Earned Ratio

10  

8  

6  
SRM  Company  
4  
Industry  Average  
2  

0  
2015   2016   2017  

Fig 4.3: Time Interest Earned Ratio

In 2016 the time interest earned ratio has increased than 2015 and is lower than the
industry average. This shows that the company is still unable to cover the interest
expenses. In 2017, the ratio is improved but still below the industrial average line which
shows the improvement in ability to cover the necessary interest expenses.

4.4. Asset Management Ratios

4.4.1.Inventory Turnover Ratio (cost)

6  
5  
4  
3   SRM  Company  

2   Industry  Average  

1  
0  
2015   2016   2017  

Fig 4.4.1: Inventory Turnover Ratio

 
Inventory turnover ratio has been improved in the years 2016 and 2017 then in 2015 and
is equal to industrial average. From this we can conclude that the company’s inventory
are producing sales as that industry average.

4.4.2. Inventory Turnover Ratio (Sales)

8  

6  

4   SRM  Company  
Industry  Average  
2  

0  
2015   2016   2017  

Fig 4.4.2: Inventory Turnover Ratio

In 2016, there has been increase in inventory turnover ratio (in costs) in comparison to
2015 and is above the industry average. In 2017, this ratio is higher than 2015 but is
below the industry average showing deterioration in the company’s capacity in efficiently
managing the inventory.

If we analyze the inventory turnover in terms of sales we see in both the years 2016 and
2017 there have been significant improvement in inventory turnover in comparison to the
year 2015 and both the years have inventory turnover equal to that of industry average.
However, a better measure of inventory turnover is the inventory turnover in terms of
cost rather than in terms of sales.

4.4.3. Fixed Assets Turnover Ratio

 
 12.5  
12  
11.5  
11   SRM  Company  
10.5  
10   Industry  Average  
9.5  
9  
2015   2016   2017  

Fig 4.4.3: Fixed Assets Turnover Ratio

The fixed assets turnover ratio in2016is low in comparison to that of the year 2015 and
industry average. However, there is some progress in utilization of fixed assets in the year
2017 but it is still below in comparison to 2015 and industry average.

4.4.4. Total Assets Turnover Ratio

4  

3  

2   SRM  Company  
Industry  Average  
1  

0  
2015   2016   2017  

Fig 4.4.4: Total Assets Turnover Ratio

The total assets turnover ratios in the year 2016 and 2017 are lower in comparison to the
year 2015 and industry average. This ratio in the year 2015, 2016 and 2017 shows the
decreasing trend. This ratio is below the industry average line.

 
 4.4.5. Average Collection Period

60  
50  
40  
30   SRM  Company  

20   Industry  Average  

10  
0  
2015   2016   2017  

Fig 4.4.5: Average Collection Period

In year 2016 and 2017 average collection period is equal to industry average. The firm is
projected to have sufficient improvement in Average collection period in comparison to
2015.

4.5. Profitability Ratios

4.5.1.Profit Margin Ratio

5  

4  

3  
SRM  Company  
2  
Industry  Average  
1  

0  
2015   2016   2017  

Fig 4.5.1.Profit Margin Ratio

 
In 2016, the projected profit margin has improved in comparison to the year 2015 but is
still below the industry average. However, in the year 2017 the projected profit margin
has improved and is higher than industry average. This shows that there will be
improvement in financial condition of the company in the year 2017.

4.5.2.Gross Profit Margin

25  
20  
15  
SRM  Company  
10  
Industry  Average  
5  
0  
2015   2016   2017  

Fig 4.5.2: Gross Profit Margin

In year 2016 and 2017 the projected gross profit margin has increased in comparison to
2015. In 2016 it is below industry average but in 2017 it is above industry average
showing the improvement in financial condition.

4.5.3. Return on Total Assets

10  
8  
6  
SRM  Company  
4  
Industry  Average  
2  
0  
2015   2016   2017  

Fig 4.5.3: Return on Total Assets

 
Return on assets is also been increased in the year 2016 and 2017 from 2015. In the year
2016 and 2017 SRM has failed to maintain the industry average but it has improved
dramatically in the year 2017 and has able to maintain better return that of industry. Even
With the increase in ROA which is a good sign of progress.

