External Sources of Financing - of Microware Company - Case Study Example

Investment proposal al Affiliation Company profile Microware Company is a multinational company that targets to fill the market gap in the software and hardware market. The company intends to offer microware software and hardware to solving the recurrent challenges that consumers face in the market. Its main headquarter will be located in New York and establish subsidiary companies worldwide. In addition, the company shall provide differentiated computer hardware such as wireless mouse, microware flash disks, and personal computers among other products. The company also shall offer software solution to various companies, firms, and government among other institutions with the goal to take the advantage of privacy and security challenges (Smith, 2012). Microware software attempts in increase the effectiveness and efficiency as well as establishing connection between various functioning areas in the institution. The core competence of the company includes after sale services, effective and harmonious working relation, excellent customer’s satisfaction among others. The company intends to work for the best interest of all stakeholders including investors and bondholders as well as to the company (Schindler, 2012). The investment proposal identifies the appropriate financing plan for and investment analysis of the company. Microware Company prepares this investment proposal targeting to attract shareholders and bondholders financiers. These sources of financing are important and appropriate to the company because they are less risky and cost effective. Financial plan is an essential tool of the company since it outlines the financial road map to potential financiers aiding to attract them to this venture. The success of this venture merely depends on the planning and therefore effective financial plan can attract financiers (Nevitt, et.al 2010). The budget appropriation limits the expenditure of the company and maximizes the utilization of the company’s resource. Microware company budget helps it to carefully review and plan its finances to ensure realization of profit. Through budgeting, the investors establish financial roadmap for company operations. Funds providers review this statement to determine the financial plan of the business (Bhat, 2012). Budget provides a financial guideline stating how the company will utilize its finance. External sources of financing Microware Company intends to use external sources of finance to fund its establishment and operation. The company needs to raise more capital to grow in the competitive industry. The company requires $ 19.7 million for its establishment and funding its activities in the next one year. The capital requirement is appropriate to meet the initial cost of implementation, which include purchasing of equipments, legal compliance, insurance cost, and financing the purchases and creation of microware commodities. In this perspective, external sources of financing refer to different kinds of funding the company requires from sources outside the company itself. Either Microware company can utilize short term, medium or long-term external sources of finance (Schindler, 2012). However, different external sources of finance have distinct implication of the future profitability and leverage of the company. In fact, the types of source the company intends to utilize determine the value of the company as well as its stock value. Therefore, critical scrutiny of the appropriate external sources of financing is paramount. Microware Company can utilize short-term sources such as factoring of debt, trade credit and bank overdraft. Under factoring of debt, the company can acquire funds to finance its establishment in respect to its bill receivables. Under debt-factoring company can provide capital on the Microware company clients’ debt and may buy these receivables at a discounting price. In addition, the company can obtain finance through bank overdraft. The bank (lender) may grant the company (borrower) more funds than what it has on its current account. However, the short-term sources of finance are inapplicable in this scenario since the company is new and therefore it has no bill receivable and have no active current account. In addition, the interest rate charged under short-term source of finance is usually variable and higher as compared to other sources. Bank loan is an external medium or long-term source of finance that the company can adopt. In this perspective, the company borrows money at an approved rate of interest to be repaid over a specified period. Conversely, the source can be very expensive to the company since the company has not yet determine the returns from its operation. Bank loans are subject to exogenous factors such as inflation and stock market. Additional partner is another source of external finance for the company. The company can find a partner to provide the finances