FOUNDATION 9: Financial Structure Policy Statement

Assignment:

Given the performance measures you selected earlier in the course, and your current strategy and vision (which may have evolved considerably since your original vision statement in Round 1), state your financial structure policy for the remaining rounds. By this point in the simulation you have probably achieved your most important strategic goals. Chances are good that you are beginning to spin off significant cash. How will you apply this towards your capital structure? As an observation of the real world, when presented with large cash flows, managers prefer to spend the money rather than give it back to shareholders. They might enter a new market, buy a promising startup, acquire a competitor, splurge on a corporate jet, or push for higher salaries and bonuses. Investors generally resist such moves, using performance measures and the authority of the board of directors to keep management in check. The struggle between management and owners varies from company to company. A major factor in the outcome is the degree to which ownership is concentrated. Your situation in the simulation would be comparable to a wholly owned subsidiary or to a company with a very large voting block of conservative stockholders. You cannot do any of the things managers love to do. Instead, you must maximize the wealth of the owners. Financial Structure is simply the Liabilities and Owners Equity side of the Balance Sheet expressed in percentages. Given your performance measures, what should your financial structure be? Why?

1. List your performance ratios and the priority weights that you gave to them.
2. What should your Accounts Payable policy be? Accounts Payable is debt. You are leveraging your vendors money. However, at 30 days they withhold deliveries and production falls by 1%. Your production costs go up as workers stand idle during parts shortages. At a 60 day policy production falls by 8%. At a zero day policy there are no shortages. Given your measures, what should your AP policy be?
3. Current Debt is typically used to fund Inventory and Accounts Receivable. However, those accounts could also be backed by Retained Earnings. Given your measures, what should be your policy towards Current Debt?
4. Long Term Debt is used to fund Plant and Equipment. However, you could use equity (Common Stock plus Retained Earnings). If you eliminate Long Term Debt, its interest payment will disappear, and earnings will go up. However, the profits used to pay off the debt essentially went into the bondholders pocket. You could pay dividends to shareholders instead.
5. During these last few rounds the market continues to grow. Chances are you will make significant investments in new plant and equipment. Will you fund these with Long Term Debt, Stock Issues, or Retained Earnings?