4.5.4. Return on Owner’s Equity

20  

15  

10   SRM  Company  
Industry  Average  
5  

0  
2015   2016   2017  

Fig 4.5.4: Return on Owner’s Equity

In 2016, there has been great improvement in ROE in comparison to the year 2015 but is
still below the industry average. But, in 2017 it is above the industry average showing the
improvement in both operating and financial decisions of the company.

Question No.5.

If all short-term bank loans are repaid towards the end of the first half of 2016, do
you think that company is still able to pay regular dividends and maintain minimum
cash balance? Revise the tables 9, 10, 11 (or complete the tables 12, 13 and 14). Do
you find any situations developing that may indicate poor financial policy? What
should be the impact of such situations on the ratios for the company, and are such
impacts necessarily either good or bad? Why?

Solution: If all the short-term loans were repaid at the end of first half of 2016, the
company would be able to pay its regular dividends in 2016 as well as in 2017. This is

 
because the interest on short-term loan is being decreased in 2016 and is being zero by
2017.

The minimum cash balance required at the end of 2016 is 11411.165 (5% of 228223.3).
The company after paying the dividend of 25% during the year 2016 has the cash balance
of $10125440. So, the company will not be able to maintain the minimum cash balance
of $10387276.

Since, after the payment of short-term loan all the ratios of the company are improving.
We can find that there is no any situation that indicates poor financial status.

The impacts on the ratios after the payment of short-term bank loans are:

Liquidity ratios

a. Current ratio: The improvement in the current ratios of the company shows better
ability of the company to meet its current obligations.
b. Quick ratio: The improvement in quick ratio of the company shows better ability
to meet its short term obligations.
Leverage ratios

a. Debt ratio: The decrease in debt ratio of the company shows its less involvement
of debt to finance fixed assets of the company.
b. Time’s interest earned ratio: The improvement in the Time interest earned ratio
shows is ability to pay interest.

Asset management ratio

a. Total asset turnover: The increase in total asset turnover ratios shows the company
has more efficiently utilized the overall assets to generate more sales revenue.

 
Profitability ratios

a. Profit margin: The increase in the profit margin ratio shows the improvement in the
company’s ability to earn by its sale after paying all the necessary expenses.
b. Return on total assets: The improvement in return on total assets ratio shows the
good effectiveness of the operating management of the firm.
c. Return on owner’s equity: The increase in return on owners’ equity shows the
improvement in both operating and financial decisions of the company.

Table 12: Silver River Manufacturing Company

Pro Forma Income Statements (Revised)
Worksheet for Year End 2017 (Thousands of Dollars)
Particulars 2015 2016 Revised 2017 Revised

Net Sales 215305 228223 249904.5

Cost of Goods Sold 183307 188284 199923.6

Gross Profit 31998 39939 49980.9

Administrative and Selling 18569 18258 18742.8

Depreciation 2244 2665 2006

Miscellaneous expenses 6297 3994 3123.8

Total operating expenses 27110 24917 23872.6

EBIT 4888 15022 26108.3

Interest on short-term loans 2006 2165 -

Interest on long-term loans 1052 1052 1052

Interest on mortgage 233 210 189

 
 Net income before tax 1597 11595 24867.3

Taxes 767 5565.6 11936.28

Net income 831 6029.4 12931.02

Dividends on stock 208 1507.35 3232.74

Additions to retained earnings 623 4522.05 9698.28

Table 13: Silver River Manufacturing Company

Pro Forma Balance Sheets (Revised)

Worksheet for Year End 2017 (Thousands of Dollars)

2016
Particulars 2015 Revised 2017 Revised

Assets

Cash 4296 39666.2 22192.1

Accounts Receivable 32293 20286.49 22213.7

Inventory 51324 33032 35074

Current Assets 87913 65535 79480

Land, Buildings, Plant and

Equipment 25161 32173 33139

Accumulated Depreciation (7363) (10028) (12033)

