RATIOS AND FINANCIAL PLANNING AT EAST COAST YACHTS Dan Ervin was recently hired by East Coast Yachts to assist the company with its short term financial planning and also to evaluate the company's financial performance. Dan graduated from college five years ago with a finance degree, and he has been employed in the treasury department of a Fortune 500 company since then. East Coast Yachts was founded 10 years ago by Larissa Warren. The company's opera tions are located near Hilton Head Island, South Carolina, and the company is struc- tured as an LLC. The company has manufactured custom midsize, high-performance yachts for clients over this period, and its products have received high reviews for safety and reliability. The company's yachts have also recently received the highest award for customer satisfaction. The yachts are primarily purchased by wealthy individuals for pleasure use. Occasionally, a yacht is manufactured for purchase by a company for busi- ness purposes The custom yacht industry is fragmented, with a number of manufacturers. As with any industry, there are market leaders, but the diverse nature of the industry ensures that no manufacturer dominates the market, The competition in the market, as well as the product cost, ensures that attention to detail is a necessity. For instance, East Coast Yachts will spend 80 to 100 hours on hand-buffing the stainless steel stem-iron, which is the metal cap on the yacht's bow that conceivably could collide with a dock or another boat To get Dan started with his analyses, Larissa has provided the following financial state ments. Dan has gathered the industry ratios for the yacht manufacturing industry EAST COASTYACHTS 2012 Income Statement $234,300,000 Sales 165,074,000 Cost of goods sold Other expenses 27,991.000 Depreciation Earnings before interest and taxes (EBIT) 7,644,000 33,591,000 Interest 4.212.600 Taxable income $29,378,400 Taxes (40 % ) I1,751,360 Net income $17,627,040 Dividends 5,288,I12 Add to RE $12,338,928 EAST COAST YACHTS Balance Sheet as of December 31, 2012 Liabilities & Equity Assets Current assets Current liabilities $ 3,650,700 Accounts payable Notes payable Cash $ 7,753,000 Accounts receivable 6,567,600 15,936,300 7,363,700 Inventory Total 17.582,000 23,689,300 Total $ 40,480,000 Fixed assets Long-term debt $112,756,900 Net plant and equipment Shareholders' equity Common stock $ 6,200,000 Retained earnings Total equity 59,969,600 $ 66,169,600 Yacht Industry Ratios Lower Quartile Median Upper Quartile Current ratio 0.50 1.43 1.89 0.21 0.38 0.62 Quick ratio Total asset turnover 0.68 0.85 .38 Inventory turnover 6.85 9.15 16.13 6.27 I1.81 Receivables turnover 21.45 Debt ratio 0.44 0.52 0.6 Debt-equity ratio 0.79 1.08 .56 2.08 Equity multiplier .79 2.56 Interest coverage 5.18 8.06 9.83 Profit margin 4.05% 6.98% .87% 15.83 % 28.14 % Return on assets 6.05% 10.53% Return on equity 9.93 % 16.54% 3. Calculate the sustainable growth rate of East Coast Yachts. Calculate external funds needed (EFN) and prepare pro forma income statements and balance sheets assuming growth at precisely this rate. Recalculate the ratios in the previous question. What do you observe? 4. As a practical matter, East Coast Yachts is unlikely to be willing to raise external equity capital, in part because the owners don't want to dilute their existing ownership and control positions. However, East Coast Yachts is planning for a growth rate of 20 per- cent next year. What are your conclusions and recommendations about the feasibility of East Coast's expansion plans? 5. Most assets can be increased as a percentage of sales. For instance, cash can be increased by any amount. However, fixed assets often must be increased in specific amounts because it is impossible, as a practical matter, to buy part of a new plant or machine. In this case a company has a "staircase" or "lumpy" fixed cost structure. Assume that East Coast Yachts is currently producing at 100 percent of capacity. As a result, to expand production, the company must set up an entircly new line at a cost of $30 million. Calculate the new EFN with this assumption. What does this imply about capacity utilization for East Coast Yachts next