Expert Answer:Northeastern University Ajax Electronics Case Stud

  

Solved by verified expert:Submit a case analysis of approximately 500-600 words that covers the following areas:Mr. Roberts is seeking a $100,000 loan from SaveMe Bank. The case ends with four questions. Answer only the Second one: “To what use would Roberts put the proceeds of the requested loan? Does Roberts need the loan to accomplish his objectives?”Focus on the cash. Use ratio analysis and the averages provided in Exhibit 4 to analyze why Mr. Roberts thinks he needs cash. You should also use this information to make a recommendation on how he might be able to get by with no loan, or a loan under the $100k he thinks he needs. If you were Mr. Clark, what would you do?This assignment will be submitted via TURNITIN.com
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Ajax Electronics
Marc H Meyer and James Molloy
Northeastern University
In midsummer 2012, John Clark, a loan officer of the SaveMe Bank of Ipswich, MA was reviewing
a loan request for $100,000 from Bob Roberts, president of AJAX Electronics.
Products:
AJAX Electronics had two product lines, industrial sensors and defibrillators. Revenue was split
evenly between them.
Bob Roberts, who had an electrical engineering degree, had worked previously as a manufacturing
engineer. AJAX had started out as a manufacturing process control consulting firm in 1995. In
1998, it began producing customized sensors for chemical, paper, and brewery companies for use in
their manufacturing processes to measure flow volumes, temperatures, pressures, and so forth.
Roberts did the selling to client manufacturers himself. He also did the design work and supervised
the manufacturing of these sensors. His engineering staff for this end of the business consisted of an
electrical engineer and a manufacturing engineer. Over the years, he had achieved a gross margin
for these industrial sensors of about 40%. Roberts felt that he could do better.
In 1999, through discussions with his father (who was a retired cardiologist in his late 80’s) Roberts
became convinced that there was an opportunity to design a low-cost defibrillators for emergency
medical applications. Health care was improving around the world. Also, inexpensive off-shore
manufacturing was becoming increasingly available to small firms (Roberts was particularly
interested in southern China). By late 1999, he had designed a low-cost defibrillator and had
received FDA approval to sell it. His father had provided the limited clinical expertise needed for
the product. He began manufacturing the product in one side of his existing facility in 2000. AJAX,
located in rented space in northeastern Massachusetts, was fully equipped with the latest electrically
driven machinery.
Defibrillators are used to apply electrical shock to the heart when its stops beating. The types of
buyers of defibrillators are in-hospital users, i.e.. doctors (mainly cardiologist) and emergency room
technicians, and out of hospital organizations, such as ambulances. There are also three basic types
of defibrillators: “low-end” defibrillators, which produce and deliver the required electrical shock at
the hands of a trained operator; mid-range defibrillators, which detect when a shock is required by
the heart, and is then delivered at the hands of a trained operator; and “high end” defibrillators,
which are programmable “computers” which detect the need for shock, and target the delivery of the
shock to a point in the heart rhythm.
Molloy & Meyer, Ajax Electronics
Page 1
AJAX made only low-end defibrillators and had achieved a gross margin in the 25% range. High
volume manufacturers of defibrillators were known to achieve gross margins of about 40%. There
were many competitors in the low-end market. In the high end market, two firms dominated the inhospital applications, Hewlett Packard and Zoll, while the out-of-hospital emergency market was
dominated by PhysioControl. Interestingly, PhysioControl’s government permit to sell defibrillators
was recently revoked by the FDA for product quality problems. Given the broad scope of the market
for defibrillators, most firms, particularly the smaller ones, employed medical products distributors
as the primary sales channel. Industry observers found that US. defibrillator market was about $100
million in 1999. This market was projected to increase to approximately $700 million by 2010,
fueled by high levels of growth in markets such as China and South America.
