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Garden State Case#9
Garden State Case#9
State
Container corporation
other
companys sales come from the northeastern part of the United States,
the banks computerized analysis system; the report showed that Garden
States financial position was bad and getting worse.
computer, which then calculates key ratios for each customer and charts
trends in these ratios.
If any ratio is
Particularly disturbing
were the 1992 current, quick, and debt ratios, all of which failed to meet
the
contractual
limits
of
2.0,
1.0,
and
55
percent,
respectively.
Technically, the bank had a legal right to call all the loans it had
extended to Garden State for immediate repayment and, if the loans
were not repaid within ten days, to force the company into bankruptcy.
knew this would back Garden State into a corner from which it might
not be able to emerge.
which for Garden State was 3.04 for 1992 slightly below the 3.20
minimum that Marthas bank uses to differentiate strong firms with little
likelihood of bankruptcy in the next two years from those deemed likely
to go into default.
loan, the Senior Loan Committee will require strong and convincing
The recession that plagued the U.S. economy in the early 1990s
In light
that normal weather and national economic policies would revive the
ailing economy and that the downturn in demand would be only a shortterm
problem.
Consequently,
production
continued
unabated,
and
credit standards in early 1992 and improved its already favorable credit
terms.
through the third quarter of 1992, but not high enough to keep
the bank for a long-term loan in 1991 and also increased its short-term
credit lines in both 1991 and 1992. However, this expanded credit was
decision for the long run, but they did not think it would be necessary to
follow the policy for very long - the 1992 summer vegetable crop looked
like a record breaker, and it was unlikely that a severe drought would
pull out of the weak growth scenario in late 1992. Thus, the company
was optimistic that its stable and profitable markets of the past would
soon reappear.
As he
the new production facility went on line, the company would be able to
increase output in several segments of the shipping container market.
It
might have been possible to cut back on the expansion plans and to
explained the situation, and asked for their help in formulating a solution.
The
carried out, Garden States sales would grow by 10% from 1992 to 1993
and by another 15% from 1993 to 1994.
Garden State should reverse its recent policy of aggressive pricing and
easy credit, retuning to pricing that fully covered costs plus normal profit
margins and to standard industry credit practices.
These changes
should enable the company to reduce the cost of goods sold from over
85% of sales in 1992 to about 82.5% in 1993 and then to 80% in 1994.
Similarly, the management group felt that the company could reduce
to
degrade
the
quality
of
the
firms
products
or
the
bills would be paid more promptly, and to convince the bank how
serious management is about correcting the companys problems, cash
dividends would be eliminated until the firm regains its financial health.
Assume that Jim has hired you as a consultant to first verify the
possibility of a reduction in the credit lines and that assume the bank
will increase the line of credit by the $12,750,000 needed for the
expansion and supporting working capital.
expect the level of interest rates to change substantially over the twoyear forecast period; however, you both think that the bank will charge
combined federal and state tax rate should also hold for 2 years.
Finally, if the bank cooperates, and if Jim is able to turn the company
around, the P/E ratio should be 12 in 1993 and should rise to 14 in
1994.
Your first task is to construct a set of pro forma financial
statements that Jim and the rest of the Garden State management team
can use to assess the companys position and also to convince Martha
that her banks loan is safe, provided the bank will extend the firms line
of
credit.
Then,
you
must
present
your
projections,
with
particularly, Martha and her bosses, could ask you some tough questions
about your analysis and recommendations.
following questions are designed to help you focus on the issues, but
they are not meant to be a complete and exhaustive list of all the
relevant points.
Table 1
Historical and Pro Forma Balance Sheets
For Years Ended December 31
(in Thousands of Dollars)
Pro Forma
1990
Assets:
Cash and marketable
securities
Accounts receivable
Inventory
9,930
34,196
39,791
1991
7,363
36,924
69,361
1992
6,550
58,714
97,984
1993
1994
Current assets
83,888
163,24
113,647
Land, buildings, plant,
and
34,634
39,195
44,604
57,036
58,746
(5,992)
(9,308)
112,53
143,534
194,46
215,37
6,376
10,200
36,466
31,990
33,590
Accounts payable
13,528
21,012
39,996
18,602
23,252
Accruals
6,886
10,200
14,662
Current liabilities
26,790
41,412
91,124
Equipment
Accumulated
depreciation
Total assets
28,642
29,887
31,216
38,802
36,866
10
13,388
20,082
20,082
20,082
4,208
3,788
24,290
23,870
20,082
Mortgage
Long-term debt
Total liabilities
5,738
5,202
4,680
19,126
45,916
25,284
66,696
24,762
115,88
6
Common stock
46,538
46,538
46,538
46,538
46,538
Retained earnings
20,076
30,300
32,041
Total equity
66,614
76,838
78,579
122,53
143,534
194,46
equity
$
$
0
$
$
$
$
5
Notes:
a. 7,000,000 shares of common stock were outstanding throughout
the period 1990 through 1992.