Net Fixed Assets 17798 22145 21105

Total Assets 105711 87680 100585

 
 Liabilities and Equities

Short-term bank loans 20056 0.00 0.00

Account payable 21998 17594 18474

Accruals 8064 10231 12789

Current liabilities 50118 27826 31263

Long-term bank loans 10519 10519 10519

Mortgage 2574 2314 2083

Long-term debt 13092 12833 12602

Total liabilities 63211 40658 43865

Common stock 25596 25596 25596

Retained earnings 16904 21426 31124

Owners' equity 42500 47022 56720

Total Capital 105711 87680 100585

Working Notes:

Calculations that affect changes

Particulars 2016 2017

Projected sales 215305 * 1.06 228223.3 228223.3* 1.095 249904.5

Cost of goods 82.5% of

sold 228223.3 188284.2 80% 249904.5 199923.6

Administrative
and selling
expenses 8% of 228223.3 18258.76 7.5% of 249904.5 18743

 
Miscellaneous 1.75% of 1.25% of
expenses 228223.3 3,993.9 249904.5 3123.81

Taxes 48% of 11595 5565.60 48% of 25050 12024

Working Notes:

Particulars
2016 2017
Retained Additions in Total Retained Additions in Total
earnings 2016 earnings 2017
(2015) (2016)
Retained 16904 4522 21426 21426 9770 31196
Earnings

Particulars 2016 2017

Formula Calculations Total Calculations Total
Accounts Average 32 20286 32= Receivables / 22213
Receivables collection (249904.5 / 360)
period = =Receivables
Receivables / / (228223.3 /
Sales per day 360)

Inventory Inventory 5.7 = 33032 5.7= 199923 / 35074

turnover = 188284 / Inventory
Sales / Inventory
Inventory

 
Notes:

1. Cash is the balancing figure.

2. Accounts receivables and inventory has been calculated by using the industry
average ratios.
3. Major changes have been observed in ratios like current, quick, debt ratio, interest
earned, total assets turnover, profit margin, ROA and ROE.

Table 14: Silver River Manufacturing Company

Ratio Analysis Year Ended December 31 (Revised)

2016
Particulars 2015 Revised 2017 Revised Industry average

Liquidity Ratios

Current ratio 1.75 2.35 2.54 2.50

Quick Ratio 0.73 1.17 1.42 1.00

Leverage Ratios

Debt ratio (%) 59.8 46 43.57 50.00

Times interest earned 1.48 4.38 21.19 7.70

Asset Management Ratios

Inventory turnover (Cost) 3.57 5.70 5.70 5.70

Inventory turnover (Selling) 4.19 6.9 7.12 7.00
Fixed asset turnover 12.1 10.3 11.84 12.00
Total asset turnover 2.04 2.6 2.48 3.00
Average collection period 54 32 32 32.00

 
Profitability Ratios

Profit margin (%) 0.35 2.64 5.21 2.90

Gross profit margin (%) 14.86 17.5 20 18.00
Return on total assets 3.68 6.87 12.94 8.80
Return on owners' equity 0.78 12.82 22.94 17.50

Comparison of forecasted and revised financial ratios of 2016 and 2017:

2015 Forecasted Revised Forecasted Revised

Particulars 2016 2016 2017 2017

Current ratio 1.75 1.69 2.35 1.83 2.54

Quick ratio 0.73 1.092 1.16 1.23 1.42

Debt ratio(%) 6.0 59.0 46.37 55.0 43.58

Times interest earned 1.48 2.68 4.38 4.68 21.18

Inventory
turnover(cost) 3.57 5.70 5.70 5.70 5.70

Inventory
turnover(selling) 4.20 6.9 6.91 7.1 7.13

Fixed assets turnover 12.1 10.3 10.31 11.26 11.84

Total asset turnover 2.04 1.98 2.6 1.94 2.48

Average collection
period 54 32 32 32 32

Profit margin (%) 0.39 2.15 2.64 4.27 5.21

14.86 17.5 17.5 20 20

Gross profit

 
margin (%)

Return on total assets 0.79 4.26 6.88 8.20 12.94

Return on owner's
equity 1.96 10.34 12.82 18.38 22.91

1. Liquidity ratio
Since all short term loans would have been met by the end of 2016, current and quick
ratios would increase. It shows the company’s ability to meet its short term obligation
in coming year will be better.

