Question.3218 - Background About a year ago soon after graduating with a college degree in finance, you joined a manufacturing company as an aide to the Vice President (Strategy). Your boss does not have any formal training in finance, but she has always been very receptive to new ideas that could improve the overall performance of the company. She is convinced that good financial strategy is a key component of the company’s overall growth strategy. During the past year, you have had the opportunity to accompany your boss to several high level policy meetings. You noticed that when it came to finance-related items in the agenda, most attention was focused on long-term fixed investment and the company debt policy. Even though working capital in the company was running at around 34% of sales and was trending up over the past few years, you noticed an absence of awareness, not to speakof urgency, about this matter. There were only occasional brief discussions in passing about how to improve the performance of the receivable department or the need to negotiate better terms with the suppliers. Since you were somewhat familiar with several well-known companies that had successfully introduced innovations in managing their working capital with remarkable results for the enterprise value, you felt that a new approach was needed for your company to achieve better control over working capital level, which you considered was way too high. You have since done some readings of the related literature and have done some brainstorming. Now you want to prepare a brief memo for your boss on this subject, highlighting the need for a new attitude toward working capital management. Working capital position is often interpreted as an indicator of how easily company can meet its short-term obligations. Creditors generally subscribe to this view of working capital. That is to say, working capital has traditionally been seen as a metric for evaluating a company’s operating liquidity, even though it is generally agreed that a company’s current assets may not often be easily liquidated in the short term. The idea of working capital as an indicator of liquidity is more meaningful in the context of a company facing liquidation than for a company as a going concern. In your memo, you should, among other things: I. Clarify the meaning(s) of the term working capital and explain what it means for the operation, profitability and growth of the company.You would like to use a simple cash conversion model to identify different components of operating cycle and show how these components can be influenced to better manage working capital. II. Point out that working capital is often viewed by companies simply as cost, and as a result, the company management tends to react to a “cash squeeze” by slashing working capital expenditure without carefully considering its implications for sales, profitability and growth. At the other end, there is also a tendency to invest too much in working capital to maximize short-term profit. Instead what you want to promote is an integrated and value-creating approach to working capital management in which all elements of tied-up capital across the balance sheet (fixed assets, inventories, receivables, payables, and cash) have to be considered as a whole. For example, it may be advantageous to acquire a new and more flexible machine (fixed asset) in order to reduce inventories. III. Highlight the significance of efficient management of working capital (shown as short-term investment) for the company’s long-term growth by showing working capital management as a lever for freeing up cash from inventory, accounts receivable, and accounts payable. By effectively managing various components of working capital, a company can reduce its dependence on outside funding for further investments and/or acquisitions. IV. Point out how inventory has received a lot attention in recent years. Excess inventory is one of the most overlooked sources of cash, some evidence suggesting that better inventory management canpotentially account for almost half of the savings from a working capital optimization process. By streamlining processes within the company—as well as processes involving suppliers and customers— companies can optimize inventory throughout the value chain. A best-practice NWC optimization is not just a pure reduction of NWC. It requires the applications of enhanced forecast accuracy and demand planning, advanced delivery and logistics concepts and optimized production processes to reduce work-in-progress inventory. Against this background, it is time for you sit down to prepare your memo! First, you will need to think through and develop the structure of your memo. Additional reading materials posted in D2L should help you organize your thoughts. Additional web search is strongly recommended to identify real world evidence on best-practice working capital management as far as possible. You need to identify and retrieve more information to supplement what you already know. You should like to keep your memo short, and to the point. It should be limited to a maximum of 7 pages (single-spaced), including a one-page executive summary. The summary should be placed at the beginning of your submission.CASE B: Financial Ratios Data for Barry Computer and its industry average follow. a. Calculate the indicated ratios for Barry. b. Construct the Du Pont equation for both Barry and the industry. c. Outline Barry’s strengths and weaknesses as revealed by your analysis. d. What kind of financial strategy is being pursued by Barry- matching, aggressive or conservative? Your answers must be typed. Balance Sheet as of December 31, 2011 (in Thousands $) Cash 77,500 Accounts payable 129,000 Receivables 336,000 Notes payable 84,000 Inventories 241,500 Other current liabilities 117,000 Total Current Assets 655,000 Total current liabilities 330,000 Net fixed assets 292,500 Long-term debt 256,000 Common equity 361,000 Total assets 947,500 Total liabilities and equity 947,500 Income Statement for Year Ended December 31, 2011 ( In Thousands $) Sales 1,607,500 Cost of goods sold 1,392,500 SGA expenses 145,000EBIT 70,000 Interest expense 24,500 EBT 45,500 Taxes (40%) 18,200 Earnings after taxes 27,300 Ratio Barry Industry Average Current assets/current liabilities __________ 2.0x Days’ sales outstanding a__________ 35 days Sales/inventory __________ 6.7x Sales/fixed assets __________ 12.1x Sales/total assets __________ 3.0x EAT/sales __________ 1.2% EAT/total assets __________ 3.6% EAT/common equity __________ 9.0% Total debt/total assets __________ 60.0% a = Calculation is based on a 365-day year.

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