needed. This source is profitable because there is no interest charged and the company does not need to repay funds provided (Smith, 2012). However, the approach dilutes the control power of the company and profit earned is split between partners. The company can be financed through government grants after the conformity of application conditions required. However, the source must conform to outline conditions such as location and therefore not all businesses are eligible. The government may award the grant if the company is deemed beneficial to the nation. The appropriate external source of capital is through issuing shares. This is a long-term source of finance, which is applicable to this business since there is no interest payment and the company does not have to repay the funds. In fact, the source is the cheapest and easy way of acquiring funds. Furthermore, issuing of shares reduces the risk involved since there are no responsibilities of the company to repay funds if the company does not thrive (Gehner, 2008). However, the company will incur the cost of issuing shares to the public. This cost includes the registration cost, printing cost, promotional cost, legal and accounting fee as well as underwriting commission. The company estimate to incur $ 0.57 million while issuing new shares into the primary market. The cost is fair as compared to bank loan or while issuing of bonds since assuming that the average interest rate is 12%, the company will have to pay $ 2.3 million to the bank. Task 2 The company anticipates having positive returns on investment in the subsequent years. In this perspective, the accompany anticipate to have promising cash inflows in the next five years therefore the investors and the owners will profits from the investment. The projected cash inflows of Microware Company are provided as follows: Year cash flow ‘000,000’ 0 19.7 1 0.6 2 2.9 3 10.0 4 13.1 5 17.8 Investment appraisal techniques a. Payback period is an investment appraisal used by financial planners in determining the period that the company will take before it obtains the initial outlay. Using the above cash flow, then Microware Company will take three years and five months payback period. Year cash flow cumulative cash flow 0 (19.7) (19.7) 1 0.6 (19.1) 2 2.9 (16.2) 3 10.2 (6.0) 4 13.1 7.1 5 17.8 24.9 b. Net present value (NPV) is an investment technique that determines the profitability of the investment by comparing the initial outlay with the present value of returns. Net present value is an important technique to financial users such as investors because the technique represents the true value of cash inflows. Year cash flow PVIF PV 0 (19.7) 0 (19.7) 1 0.6 0.89286 0.5 2 2.9 0.79719 2.3 3 10.2 0.71178 7.2 4 13.1 0.63552 8.33 5 17.8 0.56743 10.1 NPV 8.73 The return on investment is somehow promising to stakeholders as well as the owner. The company takes less time, 3 years and five months, to get back its initial cash flow. The potential investors will only invest their finance in the company if and only if the profitability of the business is promising or the business has a positive net present value. The return on investment has a positive NPV because the present value of the company’s cash inflow outweighs the initial cash flow. The positive NPV sends signal to the investment market, including stock market, that the project is profitable and therefore worth to undertake. Although the financial planners obtain a positive net present value and have a short payback period, the investment is not promising if the company utilize capital from bondholders. Assuming that the average interest rate charged by bondholders is 12%, the company will be operating at a loss in the first five years since the return to investment is lower than the cost of financing (BRIGHAM, et.al 2011). To be particular, Microware Company will have to pay approximately $2.36 million per year to bondholders. Shareholders of the company will therefore earn from financing the establishment and operation of the company. According to shareholders, the project will generate more cash than the company will need to service its debts and it will therefore provide returns to them. The excess cash generated from the company accrues solely to the Microware company shareholders. Task 3 Microware Company understands and appreciates the importance of financial planning in identifying the appropriate sources of finance. The forecast enable the company to determine cost effective available external sources of finance to the company (Schindler, 2012). Investors and other funds providers use the financial data of the company in determining whether to invest their funds on the company. Microware company financial plan devises a forward focus and allow the investor to determine the effectiveness of the management in utilizing the resources of the company to assure realization of returns. Through financial plan, Microware Company draft both short term and long term