2. Leverage ratio

Debt ratio has declined as we can see in the trend above which reduces the risk of
bank as there would be lower debt in comparison to assets. With new policy, SRM
will have 46.37% of debt financing in 2016 as compared to previous 58.83%.
Similarly in 2007, SRM will have 54.98% of debt financing and after the repayment
the SRM will have 43.61%.

Significant increase in times interest earned ratio is observed in 2017 as EBIT is in

increasing trend which indicate the lower risk of interest default.

3. Profitability ratio
Profit margin has also increased as income is in an increasing trend with decrease in
interest expenses. The return from the total assets of SRM will be improved after the
repayment of all loans. The profit generated from shareholders equity will also be
improved if all the short-term loans are repaid. As major ratios would have been
improved by implementing new policy of repayment of short term loan by 2016,
financial situation of the company would be better off.

 
Working Notes:
Computation
Particulars Formula 2016 2017
Current assets/
current
Current ratio liabilities 65535 / 27826 2.35 79552/ 31263 2.54
(Current
assets -
inventories)
Current (65535-33032) / (79552-35074)/
Quick ratio liabilities 27826 1.16 31263 1.42
Total debt /
Debt ratio(%) Total asset 40658 / 87680 46 43865 / 100657 43.57
EBIT /
Times interest earned Interest 15022 / 3427 4.38 26292 / 5572 21.19
COGS /
Inventory turnover(cost) Inventory 188284 / 33032 5.70 199923 / 35074 5.70
Sales /
Inventory turnover(selling) Inventory 228223 / 33032 6.90 249904 / 35074 7.12
Sales / Fixed
Fixed assets turnover asset 228223 / 22145 10.3 249904 / 21105 11.84
Sales / Total
Total asset turnover asset 228223/ 87680 2.6 249904 / 100657 2.48

Receivables / 20286 / (228223 / 22214 / (249904 /

Average collection period Sales per day 360) 32 360) 32

(Net income /
Profit margin (%) Sales) * 100 (6030/228223)*100 2.64 (13027/249904)*100 5.21

(Gross profit / (39939 / (49981/

Gross profit margin (%) Sales) * 100 228223)*100 17.5 249904)*100 20

 
 (Net income /
Total asset) * (13027 /
Return on total assets(%) 100 (6030 / 87680)*100 6.87 100657)*100 12.94
(Net income /
Return on owner's Total equity) *
equity(%) 100 (6030 / 47022)*100 12.82 (13027/ 56792)*100 22.94

Question No. 6:
On the basis of your analyses, do you think that the bank should:
a) Extend the existing short and long-term loans and grant the additional
$7,012,500 loans, or
b) Extend the existing short and long-term loans without granting the
additional loan, or
c) Demand immediate repayment of both existing loans?
If you favor (a) or (b) above, what conditions (collateral, guarantees, or other
safeguards) should the bank impose to protect itself on the loans?

According to our analysis, we found that it would be beneficial for both the bank and the
company, if the bank extends the existing short and long term loans and grant the
additional $7,012,500 loans. We have following reasons to support our recommendation:

1. The past performance of SRM had been recognized to be effective, because

SRM pays due amount within the due time which reflects the good reputation
in the market and considered the SRM company to have good long run
prospect.

2. The current problems faced by SRM are not solely because of its operational
failure. Rather, it is due to unavoidable circumstances like financial downturn
(recession) in the market and the unexpected change in the climatic conditions
that reduced the demand of its products in the market.

 
 3. SRM is also committed to repaying its loan. Further, Mr. White had signed a
contract for a plant expansion. The company has jumped into mobile chassis
which is beneficial area. Shifting from policy of aggressive marketing and
sales promotion to full margin prices, standard industry credit term and tighter
credit standard would reduce the cost of goods sold. Likewise, he is also
planning to minimize administrative and selling expenses and miscellaneous
expenses in the coming two years which shows the company financial
position might improve significantly over the next two years.