Financials:
The company was owned 100% by Roberts. Sales volume grew steadily, but always seemed to be
higher than could be supported by available capital. In other words, AJAX always seems starved for
cash. Capital needs were usually furnished through short-term borrowing. Mr. Roberts, the
company’s only officer, was anxious to maintain AJAX’s record of profitability, so he only drew a
salary of $40,000 in recent years. He was fifty years old.
Mr. Roberts was thoroughly unhappy with the company’s present loan arrangement with the
Webster Bank from which it had been borrowing between $45,000 and $60,000 at an annual interest
of 11%. Mr. Roberts pledged accounts receivable as security. He thought that Mr. Schell, the loan
officer at the Webster Bank who handled the AJAX account, was a hindrance. Mr. Schell seemed to
constantly make suggestions that weren’t appropriate for AJAX. In fact, the bank arbitrarily selected
the receivables it would accept as collateral. This put pressure on Roberts because of the uncertainty
of having adequate funds to keep creditors in line.
Mr. Roberts thought this attitude from the bank limited the company’s ability to grow. The company
had been unable to solicit new customers for fear of insufficient funds. Increased sales volume was
financed internally and came from expansion of existing accounts. Since the plant was being
operated at only 60% of capacity, Mr. Roberts was eager to increase sales. Operations were
currently above the break-even point and since the general, selling and administrative expenses
should remain fixed, any further increase in sales volume would increase profits.
Molloy & Meyer, Ajax Electronics
Page 2
Mr. Roberts felt that pledging the company’s accounts receivable or any other asset that the bank
thought would be desirable security would be satisfactory. Of course the arrangement had to be fair
and produce money when needed.
Mr. Clark, of SaveMe Bank, explained that money was tight at the moment, but that it was always
interested in sound loan proposals from companies that showed promise. Mr. Clark promised to
look into Mr. Roberts’ request and said he planned to visit the company in a few days. He suggested
Mr. Roberts prepare an estimate of his cash requirements, and the meeting was adjourned on an
upbeat note. The Webster Bank was only a short distance from his plant, yet Mr. Schell had never
visited AJAX.
Before going to AJAX, Mr. Clark phoned Mr. Schell to obtain his opinion of AJAX. Schell’s
experience with AJAX was thoroughly unsatisfactory. Mr. Schell reported that AJAX on several
occasions had overdrawn its account. Also, the receivables pledged as security often did not meet
the bank’s collateral standards. He went on to sat that Mr. Roberts was competent from a technical
standpoint, but he lacked financial and administrative skills. Mr. Roberts never had been able “to
get his house in order,”. However, Mr. Schell believed that the company’s products were well
received by the trade. AJAX, he said, had a possibility of developing into a sound business if there
was stronger management.
Accounts receivable on AJAX’s books as of July 31, 2012 were aged as follows:
Shipment
July
June
May
April
Age
0 – 30 days
30 – 60 days
60 – 90 days
90 -120 days
Total
Outstanding
Receivables
Sales
$49,000
20,000
14,000
9,000
$55,000
66,000
51,000
54,000
92,000
Of the $9,000 representing accounts over 90 days, $6,000 was due from the General Service
Administration, which was often slow in paying its account. The other $3,000 was owed by two
Molloy & Meyer, Ajax Electronics
Page 3
hospitals. The remaining $34,000 in receivables over 30 days old were due from 12 medical
products distributors and three distributors of sensors.
After visiting the AJAX plant, Mr. Clark noted that, although the production process included some
fabricating for the custom work, it was primarily an assembly operation. The defibrillators were all
standard models and were produced in small lots. There was an erratic flow of work and excess
inventory in storage awaiting further processing. It took eight to ten weeks to complete the
processing of defibrillators. The sensors were manufactured and designed to meet the specific
requirements of a customer. Since each order required specific engineering modification by Mr.
Roberts, the company rarely completed these sensors in less than three months.
