1. Use Table 1 to calculate both the peak and average SEASONAL financing needs.
ID: 2762949 • Letter: 1
Question
1. Use Table 1 to calculate both the peak and average SEASONAL financing needs.
2. Calculate the EAR for each financing source listed in Table 2.
3. For each financing plan in Table 3, calculate the dollar amount of financing supported by each source.
4. For Plan Z, calculate the dollar amount of funds available for on an average annual basis
5. Use your calculations in 1 – 4 above to calculate BOTH the annual dollar financing cost AND the Cost of Capital (a percentage) for each financing plan listed in Table 3.
Case: The St. Hubbins Plumbing Company
The St. Hubbins Plumbing Company (SHPC) is a supplier of plumbing related goods and services to the commercial construction industry. Primarily, it serves as a subcontractor in the construction of small-scale retail strip centers. Since the bulk of retail center construction occurs in the Spring & Summer months (primarily from late March to late September) SHPC has a rather seasonal (but predictable) pattern of working capital needs, as summarized by the following table:
Table 1
Permanent Financing Needs
Used to finance Fixed Assets + Permanent Working Capital
$1.25 Million
Peak Financing Needs
Includes the above + maximum seasonal Working Capital
$3.25 Million
Average Financing Needs
The average size of the firm’s balance sheet over a 12-month period
$2.45 Million
Buildup of Accounts Receivable
Terms: Net 90 Days
50% of Seasonal Buildup
The financing and investment options available to SHPC are summarized as follows:
Table 2
Financing
Periodic Cost
Trade Credit / Accrued Wages with 30-day maturity
0%
6-month line of credit from First Plumber’s Bank
2.25% per 6 months
10-year note from Second National
6.75% per year
Factoring of Receivables
2.5% of face value
Issuance of New Equity
15% per year
Rate of Return on Money Market Securities
.15% per month
Table 3
As the CFO of SHPC, you are considering 3 possible financing plans for the next fiscal year:
Plan X
Plan Y
Plan Z
Finance 50% of permanent need with Equity
Finance 100% of permanent need with Equity
Finance 100% of permanent need with Equity
Finance 50% of permanent need with a 10-year note
Factor Receivables
Finance all other needs—up to the Total Peak Need with a 10-year note
Finance 50% of seasonal need with Trade Credit
Finance remainder of seasonal need a 6-month line of credit
Re-invest any excess funds in Money Market Securities
Finance the remainder of seasonal need with a 6-month line of credit
Permanent Financing Needs
Used to finance Fixed Assets + Permanent Working Capital
$1.25 Million
Peak Financing Needs
Includes the above + maximum seasonal Working Capital
$3.25 Million
Average Financing Needs
The average size of the firm’s balance sheet over a 12-month period
$2.45 Million
Buildup of Accounts Receivable
Terms: Net 90 Days
50% of Seasonal Buildup
Explanation / Answer
The peak seasonal financing needs Permanent Financing Needs + The Maximum Seasonal Working Capital $3.25million -$1.25million=$2million Average Financing Needs The average size of the firm’s balance sheet over a period of 12 months =$2.45million Since the bulk of retail center construction occurs in the Spring & Summer months (primarily from late March to late September) Average financing needs for the 7months =7*2.45/12 = $1.43million EAR Trade Credit / Accrued Wages with 30-day maturity EAR = (1 + i) m – 1 EAR = (1+0%) 0-1 EAR =1 6-month line of credit from First Plumber’s Bank EAR=1+2.25 %=( 1.0225) m=4.5-1= 4.60125-1=3.60125 10-year note from Second National EAR= (1+6.75%) 6.75 (1+0.0675)=1.0675*6.75 7.205625-1=6.205625 Factoring of Receivables (1+0.025)2.5=2.5625-1 =1.5625 Issuance of New Equity (1+0.15)15= 17.25-1 =16.25 Rate of Return on Money Market Securities (1+0.15)1.80=1.07 For each financing plan in Table 3, calculate the dollar amount of financing supported by each source. Finance 50% of permanent need with Equity X $1.25 Million*50/100 =$0.625million Y Finance 100% of permanent need with Equity 100% =$ 3.60125 Million Z Finance 100% of permanent need with Equity 6.205625*100 $620.5625 Million Use your calculations in 1 – 4 above to calculate the annual dollar financing cost for each plan listed in Table 3 Finance 50% of permanent need with Equity Plan X $1.25 Million*50/100 =.625 Million Y Finance 100% of permanent need with Equity 100% =$ 3.60125 Million Z Finance all other needs—up to the Total Peak Need with a 10-year note 10* 6.205625 $62.05625 Million
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