4. SRM has made the planning for the market penetration. So, there is a project
growth rate of 6% & 9.5% in sales on an average for 2016 & 2017
respectively, assuming there is no significant improvement in either national
or industry economy. This condition is also likely to strengthen their chance
of making the debt payment.

5. The company is also likely to enter in the horse van and mobile chassis
segments of the market that are rapidly growing with significant profit
prospective. Such an investment is likely to reduce the dependency of the
company on farm and light utility trailer segment that is presently causing the
firm’s poor performance.

6. Assuming that the projected ratios hold true in future, these ratios exceed the
contractual requirement of the bank as it is very possible that SRM will
eventually succeed in fulfilling its financial obligations.

7. SRM’s projected Altman Z-Score for the year 2016 & 2017 is above 3,which
shows the less chances of company going bankrupt in future.

On the basis of our analysis we can assured that if SRM will undertake new facilities then
within two years period SRM will be able to generate enough profit to meet the entire

 
obligation owned to the bank. Another reason is that the company has a growth prospect
and sound projected financial figures the bank should not break the relationship with the
company due to the temporary problems faced by the company. And according to the
condition of SRM we can find that they seems quite able to repay their short term loan.

Question No.7:

If the bank decides to withdraw the entire line of credit and to demand immediate
repayment of the two existing loans, what alternatives would be open to SRM?

Though SRM had shown high and steady growth in sales, assets and profits prior to 2013,
however, towards the end of 2013 the demand for new field trailers in citrus and
vegetable industries started to fall. In order to sustain profits and superior market
performance Mr. White aggressively reduced prices to stimulate further sales.
Consequently, production continued unabated and inventories started increasing.

Mr. White’s next step was to relax credit terms and standard to maintain preciously high
growth and to reduce the ever expanding inventory. This effort of Mr. White increased
sales through the third quarter of 2015, but inventories also increased steadily and
particularly short-term credits and accounts receivable grew up dramatically.

If the bank decides to withdraw the entire line of credit & demanded immediate
repayment of the two existing loans i.e. short term loans & long term loans, SRM might
make following decision to repay bank loan.

1. Sales of Fixed Assets – SRM can sale its ideal fixed assets to generate cash
which could be used to repay certain portion of bank loan.
2. Issue of Share Capital – SRM can issue additional number of equity share to
generate cash from general public which could be used to repay long term &
Short term loan.
3. Issue of Bond – SRM has the right to collect cash form general public in the
form of bond with fixed interest rate which could be paid at the end of every
year.

 
 4. Liquidate the Inventory & Sell Account Receivable – Balance sheet of SRM
has accounts receivables of $ 29356.86 and inventory worth $ 46658.62. It
can sell its receivables and liquidate the inventory in order to repay the loan.
5. Use of Cash Balance - SRM company could use cash in its cash balance to
repay certain amount of bank loan.
6. Cut off dividend - SRM can decide to freeze the cash dividend payable to
shareholder for certain period and such amount could be used to repay the
bank loan.

7. Make strict collection policies-The average collection period of SRM is 54

days in 2015. The company has to make its collection policies stricter so that
the debtors will pay in time. Here, SRM is adopting liberal collection policies.
8. Take mortgage loan from bank-SRM has land, buildings, plant and equipment
worth of $ 22873.5 and it has mortgage worth of $ 2339.62. This reflects that
SRM has the capacity to mortgage its land and buildings. Hence, it can
request loan with another bank mortgaging its land and buildings.

According to our analysis, SRM has to take immediate actions as well as appropriate
steps to stabilize its condition. It can mix the above mentioned actions as a response to
the bank’s decision of withdrawing entire line of credit and demanding immediate
repayment of existing loans.

Question No.8:

Explain some of the lessons learnt from the case.

Silver River Manufacturing company (SRM), a large regional producer of agricultural

utility such as grove trailers, citrus transport carrier, is being hit hard by deteriorating
nation’s farm economy. This company has been a good customer of Marion country
National Bank (MCNB) however, due to inability to meet the contractual financial ratio

 
by the company, Lesa Nix; Vice-president of MCNB had made a alerting phone call to
the Greg White, founder and president of SRM.