On July 31, 2012, AJAX’s inventory was valued at $252,000. Finished goods inventory, which
included only defibrillators, totaled $27,000; work in process was $51,000 for defibrillators and
$48,000 for sensors; and raw material represented the remaining $126,000. Mr. Clark noted that the
raw material inventory consisted of a large number of electronic and mechanical parts, ranging in
value from a few cents each to several hundred dollars.
Mr. Roberts agreed that inventory probably should be reduced to $150,000. Most of this would
result from a recently installed inventory control system. This system had already showed results
since purchases had dropped from an average of $20,000 per month at the beginning of the year to
under $10,000 in recent months despite a steady increase in sales volume. Terms of purchases
ranged from C.O.D. to net 30.
In probing several disturbing aspects of the balance sheet, Mr. Clark learned that the accounts
payable had a balance of $74,000 while total purchases was $100,000 during the first seven months
of 2012. An aging of the trade debt on the company’s books as of the middle of August 2012 was:
Purchase Month
August (1-15)
July
June
May
Prior
Total
Molloy & Meyer, Ajax Electronics
Purchases
Trade Debt Payable
$ 6,000
8,000
11,000
15,000
$ 5,000
6,000
8,000
13,000
35,000
$67,000
Page 4
Approximately $5,000 of payables was in dispute and another $5,000 was to friendly creditors to
whom payment could be postponed indefinitely.
As of August 15, delinquent withholding taxes totaled $30,000. Federal income taxes had been paid
in March and June. Mr. Roberts said that the IRS had been pushing him to reduce his delinquency to
$15,000 before the end of the month. The IRS further threatened to file a tax lien against AJAX on
all delinquencies. This would put AJAX on a “pay as you collect” withholding tax basis. This
would require an arrangement where AJAX would make weekly payments to the tax collector.
According to Mr. Roberts, Webster Bank’s negative attitude towards AJAX may be behind this.
An outside group of Mr. Roberts’ friends had loaned AJAX $53,000 at 15% interest secured by a
lien on the company’s machinery and equipment. The note was payable on demand with no definite
repayment schedule established.
Mr. Roberts estimated that sales for the remainder of 2012 would average between $60,000-$65,000
per month and would increase to $75,000 per month for 2013. Mr. Roberts thought that with bank
support there would be little difficulty in achieving these goals. This is because a number of medical
wholesaling houses had expressed continued interest in carrying AJAX’s instruments, and because
the company’s sensor products were almost without competition. In this respect, he estimated his
needs as follows:
Repayment of present bank loan
Additional working capital
Total requirement
$39,000
61,000
$100,000
Since the company had recently modernized its production facilities, no further expenditures were
planned. Depreciation charges, using straight line depreciation, amounted to $1,000 per month.
When Mr. Clark returned to the bank, he sent out letters of inquiry to a random list of AJAX’s
suppliers. (Excerpts from the responses received from the bank are shown in Exhibit 3). He also
obtained a copy of the Dun and Bradstreet report on the company. Since the report was almost a
Molloy & Meyer, Ajax Electronics
Page 5
year old and related to financial statements prior to 2011, it contained no additional information that
was helpful to Mr. Clark. However, he noted that Mr. Roberts had withheld from the Dun and
Bradstreet reporter general financial information and in particular had declined to give information
on payables and sales.
On September 1, Mr. Roberts returned to SaveMe Bank to discuss the loan proposal further. He
reported that the accounts receivable balance on August 31 was approximately $100,000 (August
sales totaled $62,000) of which $90,000 represented accounts less than sixty days old. Mr. Roberts
said he had no additional personal funds to invest in the company. However, he would agree not to
pay dividends, increase his salary, or repay the personal loans he had made to the company until the
bank debt had been paid off in full. Finally, Mr. Roberts said he had discussed the lien on the
machinery and felt that the group might be willing to subordinate to the bank loan. On September 1,
the company’s loan balance at the Webster Bank amounted to $39,000.