year? RATIOS AND FINANCIAL PLANNING AT EAST COAST YACHTS Dan Ervin was recently hired by East Coast Yachts to assist the company with its short term financial planning and also to evaluate the company's financial performance. Dan graduated from college five years ago with a finance degree, and he has been employed in the treasury department of a Fortune 500 company since then. East Coast Yachts was founded 10 years ago by Larissa Warren. The company's opera tions are located near Hilton Head Island, South Carolina, and the company is struc- tured as an LLC. The company has manufactured custom midsize, high-performance yachts for clients over this period, and its products have received high reviews for safety and reliability. The company's yachts have also recently received the highest award for customer satisfaction. The yachts are primarily purchased by wealthy individuals for pleasure use. Occasionally, a yacht is manufactured for purchase by a company for busi- ness purposes The custom yacht industry is fragmented, with a number of manufacturers. As with any industry, there are market leaders, but the diverse nature of the industry ensures that no manufacturer dominates the market, The competition in the market, as well as the product cost, ensures that attention to detail is a necessity. For instance, East Coast Yachts will spend 80 to 100 hours on hand-buffing the stainless steel stem-iron, which is the metal cap on the yacht's bow that conceivably could collide with a dock or another boat To get Dan started with his analyses, Larissa has provided the following financial state ments. Dan has gathered the industry ratios for the yacht manufacturing industry EAST COASTYACHTS 2012 Income Statement $234,300,000 Sales 165,074,000 Cost of goods sold Other expenses 27,991.000 Depreciation Earnings before interest and taxes (EBIT) 7,644,000 33,591,000 Interest 4.212.600 Taxable income $29,378,400 Taxes (40 % ) I1,751,360 Net income $17,627,040 Dividends 5,288,I12 Add to RE $12,338,928 EAST COAST YACHTS Balance Sheet as of December 31, 2012 Liabilities & Equity Assets Current assets Current liabilities $ 3,650,700 Accounts payable Notes payable Cash $ 7,753,000 Accounts receivable 6,567,600 15,936,300 7,363,700 Inventory Total 17.582,000 23,689,300 Total $ 40,480,000 Fixed assets Long-term debt $112,756,900 Net plant and equipment Shareholders' equity Common stock $ 6,200,000 Retained earnings Total equity 59,969,600 $ 66,169,600 Yacht Industry Ratios Lower Quartile Median Upper Quartile Current ratio 0.50 1.43 1.89 0.21 0.38 0.62 Quick ratio Total asset turnover 0.68 0.85 .38 Inventory turnover 6.85 9.15 16.13 6.27 I1.81 Receivables turnover 21.45 Debt ratio 0.44 0.52 0.6 Debt-equity ratio 0.79 1.08 .56 2.08 Equity multiplier .79 2.56 Interest coverage 5.18 8.06 9.83 Profit margin 4.05% 6.98% .87% 15.83 % 28.14 % Return on assets 6.05% 10.53% Return on equity 9.93 % 16.54% 3. Calculate the sustainable growth rate of East Coast Yachts. Calculate external funds needed (EFN) and prepare pro forma income statements and balance sheets assuming growth at precisely this rate. Recalculate the ratios in the previous question. What do you observe? 4. As a practical matter, East Coast Yachts is unlikely to be willing to raise external equity capital, in part because the owners don't want to dilute their existing ownership and control positions. However, East Coast Yachts is planning for a growth rate of 20 per- cent next year. What are your conclusions and recommendations about the feasibility of East Coast's expansion plans? 5. Most assets can be increased as a percentage of sales. For instance, cash can be increased by any amount. However, fixed assets often must be increased in specific amounts because it is impossible, as a practical matter, to buy part of a new plant or machine. In this case a company has a "staircase" or "lumpy" fixed cost structure. Assume that East Coast Yachts is currently producing at 100 percent of capacity. As a result, to expand production, the company must set up an entircly new line at a cost of $30 million. Calculate the new EFN with this assumption. What does this imply about capacity utilization for East Coast Yachts next year