In early 2001, Doc and Lyn McGee formed McGee Cake Company. The company produced a full line of cakes, and its specialties included chess cake, lemon pound cake
In early 2001, Doc and Lyn McGee formed McGee Cake Company. The company produced a full line of cakes, and its specialties included chess cake, lemon pound cake
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ATTEMPT
ONLY FOUR CASE STUDY
CASE
1: The McGee Cake Company
In early 2001, Doc and Lyn McGee formed
McGee Cake Company. The company produced a full line of cakes, and its
specialties included chess cake, lemon pound cake, and double-iced,
double-chocolate cake. The couple formed the company as an outside interest, and
both continued to work at their current jobs. Doc did all the baking, and Lyn
handled the marketing and distribution. With good product quality and a sound
marketing plan, the company grew rapidly. In early 2006, the company was
featured in a widely distributed entrepreneurial magazine. Later that year, the
company was featured in Gourmet Desserts,
a leading specialty food magazine. After the article appeared in Gourmet Desserts, sales exploded, and
the company began receiving orders from all over the world.
Because of the increased
sales, Doc left his other job, followed shortly by Lyn. The company hired
additional workers to meet demand. Unfortunately, the fast growth experienced
by the company led to cash flow and capacity problems. The company is currently
producing as many cakes as possible with the assets it owns, but demand for its
cakes is still growing. Further, the company has been approached by a national
supermarket chain with a proposal to put four of its cakes in all the chain’s
stores, and a national restaurant chain has contacted the company about selling
McGee cakes in its restaurants. The restaurant would sell the cakes without a
brand name.
Doc and Lyn have operated the
company as a sole proprietorship. They have approached you to help manage and
direct the company’s growth. Specifically, they have asked you to answer the
following questions:
1.
What
are the advantages and disadvantages of changing the company organization from
a sole proprietorship to an LLC?
2.
What
are the advantages and disadvantages of changing the company organization from
a sole proprietorship to a corporation?
3.
Ultimately,
what action would you recommend the company undertake? Why?
CASE
2: Ration Analysis at S&S Air, Inc.
Chris Guthrie was recently hired by
S&S Air, Inc., to assist the company with its financial planning and to
evaluate the company’s performance. Chris graduated from college five years ago
with a finance degree. He has been employed in the finance department of a
Fortune 500 company since then.
S&S Air was founded 10
years ago by friends Mark Sexton and Todd Story. The company has manufactured
and sold light airplanes over this period, and the company’s products have
received high reviews for safety and reliability. The company has a niche market
in that it sells primarily to individuals who own and fly their own planes. The
company has two models; the Birdie, which sells for $53,000, and the Eagle,
which sells for $78,000.
Although the company
manufactures aircraft, its operations are different from commercial aircraft
companies. S&S Air builds aircraft to order. By using prefabricated parts,
the company can complete the manufacture of an airplane in only five weeks. The
company also receives a deposit on each order, as well as another partial payment
before the order is complete. In contrast, a commercial air-plane may take one
and one-half to two years to manufacture once the order is placed.
Mark and Todd have provided
the following financial statements. Chris has gathered the industry ratios for
the light airplane manufacturing industry.
|
S&S Air, Inc.
2006 Income Statement
|
|
Sales
$21,785,300
Cost of goods sold 15,874,700
Other expenses 2,762,500
Depreciation
976,200
 EBIT
$ 2,171,900
Interest 341,600
 Taxable income $
1,830,300  Taxes
(40%)
732,120 Net
income $
1,098,180
Dividends $439,272
Add to retained earnings 658,908
|
|
S&S Air, Inc.
2006 Balance Sheet
|
|||
|
Assets
Liabilities and Equity
|
|||
|
Current assets
Cash
Account receivable
Inventory
Total current assets
 Fixed
assets
Net plant and equipment
 Total
assets |
$
315,000
506,000
 740,800
$
1,561,800
$11,561,000
$13,077,800
|
Current
liabilities
Accounts payable
Notes payable
Total current liabilities
Long-term debt
Shareholder equity
Common stock
Retained earnings
Total equity
Total liabilities and equity
|
$
635,000
 1,450,000 $2,085,000
$3,800,000
$
250,000
6,942,800
 $
7,192,800$13,077,800 |
|
Light airplane Ratios
|
|||
|
|
Lower
Quartile
|
Median
|
Upper
Quartile
|
|
Current ratio
Quick ratio
Cash ratio
Total asset turnover
Inventory turnover
Receivables turnover
Total debt ratio
Debt-equity ratio
Equity multiplier
Times interest earned
Cash coverage ratio
Profit margin
Return on assets
Return on equity
|
0.50
0.21
0.08
0.68
4.89
6.27
0.44
0.79
1.79
5.18
5.84
4.05%
6.05%
9.93%
|
1.43
0.38
0.21
0.85
6.15
9.82
0.52
1.08
2.08
8.06
8.43
6.98%
10.53%
16.54%
|
1.89
0.62
0.39
1.38
10.89
14.11
0.61
1.56
2.56
9.83
10.27
9.87%
13.21%
26.15%
|
Questions:
1.
