Credit Decision Problem
You are called to the office of David West, the senior commercial lender for your employer, Western Bank & Trust. Mr. West informs you that due to an emergency, he will be away for several days. Mr. Stevens asks that that you review the loan application of Sanders Sales Company and make a recommendation to him, in memo form, to approve or reject the loan request. The recommendation should have attachments with appropriate financial ratio informationon Sanders Sales existing financial statements, should include NPV-style evaluationof the future cash flows resulting from investment in Jackson Inc. (see below), and other financial data you deemnecessary to support your recommendation.
Sanders Sales Company is requesting a $450,000 loan to help them buy the stock of Jackson Inc., a competitor in the same line of business as Sanders Sales. Sanders Sales Company will use $150,000 of its own cash and investments, in addition to the loan proceeds, to pay the purchase price of $600,000. The loan would be repaid with ten annual payments including principal and interest at an 8% APR. The loan would be collateralized by the stock purchased. Sanders Sales would be a new account for Western Bank & Trust.Sanders Sales is looking for a new banker as they have outgrown the resources of their current banker. Credit reports indicate that Sanders Sales has a good credit history.
Mr. West provides you the file containing the loan request, financial statements for Sanders Sales Company for the three preceding years, and financial information regarding investment cash flow information for Jackson Inc.
Prospective Financial Information - Jackson Inc.
Jackson's sales in the first year following acquisition are expected to be $625,000. Sales are expected to increase by 12% per year for years 2 &3, by 9% per year for years 4 & 5, and then decrease by 13% per year for years 6-10. Sales for years 11-13 are expected to decrease by 17% each year. (All increases and decreases are based on the previous year's sales). It is anticipated that there will be no further sales or other cash flows after 13 years.
Cost of goods sold is expected to be 62% of sales each year and operating expenses are expected to be 12% of sales. Future cash flows are expected to be materially the same as sales, cost of goods sold and expenses. Income tax is expected to be 35% of income for all years.
Presume that net income approximates annual cash inflows. Complete the projected income statement and use the net present value method to support the investment decision. The company uses an 8% cost of capital to evaluate investment decisions, using NPV as the tool to evaluate investments.
Expected Outcomes:
1) Compute the appropriate financial ratio information for the financial statements of Sanders Sales Company.
2) Perform the Financial Statement Projections, Net Present Value, & IRR computations for Jackson Inc.
3) Compose a memo to Mr. West, making a recommendation to approve or reject the loan request. Use the outcomes from your NPV, IRR and ratio analysis and any other pertinent financial information to support your decision. (Complete the memo in Microsoft Word and upload all parts to Moodle).