Mr. Clark agreed to consider this proposal further and promised to let Mr. Roberts know the bank’s
decision within a few days. Clark set to work considering four basic questions:
1. What business is Roberts in? What are his strengths and weaknesses ?
2. To what use would Roberts put the proceeds of the requested loan? Does Roberts need the
loan to accomplish his objectives?
3. Should SaveMe Bank give Roberts the loan ?
4. What advise would might Clark give to Roberts with respect to AJAX’s business strategy ?
Molloy & Meyer, Ajax Electronics
Page 6
Exhibit 1
AJAX ELECTRONICS
2007-2012
Balance Sheets
(Dollar figures in thousands)
ASSETS
12/31/07 12/31/08
Cash
Accounts receivable
Inventory
Total current assets
Fixed assets, net
Deferred assets
Total assets
LIABILITIES
Overdraft–bank
Notes payable–bank
Notes payable-mortgage
Accounts payable
Taxes payable
Miscellaneous accruals
Total current liabilities
Subordinated loan from officers
Total liabilities
Common stock
Surplus
Total liabilities and net worth
Molloy & Meyer, Ajax Electronics
12/31/09
12/31/10
12/31/11
7/31/12
75
113
54
108
2
57
150
64
195
6
107
246
2
92
252
188
162
209
266
359
346
33
11
30
9
27
9
32
11
33
21
68
21
232
201
245
309
413
435
6
39
11
32
11
9
6
26
26
11
11
46
26
24
12
42
66
20
15
56
27
71
37
29
39
53
74
33
30
108
80
108
143
220
229
38
30
18
28
39
39
148
110
126
171
259
268
51
35
51
40
51
68
51
87
51
103
51
116
232
201
245
309
413
435
Page 7
Exhibit 2
AJAX ELECTRONICS
Income Statements 2007-2012
(Dollar figures in thousands)
2007
2008
2009
2010
2011
Jan-July
2012
Net Sales
309
334
389
558
594
354
Less cost of goods sold
Material
Labor
Overhead
Depreciation
Total cost of goods sold
101
46
54
4
205
107
48
58
3
216
116
54
63
3
236
180
88
87
3
358
190
95
89
6
380
112
61
45
4
222
Gross profit
104
118
153
200
214
132
95
111
117
173
190
106
Net profit before taxes
9
7
36
27
24
26
Taxes
2
1
9
8
8
Net profit after taxes
7
6
27
19
16
G S & A expenses
Molloy & Meyer, Ajax Electronics
Page 8
Exhibit 3
AJAX ELECTRONICS
Excerpts from responses to Letters of Credit Inquiry sent out by Mr. Clark
. . . The firm in question appears to have a good market for its products and always appear busy.
Their available capital has always been small resulting in slow payments to their suppliers. From
time to time we have had to ship orders on a COD basis.
…..
They are slow paying but all amounts are eventually paid. They are pleasant people and
one of our favorite customers.
…..
AJAX owes us a four-figure amount. In the past, payments have all been met in
approximately 60 to 90 days. The company appears to be a small, progressive, and expanding
concern. We sell to them in the hope that they develop into a big customer.
…..
. . . Their payments were so slow we now sell them only on C.O.D.
…..
We have sold to the company for several years. Our credit line to them is a medium fourfigure amount. Their payments have been continuously six months or more slow and we are
now contemplating withdrawing our line of credit and put them on COD.
Molloy & Meyer, Ajax Electronics
Page 9
Exhibit 4
AJAX ELECTRONICS
Some Industry Averages and Benchmarks
Sales growth: Average annual growth rates ranging from 10% to 30% are not untypical for mature
technology intensive businesses such as those in which Ajax Electronics participates.
Accounts Receivables: The range is probably a low of 40 days to a high of 80 days, however, one
of the supposed advantages of using distributors as an intermediate channel is much more rapid
payment than would be the case for actual providers of medical services.
