Toys R Us filed for bankruptcy In September 2017. This is one of the largest ban
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Toys R Us filed for bankruptcy In September 2017. This is one of the largest bankruptcy filings in US history. Of course the general feeling was that it was the emergence of Amazon and the changing buying patterns of consumers caused this, but that is only a part of the story. The reality is that this bankruptcy was also precipitated by a huge debt burden on the company, which was placed on it by a private equity buyout. A question to consider is, would Toys R Us be using different strategies if it would not have the burden placed on its finances by this leveraged buy out? The second story is that of another "big box" store, Best Buy. Unlike Toys R Us, Best Buy is doing great. It has produced a formula for producing impressive financials, including high ROE and low debt-equity ratio of 0.31. Of course, Best Buy is a success story, but the question is, can we understand the principles that made it successful, and can we apply it to other companies facing disruptive pressures?Explanation / Answer
every company have the similar preparations when it comes to its financial process. some of the funds collected from shareholders and promoters, the remaining amount can be employed by issuing of debentures, bonds and borrowing from bankers and financial institutions. the firms which are going for bankruptcy, they must identified it in the early stages only. then should take measures for minimizing the cost in various forms.
It is the responsibility of management to look over all these. They do not draw a line or circle and look over certain things only, the top level management must concern about all key issues and when the time is red in nature, do not fear to take dare decisions. It is the same case here, if the firm identifies the problem at initial level, like the revenues are dip and payments are high, if the situation continous for a longer period, the management works on cost cutting and search for another alternatives. In the given case the management can go with leveraged buyout option to overcome this problem in early level. but the situation is not in control and they applied for bankruptcy.
2. Debt equity ratio reveals the amount debt raised by using the amount of equity capital by a firm. as per studies, the optimum D/E ratio is 2:1, means 2 pennis of debt is acceptable for each 1 penny of equity.
In the given example, the debt equity ratio of Big Box is 0.31: 1, means the component of Debt is only 0.31% to 1 per cent of equity. the level of debt is much lesser than equity, means the borrowing capital are lesser than owners funds. of course it is good, which eliminate unnecessary interest payments by any firm. but it does not mean that the lower level of this ratio is good and vice versa.
there are many factors show impact on business, its cycle, manufacturing and so on. the nature work defines the volume of capital requires by the firm, a trading firm may need less capital for its running because it is not producing any product. a manufacturing firm may requires high amount of capital to acquire machines, materials, godowns and so on. so, all these factors impact the required level of capital to any firm.
yes, the big box firm may succeed with the given capital structure, but we can not assure that the results are same to all the firms if they follow the given structure. as i said above, the factors like nature of business, the level of stock maintanance, debtors, and so on will be vary from one firm to another. hence following this bilndly do not give any positive results to any firm. they must design their own structure, plan, utilization of funds according to their requirements. then only those firms can become succesful.
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