Role: Potential Investor

Potential Investor / Creditor

Potential investors and creditors are expected to perform due diligence of any company interested in obtaining equity or lender financing by analyzing the financial statements. To determine if the company is a worthwhile investment, investors consider the company's forecasted future profits and the ability for the company to issue dividends. Creditors consider the financial health of the company, its ability/timeliness to pay back principles, and interest on loans.

The potential investor/creditor has been hired by management to determine the impact of strategic decisions on external users' views. As such, key financial ratios relevant to their important factors must be calculated as well as why those specific ratios were chosen and how external users interpret these calculations for the company. The financial ratios should be analyzed both before and after the strategic decision is made. For each analysis, discuss the due diligence (i.e. why) as to whether the company represents a good investment for the external user and how the strategic decision influenced their willingness to invest in or provide a loan to the company. (Note: The potential investors and creditors here are not the same as those mentioned in the strategic decisions below.)

Strategic Decisions

Asset Purchase:

Rent a factory or warehouse for $12,000 to increase future production (If current cash does not cover the costs, this choice is contingent on obtaining either an equity investment or from the proceeds of a loan.)

Assume a liability:

Take out a $50,000 loan from potential creditor B with $50,000 due in 4 years and $2,000 in interest payments due each year until the loan is fully paid.

Equity Transaction:

Sell 10% of the business to potential investor B for a valuation of $12,000

Company Information Report

Course of Business

AirMaddens is a luxury footwear manufacturer focusing on high-end sneakers and high heels. The company sources high-quality materials and sells these products for high sales prices.

Forecasted Revenues

AirMaddens, though highly profitable in the past, is facing steeply rising costs in raw materials. The company expects to have $100,000 in forecasted revenues for fiscal year 2022, but net income on those revenues will only be $13,000.

Current Business Outlook

AirMaddens' board of directors expects continued rising costs in raw materials and is focusing on ways to decrease costs of production. The Chairman is interested in operating with economies of scale, suggesting that the more volume the company produces, the cheaper the costs for each unit of goods produced.

Industry Guidance

Core Business Environment & Expected Growth (Contraction)

Manufacturing, specifically in the clothing sector, is an ultra competitive industry with new market participants entering the space each year. Low cost manufacturers are seeing historically low inflation-adjusted prices for raw material, which has resulted in a "race to the bottom" pricing strategy for these companies. High end manufacturers, on the other hand, are seeing rising prices for their high quality materials and slightly lower demand for high end goods. Unit demands are expected to increase for low costs manufacturers by approximately 2-5%, but decrease by approximately 1-3% for high end manufacturers.

Industry Forecast & Outlook

As media and political demands for higher domestic wages intensify and criticisms of international outsourcing increase, manufacturers are weighing the choice between keeping direct labor costs down at the expense of reputation effects from these social movements versus increasing direct labor costs dramatically by moving operations domestically at higher wages. Managers must weigh the impacts of these options for their specific business, current profitability levels, and forecasts of expected revenues.

Management Accountant's Report

Core Business Expenses

As a luxury footwear manufacturer, AirMaddens incurs several fixed and variable costs in its business operations as outlined below:

Cost Efficiencies & Future Outlook

Similar to other manufacturing companies, AirMaddens incurs high materials and labor costs per unit and could benefit from the expansion of these facilities to help reduce future per-unit costs, though upfront costs could result in considerable increases in fixed costs.

Financial ratios to evaluate: Price to Earnings, Price to Sales, Return on Equity, and Debt ratio.

What are the financial ratios for AirMaddens before and after the strategic decisions listed above are made? Does this represent a good investment and how does the strategic decision influence the investor's willingness to invest in or provide a loan to the company? (Please show your work)

All information has been included above concerning the question along with tables for the balance sheet and Core Business Expenses related to the question.