Financial Analysis and Forecast of Sweet Dreams Inc Essay

sweet-smelling Dream embodied (SDI) is a manufacturing companionship foc recitationd on mattress and box spring merchandise for large retailers and hotel chains. With two facilities at their disposal, SDI manufactures over 20 different styles of bedding material for their consumers. SDIs founder and president, Douglas May, has contacted our consulting firm with regards to current financial businesss between himself and SDIs situate, First International Bank. Due to the spike in cuss failures in the early 1990s First interior(a) has become extremely nociceptive to problem im spark offs ( contributes which show ratio performances beneath the industry standard). Unfortunately, SDI has had poor semiliquid and debt ratios for the past three years which has caught the banks attention. After a ph hotshot grouse from the bank Doug has realized that SDI is in nonwithstanding worse trouble than the bank thinks. He has just signed a 9.5 million proverbbuck pack together to e xpand the business which was allegedly being loaned from the bank.Seeing as how the bank is debating closing Doug down it doesnt look likely that they would want to breast him a nonher 9.5 million. Following a brief meeting with his senior managers, Doug and his team up headstrong that this 9.5 million dollar loan from the bank is the exclusively mode to keep their business alive. They have decided to reverse their current polity of aggressive price drops and easy source, reduce their administrative, bewraying and miscellaneous expenses, non acquire any impudent fixed assets or sell greenness stock, accrue accounts tolerateable, stop paying dividends, and freeze executive salaries. wholly this is an exertion to prove to the bank that angelical Dreams Inc. is taking their financial situation very seriously and that the bank should strongly consider giving SDI the 9.5 million dollar loan. Doug has asked us to verify the banks evaluation of his guild, predict the ju dge performance of Sweet Dreams Inc. for 1996 and 1997, and prep be a list of SDIs strengths and helplessnesses. whole of these requests give be used to influence the bank to dispense a 9.5 million dollar absolutely loan to SDI as well as non forcing the bank to beseech immediate re-payment of their loans. Sweet Dreams Incorporated (SDI) is fight currently. With a current ratio of 1.9, SDI looks good up front. However the lodges inventory occupies close to 60 percent of its current assets.The vigorous ratio better shows SDIs performance. With a ratio of .77, SDI cannot pay their short-term liabilities as they come due. This shows the first problem of Sweet Dreams Inc Inventory Management. similarly in Dougs efforts to spin his recent losses he has decided to change his traditional dividend payout from 25% to 0. This symptom cuts to the core problem that SDIs bottom line has suffered in the past years, partly because of economic downturns and partly because of management s response to the economic downturn. Finally SDIs Z fall guy poses a problem with the banks standards. An Altmans Z score is metric by combining five different ratios of a company.First National claims that a Z score below the industry standard shows weakness in a firm and increases the likelihood of default. SDIs Altman score is 3.07 which is not enough to worry the bank, but enough to put increased atmospheric pressure on Sweet Dreams Inc. Therefore the problem here lies at minimizing cost and increasing revenues. To solve these problems SDI would need to focus their efforts on inventory management, company decisions, and effectiveness and efficiency. Regarding inventory SDI can lower the current level of mattress work to let inventory deplete to an accep instrument panel percentage of current assets. As for company decisions when the economy is hurting companies should focus on cutting earnings or hours to minimize costs, not reducing prices to increase sales. Finally the co mpany needs to work on improving their ratios. Strong ratios come from more selling and less spending which in turn departing drag to a better Altmans Z score.2) After finding the aftermaths of move angiotensin-converting enzyme, it is evident that SDI has more weaknesses than strengths as of 1995. If you look at the common sizing statements, Table 3, it shows that inventory increased as a percentage of sales, which indicates that a smaller percentage is being sold. All current liabilities increased as a percentage of total liabilities, which indicates that SDI is facing more debt. Figure one also clearly shows many of the weaknesses of SDI. Both liquidity ratios are below the industry average. Although the debt ratio appears to be supra the industry average, it is actually a weakness because it indicates that SDI has more debt than equity. The only asset management ratio that is above industry average is the fixed asset turnover ratio, the rest are either get even to, or be neath their industry average. However, its not all bad Figure one also shows that SDI has managed to hold a payout ratio on dividends that is 5 percent above the industry average.3) establish on our analysis of historical data, I do not look at that the bank should lend the requested money to SDI. We believe SDI is unfit for the loan because they are below the industry average in a absolute majority of financial ratios used to measure overall success in the company. These let in liquidity ratios, leverage ratios, asset management ratios and profitability ratios, all shown in Table six. The fact that SDI Is facing decreased demand resulting from the recent low also adds to their adversity they are facing to be a winning retailer. The current financial situation they are in makes them very keen to any un pass judgment economic event, making the risk of lending to them even greater. We firmly believe that it would not be beneficial to the bank to grant SDI this loan. 5) SDI has de termined that its best currency balance allow for be 5 percent of total sales. In addition, all excess capital of this summation will be institutionaliseed in vendible securities, which in turn will earn a 5 percent interest rate. Based on the count oned financial statements, we have determined that SDI will be able to invest in marketable securities in 1996 and 1997. As shown in Table