11
12
Table 2
Historical and Pro Forma Income Statements
For Years Ended December 31
(Thousands of Dollars)
Pro Forma
Net sales
1990
1991
1992
1993
1994
350,546
378,549
401,251
441,376
507,58
282,252
311,110
342,016
364,135
Gross profit
68,294
67,439
59,235
77,241
101,517
selling
Administration and
Expenses
25,580
30,690
33,762
13
Depreciation
Miscellaneous expenses
3,188
4,080
4846
3646
4,054
11,450
6,345
3,316
7,114
$
32,822
41,120
49,292
EBIT
35,472
26,319
9,943
29,361
loans
638
1,122
3,647
5,906
5906
loans
1,339
2,008
2,008
1,912
1,912
Interest on mortgage
516
468
421
379
341
2,493
3,598
6,076
8,197
8,159
earnings
32,979
22,721
3,867
Taxes
13,192
9,088
1,547
18,119
Net income
19,787
13,632
2,320
Dividends on stock
4,947
3,408
580
$
Interest on short-term
Interest on long-term
Total interest
Before-tax
Additions to retained
$
$
$
$
$
$
$
$
$
$
$
$
$
$
$
$
14
earnings
14,841
1,740
10,224
Notes:
Table 3
Common-Size Balance Sheets
Assets:
1991
1992
15
8.82%
30.39
35.36
5.13%
25.72
48.32
74.55%
3.37%
X
50.39
79.18%
Land, buildings, plant, and equipment
Accumulated depreciation
30.78%
27.31%
X%
(5.32)
(6.48)
(6.88)
20.82%
16.05%
25.45%
100.00%
100.00%
100.00%
16
5.67%
12.02
Accruals
Current liabilities
6.12
23.81%
7.11%
18.75%
7.11
7.54
28.85%
46.86%
14.64
Mortgage
Long-term debt
20.57
11.90%
13.99%
5.10
3.62
17.00%
17.62%
2.41
X
Total liabilities
40.80%
46.47%
59.59%
Common stock
41.36%
32.42%
23.93%
Retained earnings
17.84
21.11
17
X
59.20%
53.53%
40.41%
100.00%
100.00%
100.00%
Total equity
Table 4
Common-Size Income Statements
18
For Years
Ended
December
31
19
1990
1991
1992
100.00%
100.00%
100.00%
80.52
82.18
19.48%
17.82%
14.76%
7.30%
8.11%
8.41%
0.91
0.88
1.16
1.88
2.85
9.36%
10.86%
12.28%
EBIT
10.12%
6.95%
2.48%
0.18%
0.30%
Net sales
Gross profit
20
0.38
0.53
0.15
0.12
0.10
0.71%
0.95%
1.51%
9.41%
6.00%
0.96%
3.76
2.40
5.64%
3.60%
Total interest
Before-tax earnings
Taxes
Net income
0.58
Dividends on stock
0.90%
1.41%
0.14%
21
4.23%
0.43%
2.70
Table 5
1992
Sales
$378,549
Increase in rec.
(2,728)
Cash sales
COGS
Increase in inventories
Increase in accts payable
Increase in accruals
$379,461
(311,110)
(342,016)
3,314
$45,939
Taxes
(7,114)
X
X
($33,762)
(11,450)
(9,088)
($953)
(28,623)
18,984
($45,939)
$375,821
(29,570)
7,484
$401,251
(1,547)
X
22
($4,561)
($5,409)
$3,824
$26,266
6,694
Repayment of mortgage
Interest of expense
(536)
(3,598)
Common dividends
(3,408)
(522)
(6,076)
(580)
$19,088
($2,539)
Table 6
Historical and Pro Forma Ratio Analysis
For Years Ended December 31
Pro F.
Liquidity Ratios:
Current ratio
1990
1991
3.13
2.74
1992
1993
X
23
Quick ratio
Leverage Ratios:
Debt ratio
TIE coverage
1.65
40.80%
0.72
1.07
46.47
%
1.13
14.23
7.31
1.64
7.09
4.49
3.49
5.70
8.81
5.46
4.10
Fixed asset
12.24
12.67
12.85
11.38
Total asset
3.12
2.64
2.05
35.12
35.11
52.68
Profit margin
5.64%
3.60%
Gross profit
19.48%
17.82
Asset
Management
Ratios:
Inventory turnover
(cost)
Inventory turnover
(sales)
turnover
turnover
Days sales
outstanding
(ACP)
Profitability
Ratios:
margin
0.58% X
14.76%
17.50
24
Return on total
17.58%
5.90%
assets
ROE
Other Ratios
Altman Z scored
29.70%
9.50%
17.74
2.95%
%
d
Payout ratio
6.64
25.00%
4.75
25.00
25.00%
5.42
0.00%
Table 6 Continued
Pro Forma
1994
Liquidity Ratio:
Current ratio
Quick ratio
2.50
X
1.00
Leverage Ratios:
Debt ratio
52.31%50.00%
TIE coverage
Ind. Aver.
6.55
5.70
7.70
5.70
25
(ACP)
7.00
13.77 12.00
3.00
32.0032.00
Profitability Ratios:
Profit margin
2.90%
20.00%
18.00%
10.94%
8.80%
ROE
Other Ratios
Altman Z scored
X 17.50%
5.42
4.65
26
Payout ratio
20.00%
27
Notes:
a. Uses cost of goods sold as the numerator.
b. Uses net sales as the numerator.
c. Assume a 360-day year.
Z = 0.012x1+0.014x2+0.033x3+0.006x4+0.999x5
X5 = sales/total assets
28
expressed as percentages.
and Louis C. Gapenski,
Edition (Fort Worth: