Finance Management - 2

Group Project

Group - 7
Members Roll No
ANSHUMAN SINGH 9A
DEEPANSHU YADAV 11A
HIMANSHU NARULA 17A
SURYA PRATAP SINGH 36A
TUSHAR KUMAR 39A
Summary
• Business of trading in fun products ranging from toys to party products
from crafts and hobbies to holiday products.
• Average annual growth rate = 20% in last 5 years
• Untapped market – Will sustain the growth rate for 3-5 years

• Corporate office taken on lease 3 years back.

• Contract for lease – 3 years and awaiting renewal
• Estimated to be sufficient for the company’s requirement for next 5
years with minor modifications.
• Real estate skyrocketed - Lessors trying to encash the opportunity
Financial Statement of the company
Oriental Trading Company Ltd
Balance Sheet as on 31 March 2006

(in lakhs)

Assets Amount Liabilities Amount

Fixed Assets (including office
equipment and fittings) 150 Share Capital 2919

Cash and Cash Equivalents 3579 Reserve and Surplus 1354

Short-term investments 178 Long Term Loans -

Accounts Receivables 373 Accounts Payable 132

Inventories 139 Accruals 14

Total 4419 Total 4419

 Income Statement for Oriental Trading Company
Ltd.
Income Statement for Oriental Trading Company Ltd.
For the year ended 31 March 2006
(Rs in lakhs)
Net Sales 2037.43
Operating Costs 826.14
Depreciation 27.35
Rent 475
Operating Income 708.95
Other Income 113.95

Earning before interest and tax (EBIT) 822.9

Interest 12
Less: Earning before tax 810.9
Tax 298
Earnings after tax 512.89
Dividends 205.16
Retained Earnings 307.74
Leasing Option
POSITIVES
• Flexibility to the company – company can lease according to its changing
business requirement.
• Help company to utilize resources to its core business initiate
• Enables Lessee to charge lease rentals paid to revenue – Transfer maintenance
responsibility to the lessor.

NEGATIVES
• Renewal Only with following clauses
• 20% hike in starting lease rental
• 10% annual hike
Buying Option
POSITIVES
• Able to capture rising estate value in balance sheet.
• Could realize gains on the sale of owned office spaces.
They leverage sale price that they realized by taking mortgage loans and acquiring much
bigger office spaces.
• Interest rates harden – Increase firm’s debt-equity ratio
– Erode firm’s future debt-raising potential

NEGATIVES
• Could not avail the benefit in times of slump.
• Interest rates harden – Company could end up paying heavy
interest paid on mortgage loan.
Cost of acquisition of office spaces in South Mumbai
Location Cost per square feet (Rs)
Worli 1000-21000
Parel 6500-14000
Bandra Kurla 11000-28000
Andheri Kurla 6500-8500
Malad 5000-7000
Powai 4500-6500
 Decision Problem
LEASE BUY
Continue with current office location. Buy its own office premises

Shift to another leased office space at

some suitable location in South Mumbai
Discussion
Decision
There are saving on tax and operating expenses which plays major role in this decision . With a lease
company will be able to deduct amount it I will pay as lease rent when calculating taxable profits.
Malad will be best leasing option of all the alternatives due to lease cost of lease.

 On Buy decision OTC will create a Capital assets for the company and will not be able to directly
deduct expenditure for office in full when the payment but will be allowed a deprecation (assumed in
the question) on office space.
Powai Will be the best alternative for a buy decision with estimated buying cost of 110,000,000 Rs.

 OTC will make a down payment of 40 per cent of the price, and finance the balance with a floating
rate, amortizing mortgage loan with annual payment payments at 11.25%.
In case of purchase it will reduce working capital of the company
Decision
Other Major issues is with Debt to equity ratio
With Purchase decision company will take mortgage loan of 60% of the value which will further
increase debt to equity ratio with will directly result in lowering liquidity of Oriental Trading
Company. This will Deteriorate financial ratios which may affect firm’s ability to obtain additional
financing, thereby limiting capital for growth and potentially profitable activities.
Company should go with Lease decision and should choose Malad over other places.
Calculations
Assumptions are made for following items:
◦ Annual Rate: 10%
◦ Mortgage Loan Assumed to be for 3 years
◦ Deprecation: 10%.

Among all alternative Lease Rent is Cheapest in Malad -This are no issues in shifting to new
property.
Considering all Variables to be constant Malad Will be selected as alternative to Current Lease.
Interest Rate assumed for both Conditions is 11.25%
It is assumed that Malad Lease will not get a 10 % hike provision.
Calculations: Step 1 Lease Comparison

Year Original Original Plus Hike Malad Lease

Rate per Square Foot 150 180 46

Total Lease cost per year      

1   3,600,000 920,000

2   3,960,000 920,000

3   4,356,000 920,000

Total   11,916,000 2,760,000

Calculations: Step 2 Lease or Buy
Malad (Cheapest available)
Year Lease Tax Exemption
Rate per Square Foot 46
1 Total Lease cost per year 920,000 340,400
2 920,000 340,400
3 920,000 340,400
Total 2,760,000 1,021,200
Year Lease Tax Exemption
Calculations: Buying Option

Buying Option - Powai

Total Value Down payment

110,000,000 44,000,000
 Tax
Mortgage Deprecation Interest Expenses Exemption Total Cost PV

66,000,000

22,000,000 11,000,000 7,425,000 18,425,000 6,817,250 22,607,750 20,321,573

22,000,000 11,000,000 5,785,313 16,785,313 6,210,566 21,574,747 17,431,938

22,000,000 11,000,000 3,961,160 14,961,160 5,535,629 20,425,531 14,834,513

52,588,024
Thank you!