After analyzing the case of SRM, we are able to analyze and interpret the financial ratio
of the company and compare such ratio’s with industry average which helps to know the
financial position and performance of the company that enables management to make
financial decisions. Like ;to compute and analyze Du Pont, to know whether the company
is likelihood of bankruptcy with the help of Altman Z-Score, to prepare the Balance
Sheet of the company to know the financial position of the company, to prepare Income
Statement of the company to know the financial performance in a certain year,to compare
the ratio’s obtained from Income Statement and Balance Sheet with industry average,to
decide whether or not a company is eligible for loan, to decide whether or not, a company
should distribute cash dividend in a certain year.

Moreover to prepare projected Balance Sheet and Income Statement of the company,
how to make immediate repayment of the bank loan with the help by analyzing various
alternatives, to identify strength and weakness of the company with the help of Du Pont
System, to know whether the company can maintain minimum cash balance after
repaying the short-term and long-term loan, to make complex financial decisions and to
identify and solve the problem in policies such as changing aggressive marketing and
sales proportion strategy to full-margin pricing, standard industry credit terms and tighter
credit standards.

 
 

 
 Conclusion
 
 
Silver River Manufacturing Company (SRM) is U.S based, whose stock is traded over
the counter, and is large regional producer of farm and utility trailers specialized lives
stock carriers and mobile home chassis. More than 85% of SRM’S sales come from the
southern part of the United States though a growing market for customer horse transport
vans designed and produced by SRM is developing nationally as well as internationally.
This company has been a good customer of Marion country National Bank (MCNB)
however, due to inability to meet the contractual financial ratio by the company, Lesa
Nix; Vice-president of MCNB had made an alerting phone call to the Greg White,
founder and president of SRM.
The past performance of SRM had been recognized to be effective, because SRM pays
due amount within the due time which reflects the good reputation in the market and
considered the SRM company to have good long run prospect. And The current problems
faced by SRM are not solely because of its operational failure. Rather, it is due to
unavoidable circumstances like financial downturn (recession) in the market and the
unexpected change in the climatic conditions that reduced the demand of its products in
the market. SRM is also committed to repaying its loan.

Further, Mr. White had signed a contract for a plant expansion. The company has jumped
into mobile chassis, which is beneficial area. Shifting from policy of aggressive
marketing and sales promotion to full margin prices, standard industry credit term and
tighter credit standard would reduce the cost of goods sold. Likewise, he is also planning
to minimize administrative and selling expenses and miscellaneous expenses in the
coming two years, which shows the company financial position might improve
significantly over the next two years.

This study examines the relationship between corporate governance and firm
performance in Nepal’s banking sector. It shows that Return on equity and return on
assets are negatively relative to board size and number of executive directors. There is

 
also a negative relation of NPLs with board size, the number of independent directors and
number of board meetings and return on equity is positively related to leverage, number
of independent directors and number of board meetings.

There is also positive relation of return on assets with leverage, number of independent
directors, and number of board meetings. And the alternatives of SRM are; take
mortgaged loan from bank, sales accounts receivable and liquidate inventory, make strict
collection policies, Immediate action as well as gradual step to stabilize its condition,
stop payment of dividend payment and delay its trade payable.

 
Financial ratio used in case
Current Asset
1) Current Ratio :
Current Liabilities

Current Asset – Inventory

2) Quick Ratio:
Current Liabilities
Total Debt
X 100 %
3) Debt Ratio: Total Asset

EBIT
4) Times interest Earned:
Interest Expenses

Cost of Goods Sold

5) Inventory Turnover Ratio(Cost):
Average Inventory

Net Sales
6) Inventory Turnover Ratio(Selling):
Inventory

Net Sales
7) Fixed Asset Turnover:
Net Fixed Assets
Net Sales
8) Total Asset Turnover:
Total Assets

Receivable
9) Average Collection Period:
Net Sales per Day

Net Income
10) Profit Margin: X 100 %
Net Sales
Gross Profit
11) Gross Profit Margin: X 100 %
Net Sales

Net Income
12) Return on Owner's Equity: X 100 %
Common Equity

𝐌𝐚𝐫𝐤𝐞𝐭𝐏𝐫𝐢𝐜𝐞𝑷𝒆𝒓𝐬𝐡𝐚𝐫𝐞 𝐌𝐏𝐒
13) Price Earnings Ratio:
𝐄𝐚𝐫𝐧𝐢𝐧𝐠𝐬𝐏𝐞𝐫𝐒𝐡𝐚𝐫𝐞 𝐄𝐏𝐒

 
 𝑵𝒆𝒕  𝑰𝒏𝒄𝒐𝒎𝒆
14) Earnings Per Share:
𝑵𝒐.𝒐𝒇  𝑪𝒐𝒎𝒎𝒐𝒏  𝑺𝒉𝒂𝒓𝒆𝒔  𝑶𝒖𝒕𝒔𝒕𝒂𝒏𝒅𝒊𝒏𝒈

15) Market Price Per Share (MPS) PE Ratio*Earning per share

𝑫𝒊𝒗𝒊𝒅𝒆𝒏𝒅  𝑷𝒆𝒓  𝑺𝒉𝒂𝒓𝒆  (𝑫𝑷𝑺)

16) Dividend Pay Out Ratio
𝑬𝒂𝒓𝒏𝒊𝒏𝒈𝒔  𝑷𝒆𝒓  𝑺𝒉𝒂𝒓𝒆  (𝑬𝑷𝑺)

17) Altman Z score, Z = 0.012X1 + 0.014X2 + 0.033X3 + 0.006X4 + 0.999X5

𝑪𝒖𝒓𝒓𝒆𝒏𝒕  𝑨𝒔𝒔𝒆𝒕𝒔!𝑪𝒖𝒓𝒓𝒆𝒏𝒕  𝑳𝒊𝒂𝒃𝒊𝒍𝒊𝒕𝒊𝒆𝒔

Where, X1 = x 100
𝑻𝒐𝒕𝒂𝒍  𝑨𝒔𝒔𝒆𝒕𝒔

𝑹𝒆𝒕𝒂𝒊𝒏𝒆𝒅  𝑬𝒂𝒓𝒏𝒊𝒏𝒈𝒔
X2 = x 100
𝑻𝒐𝒕𝒂𝒍  𝑨𝒔𝒔𝒆𝒕𝒔
𝑬𝒂𝒓𝒏𝒊𝒏𝒈𝒔  𝑩𝒆𝒇𝒐𝒓𝒆  𝑰𝒏𝒕𝒆𝒓𝒆𝒔𝒕  𝒂𝒏𝒅  𝑻𝒂𝒙  (𝑬𝑩𝑰𝑻)
X3 =
𝑻𝒐𝒕𝒂𝒍  𝑨𝒔𝒔𝒆𝒕𝒔

𝑴𝒂𝒓𝒌𝒆𝒕  𝑽𝒂𝒍𝒖𝒆  𝒐𝒇  𝑬𝒒𝒖𝒊𝒕𝒚

X4 =
𝑩𝒐𝒐𝒌  𝐕𝐚𝐥𝐮𝐞  𝒐𝒇  𝑻𝒐𝒕𝒂𝒍  𝑫𝒆𝒃𝒕

𝑵𝒆𝒕  𝑺𝒂𝒍𝒆𝒔
X5 =
𝑻𝒐𝒕𝒂𝒍  𝑨𝒔𝒔𝒆𝒕𝒔
18) Du-Pont identity
Returns on Equity = Total Assets Turnover X Net Profit Margin x Equity
Multiplier
𝑵𝒆𝒕  𝑺𝒂𝒍𝒆𝒔 𝑵𝒆𝒕  𝑰𝒏𝒄𝒐𝒎𝒆 𝑻𝒐𝒕𝒂𝒍  𝑨𝒔𝒔𝒆𝒕𝒔
= x x
𝑻𝒐𝒕𝒂𝒍  𝑨𝒔𝒔𝒆𝒕𝒔 𝑵𝒆𝒕  𝑺𝒂𝒍𝒆𝒔 𝑶𝒘𝒏𝒆𝒓𝒔  𝑬𝒒𝒖𝒊𝒕𝒚