financial strategies that helps in attracting potential investors to the company. The plan inspires confidence in potential stakeholders the company approaches for financing. At the heart of Microware Company is the adoption of the attractive pricing strategies. Determination of the value of the product in monetary terms is fundamental because it defines the direction of the business. In the attempt to acquire footnote in the hardware and software market, the company plans to utilize penetrating pricing strategy. In this perspective, the company shall offer its products at a lower price to consumers in order to generate an optimal volume of sales (Smith, 2012). The pricing strategy targets middle class and low-income customers in the market. In addition, the company aims to attain cost advantage that results from the economies of scale. Another motive for Microware Company to adopt the penetrating pricing strategy is to combat competitors. The company anticipates facing intense competition from its rival with comparative advantage. The pricing strategy will attract customers from higher-priced competitors and to ward off the potential of new entrances. Microware Company Budget appropriation Revenue Dollars ‘000,000’ Income from selling software 27.9 Income from company’s hardware 32.7 Upgrading of current software 11.4 Dividend income 7.9 Subtotal Revenue 79.9 Expenses Purchasing of equipments 32.3 Expenditure on raw material 18.5 Administration expenses 12.8 Operational expenses 11.8 Miscellaneous expense 3.9 Subtotal expenses 79.3 Total (P&L) 0.6 Microware Company Income statement Total Revenue 47,967.00 Cost of Revenue, Total 23,890.00 Gross Profit 24,077.00 Selling/General/Admin. Expenses, Total 2,692.00 Research & Development 1,000.00 Total Operating Expense 18,131.00 Operating Income 5,946.00 Income Before Tax 5,946.00 Income After Tax 4,871.00 Net Income Before Extra. Items 4,871.00 Net Income 4,871.00 Preferred Dividends - Income Available to Common Excl. Extra Items 4,871.00 Income Available to Common Incl. Extra Items 4,871.00 Diluted Weighted Average Shares 678.45 Diluted EPS Excluding Extraordinary Items 9.50 Diluted EPS Including Extraordinary Items - Dividends per Share - Common Stock Primary Issue 2.05 Microware Company Balance sheet Cash & equivalent 9,034.00 Short term investment 18,451.00 Account receivable – Trade, Net 36,782.00 Total inventories 12,977.00 Prepaid expenses 2,876.00 Total current Asset 80,120.00 Property/equipment total –Gross 19,672.00 Goodwill, Net 11,345.00 Intangible Asset 3,711.00 Long term investment 72,078.00 TOTAL CURRENT ASSET 96,806.00 Total Assets 186,926.00 Account payable 17,970.00 Accrued expenses 3,780.00 Note payable - Other current liabilities 27,006.00 Total current liabilities 48,756.00 Total long term liabilities 15,745.00 Total Debt - Deferred Income tax - Minority interest rate 30,500.00 Total Liabilities 64,576.00 Redeemable Preferred Stock, Total - Common shares 20,286.00 Retained Earning 146,407.00 Total equity 122,425 Total liabilities and shareholders 186,926.00 Total Outstanding shares 659.9 Microware Company Cash flow statement Net Income/Starting Line 8,459.00 Depreciation/Depletion 1895.00 Deferred Taxes 1,903.00 Non-Cash Items 567.00 Changes in Working Capital 4679.00 Cash from Operating Activities 15,600 Capital Expenditures -1,907.00 Other Investing Cash Flow Items -7,453.00 Cash from Investing Activities -9,360.00 Financing Cash Flow Items -34.00 Cash Dividends Paid -1,562.00 Issuance (Retirement) of Stock, Net 2,548.00 Issuance (Retirement) of Debt, Net - Cash from Financing Activities -4,144.00 Financial statement above provides the projected financial position, comprehensive income statement and cash flow statement of the company. These statements are fundamental to company’s investors since it provide a summarized the activities of the company. They assist the investors and stakeholders make investment decisions. References American Enterprise Institute for Public Policy Research (2007). Investment proposal. Washington. AMERICAN ENTERPRISE INSTITUTE FOR PUBLIC POLICY RESEARCH. (2003). The Burke-Hartke foreign trade and investment proposal. Bhat, S. (2012). Financial Management: principles and Practice. New Delhi, Excel Books. Bhat, S. (2008). Financial Management: principles and Practice. New Delhi, Excel Books. Brigham, E. F., & Ehrhardt, M. C. (2011). Financial management: theory and practice. Mason, OH, South-Western Cengage Learning. Gehner, E. (2008). Knowingly taking risk: investment decision making in real estate development. Delft, Eburon. Nevitt, P. K., Fabozzi, F. J., & Mathew, J. V. (2010). Equipment leasing. New Hope, Pa, Frank J. Fabozzi Associates. Schindler, R. (2012). Pricing strategies: a marketing approach. Thousand Oaks, Calif, Sage Publications, Inc. Smith, T. J. (2012). Pricing strategy: setting price levels, managing price discounts, & establishing price structures. Mason, Oh, South-Western Cengage Learning. Read More