ASSIGNMENT QUESTION
Root & Cook Ltd ("RCL") owns and operates three factories in Manchester, Leeds and Halifax producing ride-on lawn mowers and garden tractors for domestic use in large gardens. The company last year had turnover of £220 million.
The company is managed by Steve, the grandson of the founder. Steve owns 25% of the shares in the company, while the remaining 75% is split between three other grandchildren.
Part 1
Most of RCL's clients are large retailers in the UK and EU. Two key customers are D&RDIYLtd and BricoFrance SA, which are both large chains of DIY and garden centres in the UK and France.
The other shareholders are concerned about the business. Although there seems to be plenty of work coming in and the last year has been reasonably profitable (Operating profit was £18 million last year before interest and tax), the company's debt has increased to £157 million from £120 million the year before. Steve has started talking about the need for the other shareholders to invest more money to reduce the debt.
Towards the end of last year RCL acquired a 3 year license for the manufacture of an robot mower which cuts grass automatically and which can be controlled by a smartphone app. RCL paid the design company, RoboCut Ltd, an £8 million advance fee and invested £10 million in RoboCut for 30% of its shares.
RCL is owed £12 million pounds for a series of large orders placed by D&R last year. There is also an outstanding dispute about a £20 million consignment for BricoFrance completed in 2016. This has led to payment being withheld while negotiations continue between lawyers and technical specialists.
There is a further problem that Steve believes the BricoFrance issue arose from faulty workmanship by a contractor which RCL engaged in 2015. He has refused to pay the contractor who is now threatening legal action. Because this area of work has been suspended, a large stock of materials and supplies has built up at the company's Manchester site. Steve insists that the company needs to have this level of stock for when the dispute is sorted out. He is also reluctant to press his key customers too hard for payment.
The other shareholders have approached RCL's accountants to review the situation.
Requirements:
Prepare a report of no more than 1,250 words addressing the following issues.
i. Using the reading list provided on the VLE, explain:
a. what is meant by Profit and Cashflow and how they are different
b. what is meant by Working Capital and in particular, the meanings of Receivables, Inventory and Payables
c. how changes in Working Capital affect Cashflow
ii. Apply the concepts in (i) above to this company to show how the way the company is being managed might affect its financial results. You can use additional hypothetical numbers (ie ones that you make up yourself) to illustrate your answer.
iii. Analyse and recommend what steps should now be taken to improve this company's cashflow through better Working Capital management
Part 2
Continuing with RCL, Steve is contemplating investing in a new manufacturing facility in either Reading or Bristol. Both will involve a significant investment, and, assuming the issues noted above are sorted out, the shareholders have the resources to finance either project but not both.
The Reading venture would involve construction on a derelict site from scratch which will cost £20m and would operate for 9-10 years before substantial further investment would be required.
The Bristol venture involves taking over an existing but slightly out of date plant. This will need about £16 million investment and will have an expected useful life of 5-6 years.
In the past, to assess the financial viability of new projects, the company has only considered profitability. At present, it does not have any formal procedure for assessing capital projects.
Requirements:
Prepare a report of no more than 1,250 words for the shareholders addressing the following issues:
i. Using the reading list provided on the VLE, explain:
a. what is meant by capital budgeting and summarise the purpose and key steps of the process
b. how the following investment appraisal methods are calculated, what they seek to show andthe advantages and disadvantages of each method.
i. payback period
ii. net present value
iii. internal rate of return
You should notconsider any methods other than these three
ii. Apply the concepts in (i) above to compare the alternative investment options. Use hypothetical numbers (ie ones that you make up yourself) to illustrate your answer.
iii. Analyse and recommend which project should be pursued by the company, using your answer in (ii) to support your argument.