Using
the financial statements provided for S&S Air, calculate each of the ratios
listed in the table for the light aircraft industry.
2.
Mark
and Todd agree that a ratio analysis can provide a measure of the company’s
performance. They have chosen Boeing as an aspirant company. Would you choose
Boeing as an aspirant company? Why or why not? There are other aircraft
manufacturers S&S Air could use as aspirant companies. Discuss whether it
is appropriate to use any of the following companies: Bombardier, Embraer,
Cirrus Design Corporation, and Cessna Aircraft Company.
3.
Compare
the performance of S&S Air to the industry. For each ratio, comment on why
it might be viewed as positive or negative relative to the industry. Suppose
you create an inventory ratio calculated as inventory divided by current
liabilities. How do you think S&S Air’s ratio would compare to the industry
average?
CASE
3: The MBA Decision
Ben Bates graduated from college six
years ago with a finance undergraduate degree. Although he is satisfied with
his with his current job, his goal is to become an investment banker. He feels
that an MBA degree would allow him to achieve this goal. After examining
schools, he has narrowed his choice to either Wilton University or Mount Perry
College. Although internships are encouraged by both schools, to get class
credit for the internship, neither school will allow its student to work while
enrolled in its MBA program.
Ben currently works at the
money management firm of Dewey and Louis. His annual salary at the firm is
$50,000 per year, and his salary is expected to increase at 3 percent per year
until retirement. He is currently 28 years old and expects to work for 35 more
years. His current job includes a fully paid health insurance plan, and his
current average tax rate is 26 percent. Ben has a savings account with enough
money to cover the entire cost of his MBA program.
The Ritter College of
Business at Wilton University is one of the top MBA programs in the country.
The MBA degree requires two years of full-time enrollment at the university.
The annual tuition is $60,000, payable at the beginning of each school year.
Books and other supplies are estimated to cost $2,500 per year. Ben expects
that after graduation from Wilton, he will receive a job offer for about
$95,000 per year, with a $15,000 signing bonus. The salary at this job will
increase at 4 percent per year. Because of higher salary, his average income
tax rate will increase to 31 percent.
The Bradley School of
Business at Mount Perry College began its MBA program 16 years ago. The Bradley
School is smaller and less well known than the Ritter College. Bradley offers
an accelerated one-year program, with a tuition cost of $75,000 to be paid upon
matriculation. Books and other supplies for the program are expected to cost $3,500.
Ben thinks that he will receive an offer of $78,000 per year upon graduation,
with a $10,000 signing bonus. The salary at this job will increase at 3.5
percent per year. His average tax rate level of income will be 29 percent.
Both schools offer a health
insurance plan that will cost $3,000 per year, payable at the beginning of the
year. Ben also estimates that room and board expenses will cost $20,000 per
year at both schools. The appropriate discount rate is 6.5 percent.
 |
| In early 2001, Doc and Lyn McGee formed McGee Cake Company. The company produced a full line of cakes, and its specialties included chess cake, lemon pound cake |
Questions
1.
How
does Ben’s age affect his decision to get an MBA?
2.
What
other, perhaps no quantifiable, factors affect Ben’s decision to get an MBA?
3.
Assuming
all salaries are paid at the end of each year, what is the best option for Ben
from a strictly financial standpoint?
4.
Ben believes
that the appropriate analysis is to calculate the future value of each option.
How would you evaluate this statement?
5.
What
initial salary would Ben need to receive to make him indifferent attending Wilton University and staying in
his current position?
6.
Suppose,
instead of being able to pay cash for his MBA, Ben must borrow the money. The
current borrowing rate is 5.4 percent. How would this affect his decision?