two, give the sack sales for 1996 and 1997 are $330,386,000 and $371,684,000 respectively.Table one shows that in 1996, SKI had $55,276,000 in cash and marketable securities. With the optimal cash balance at 5 percent, only $16,519,300 of this amount will be in cash. The remaining $38,756,700 will go towards marketable securities. Likewise the figures in 1997, which exceeds $18,584,200, the 5 percent optimal cash balance. Therefore, SDI was able to invest $56,183,800 in marketable securities. A electric potential problem that our financial forecasts reveal is that we are investing a intimat ely larger amount of money into the marketable securities than we are retentivity in cash. While this money is earning interest, it may cause a future problem seeing as how there are so many loans that have a bun in the oven cash to be stipendiary off. With cash being the more or less liquid of all assets, it may be essential to keep more on hand in state to successfully pay off short and long term loans that will accumulate as a result of the $9,500,000 increase in capital from the plant expansion.6) On the basis of antecedently developed forecasts, it does not appear that SDI will be able to take out all of its outstanding short-term loans by December 31, 1996. At this date, SDIs short term SDI has on hand at this time is only $16,519,300, as the rest of their cash will be invested in marketable securities as a result of the 5 percent optimal cash balance. 7) Should the bank decide to withdraw the entire line of credit and demand payment immediately, a few alternative natur al selections would be available to Sweet Dreams Inc. The first option is that Sweet Dreams Inc. would immediately file for bankruptcy. Along with this they will file for protection under Chapter 11 of the Bankruptcy Act. This will brook Sweet Dreams Inc. to run as a firm and raise new money under restricted circumstances. Sweet Dreams Inc. will also be able to sell off any liquid assets in order to cover operation expenses and legal fees involved in this process. However, filing for Chapter 11 Bankruptcy is not an easy way out because more ofttimes than not the bank is unable to recover its initial investment.Along with this, employee productiveness and morale descends, and the company will begin to have difficulty obtaining credit in the future because of their soiled credit history today. Another option is that Sweet Dreams Inc. would sell current assets at market value to pay off the requested amount from the bank. Their short-term bank loan is be to $26,610,000 and their long -term bank loan is equal to $16,248,000 in 1995. Combined, this will equal a total of $42,858,000. This amount will need to be paid off as soon as possible. Due to the fact that they cannot sell total assets, Sweet Dreams Inc. needs to sell their current assets first at market value. For this simulation, we will use 28% as a sensible market value. At 28% of face value, the $127,028,000 worth of current assets would be worth $91,460,160 to the creditors. First, Sweet Dreams Inc. would pay back the bank because they are requesting those funds immediately. After the loans are fully paid off, Sweet Dreams Inc. would be left over(p) with $48,602,160. The next action would be to pay off the stockholders who are notwithstanding entitled to money.This amount would total to $2,660,000, with 7million shares valued at $.38. This would leave Since Sweet Dreams Inc. with $45,942,160. Although they still have money, Sweet Dreams Inc. took a major financial tap and will most likely need to de fault regardless. 8. There are several circumstances that would affect the validity of the comparative ratio analysis. For example the text quotes, SDIs problems began with the recession of the early 1990s, which caused a drastic decrease in demand from its retail and hotel customers, When outside sources such as a recession or an inflation occurs one can expect that the forecast would be altered. Unforeseeable events such as natural disasters can also affect the normality of the forecast, as these can affect potential sales. Also, if one makes a mistake in a forecast, and adds incorrectly or uses the hurt formula then the comparative ratio will be thrown off.When forecasting, one can only trust the facts of the past. For example, in this case study, SDI managers saw a decrease in demand from this recession. This caused many retail and hotel customers to lede away from purchasing new bedding. Although the sales from new homeowners were still there, hotels were not being built in the Southeast. Even though SDI responded by weighed down prices and increasing production, people were still not buying and sales neer increased. Hence, the management forecast was not accurate, and sales hardly improved. In most cases, forecasting is a very effective tool in predicting what will occur in the future, but there must be slightly room for managers to be flexible in order to account for discrepancies in the data or unknown events. 10) Based on the Altmans Z-Score table we are confident that if a company is within 25% of expected sales they will still be close to the minimum Altman score of 3.2.Therefore the company would have strong enough ratios to not be flagged by the bank for, Problem Loans. Also Cost of Goods Sold as a percent of sales and the Altman Z score are in return related. This shows that the end results are sensitive to Cost of Goods Sold. 11) While looking at the pro-forma financial statements, we believe Ingrid should give Sweet Dreams Inc. the 9.5 m illion dollar loan. All of the ratios are above the industry averages which hold strong signs for the future of the company. That being said SDIs pro forma statements are of course, speculative. Ingrid should implement certain saloon systems to monitor SDIs statements. For instance the bank should state in part of their indenture that SDI must keep 20% of their revenue in a savings account that the bank has access too. This serves the bank by holding 20% of their assets, but more importantly it lets the bank see how such(prenominal) money the company is making proportionately. The bank also has the right to use said assets as collateral until SDI is able to pay the bank back. With this happening plan installed we believe that Ingrid would be justified in giving the loan to Sweet Dreams Incorporated.