Accounts Payable: On average, companies in these industries take about 35 days to pay their
invoices. This figure ranges from a low of 20 days to a high of about 60 days.
Inventory Utilization:
rate is 4.0.
In the medical instrument supply sector, the average inventory turnover
Profitability: Due to severe price competition from overseas manufacturers, the average operating
margin in the low-end defibrillator industry is in the 25-35% range. The customized industrial sensor
industry enjoys a 40-50% operating margin. Profits after tax for manufacturers’ technologyintensive systems should be in the range of 10-20%.
Molloy & Meyer, Ajax Electronics
Page 10
On to Cash Flow
CFIMITYM
Cash Flow Is More Important
Than Your Mother
Stanford University
Professor Tom Byers
The Cash Flow Process
Cash Flow Worksheet
Cash Flow Statement
For the Period FROM
TO
Operating Cash Flow
Net Income After Tax
+ Depreciation and amortization
+/- Decrease (Increase) in Accounts Receivable
+/- Decrease (Increase) in Inventory
+/- Decrease (Increase) in Other Current Assets
+/- Increase (decrease) in Accounts Payable
+/- Increase (decrease) in Accrued Expenses
+/- Increase (decrease) in Other Current Liabilities
Total Operating Cash Flow
Investing Cash Flow
+/- Decrease (Increase) in Fixed Assets
+/- Decrease (Increase) in Notes Receivable
+/- Decrease (Increase) in securities, investments
+/- Decrease (Increase) intangible, noncurrent assets
Total Investing Cash Flow
Financing Cash Flow
+/- Increase (decrease) in Borrowings
+/- Increase (decrease) Capital Stock
– Dividends Paid
Total Financing Cash Flow
TOTAL CASH FLOW
Cash at beginning of period,
3
Cash flow
The amount of cash a company generates and
uses during a period, calculated by adding
noncash charges (such as depreciation) to the net
income after taxes.
Cash flow is crucial to companies. Having cash on
hand ensures that creditors, employees, and
others can be paid on time.
For start-ups, concerns are: burn rate and fume
date
4
Cash flow
• If there’s one thing that will make or break your
company, especially when it’s small, it’s cash
flow.
• Many businesses that go out of business, are
profitable—they just got in a cash crunch that
forced them to close.
• Pay close attention to your cash flow and think
about it every day
• Paying attention to your cash flow can mean the
difference between life
and death
for your company.
5
3 Reasons to Have Cash
1 To make transactions
2 To protect against unanticipated events
3 To invest in opportunities as they may
arise
Cash-to-Cash Cycle
Cash Flow for Circuit Board Order
Value of order: $100,000
Material needed: $25,000
Supplier offers a 2% 10 days
Day 1: $10,000 down payment. Supplies ordered
Day 3: Supplies arrive, work starts
Day 13: Pay $24,500 for supplies
Day 14: Direct labor paid $12,000
Day 28: Direct labor paid, $15,000
Day 30: Order completed & shipped
Day 37: Customer billed, $90,000
Day 42: Direct labor paid, $3,000
Day 67: Payment received for $90,000
Cash Flow for Circuit Board Order
Value of order: $100,000
Material needed: $25,000
120000
Supplier offers 2% 10 days terms
100000
Cum Cash In
Net Cash Flow
Day 1: $10,000 down payment.
Supplies ordered
80000
60000
Day 3: Supplies arrive, work starts
40000
Day 13: Pay $24,500 for supplies
20000
Day 14: Direct labor paid $12,000
Day 28: Direct labor paid, $15,000
Day 30: Order completed & shipped
Day 31: Customer billed, $90,000
0
-20000
-40000
-60000
Day 42: Direct labor paid, $3,000
Day 67: Payment received for $90,000
Day 1 Day 3 Day 13 Day 14 Day 28 Day 30 Day 31 Day 42 Day 67
At peak, negative cash flow of $44,500
Basic Financial Manage …
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