CASE
– 4 Bullock Gold Mining
Seth Bullock, the owner of Bullock Gold
Mining is evaluating a new gold mine
in South Dakota. Dan Dority, the company’s geologist, has just finished his
analysis of the mine site. He has estimated that the mine would be productive
for eight years, after which the gold would be completely mined. Dan has taken
an estimate of the gold deposits to Alma Garrett, the company’s financial
officer. Alma has been asked by Seth perform an analysis of the new mine and
present her recommendation on whether the company should open the new mine.
Alma has used the estimates
provided by Dan to determine the revenues that could be expected from the mine.
She has also projected the expense of opening the mine and the annual operating
expenses. If the company opens the mine, it will cost $500 million today, and
it will have a cash flow of $80 million nine years from today costs associated
with closing the mine and reclaiming the area surrounding it. The expected cash
flows each year from the mine are shown in the table. Bullock Mining has a 12
percent required return on all of its gold mines.
|
Year
|
Cash Flow
|
|
0
1
2
3
4
5
6
7
8
9
|
─$500,000,000
60,000,000
90,000,000
170,000,000
230,000,000
205,000,000
140,000,000
110,000,000
70,000,000
─80,000,000
|
Question:
1.
Construct
a spreadsheet to calculate the payback period, internal rate of return,
modified internal rate of return, and net present value of the proposed mine.
2.
Based
on your analysis, should the company open the mine?
3.
Bonus
question: Most spreadsheets do not have a built-in formula to calculate the
payback period. Write a VBA script that calculates the payback period for a
project.
CASE
5: The Beta for American Standard
Joey Moss, a recent finance graduate, has
just begun his job with the investment firm of Covili and Wyatt. Paul Covili,
one of the firm’s founders, has been talking to Joey about the firm’s
investment portfolio.
As with any investment, Paul
is concerned about the risk of the investment as well as the potential return.
More specially, because the company holds a diversified portfolio, Paul is
concerned about the systematic risk of current and potential investments. One
position the company holds is stock in American Standard (ASD). American
Standard manufactures air conditioning systems, bath and kitchen fixtures and
fittings and vehicle control systems. Additionally, the company offers
commercial and residential heating, ventilation, air conditioning equipment,
systems, and controls.
Covili and Wyatt currently
uses a commercial data vendor for information about its positions. Because of
this, Paul is unsure exactly how the numbers provided are calculated. The data
provider considers its methods proprietary, and it will not disclose how stock
betas and other information are calculated. Paul is uncomfortable with not
knowing exactly how these numbers are being computed and also believes that it
could be less expensive to calculate the necessary statistics in-house. To
explore this question, Paul has asked Joey to do the following assignments:
1.
Go
to finance.yahoo.com and download the ending monthly stock prices for American
Standard (ASD) for the last 60 months. Also, be sure to download the dividend
payments over this period as well. Next, download the ending value of the
S&P 500 index over the same period. For the historical risk-free rate, go
to the St. Louis Federal Reserve Web site (www.stlouisfed.org) and find the
three-month Treasury bill secondary market rate. Download this file. What are
the monthly returns, average monthly returns, and standard deviation for
American Standard stock, the three-month Treasury bill, and the S&P 500 for
this period?
2.
Beta
is often estimated by linear regression. A model often used is called the market model, which is: Rt ─ R¦t =
αi + Î’i [RMt ─ R¦t] + εt In this regression, Rt is the return on the stock and R¦t is the risk-free rate for the same period. RMt is the return on a stock market index such as
the S&P 500 index. αi is the regression
intercept, and Î’i is the slope (and the stock’s estimated beta).
εt represents the residuals for the regression.
What do you think is the motivation for this particular regression? The
intercept αi is often called Jensen’s alpha. What does it
measure? If an asset has a positive Jensen’s alpha, where would it plot with
respect to the SML? What is the financial interpretation of the residuals in
the regression?
3.
Use
the market model to estimate the beta for American Standard using the last 36
months of returns (the regression procedure in Excel is one easy way to do
this). Plot the monthly returns on American Standard against the index and also
show the fitted line.
4.
When
the beta of a stock is calculated using monthly returns, there is a debate over
the number of months that should be used in the calculation. Rework the
previous questions using the last 60 months of returns. How does this answer
compare to what you calculated previously? What are some arguments for and
against using shorter versus longer periods? Also, you’ve used monthly data,
which are common choice. You could have used daily, weekly, quarter, or even
annual data. What do you think are the issues here?
5. Compare
your beta for American Standard to the beta you find on finance.yahoo.com. How
similar are they? Why might they be different?
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