Question

Assume it is early 2020 and you are a loan officer at ABC commercial bank. Martin Manufacturing has been a customer of XYZ Bank, your local bank rival. You want to increase your loan portfolio with new customers, but you only want to lend to customers that are likely to repay the bank in full and on-time. Senior officers from Martin Manufacturing have approached you and indicated that they are considering moving their banking relationship away from XYZ Bank. They tell you that the current outstanding short-term bank loan of $311,000 payable to XYZ (line of credit for short term needs) would be moved to ABC. They are currently paying Prime + 1%. Prime is currently at 3%. Also, Martin Manufacturing is requesting a $250,000 5- year loan that they will use to purchase new production equipment (fixed assets). The production equipment will be depreciated over 5 years. There is already nearly $1.2 million outstanding in a long-term Bond that MartinManufacturing sold to the public several years ago, with an average interest rate of 6.5%, so the long-term Bond will remain outstanding, as will debt service payments on all debt.

You are excited about the opportunity to grow your loan portfolio, and taking a client away from XYZ Bank would give you “bragging rights.” You know that the best, most credit worthy customers borrow at the prime rate for short term loans and at a slightly higher rate for long term debt. If you were to take Martin Manufacturing on as a new customer and kept the $311,000 short-term bank loan at Prime +1% you would then expect to set a slightly higher interest rate for the $250,000 long-term bank loan. For planning purposes assume the rate would be Prime +2.

Before you can make the loan, you and the credit department must prepare a complete financial statement analysis and come to some opinion on the likelihood of Martin being able to repay both the existing debt as well as the new $250,000 long term loan request. You have gathered 3-years of financial information from Martin (years 2017, 2018 and 2019) and you have collected industry averages.

Prepare a written analysis of Martin Manufacturing’s financial condition. Include reference to the most important ratios to the bank as a lender. Your analysis should include an Executive Summary Section of Martin Manufacturing financial position and your recommendation about taking Martin Manufacturing on as a new customer. If you recommend taking Martin Manufacturing on as a new customer what are the greatest risks? If you decide to not recommend taking Martin Manufacturingon as a customer, what are the primary reasons?

Chap 3 Case Martin Mfg Income Stmt_Ratios Professor Answer KEY Home Insert Draw Page Layout Formulas Data Review View Share Comments Calibri 圝v $v % ,弼翱 Conditional Format Cell Formatting as Table Styles Sort &Sensitivity Filter D7 Martin Manufacturing Company Historical and Industry Average Ratios EVALUATION Actual 2017 Actual 2018 ActualIndustry average 2019 Cross-Sectiona Timeeries Overall Professor Calc Ratio Current ratio Quick ratio Inventory turnover (times) Inventory Turnover Days (365/lnv Turnover) Average collection period (Days Total asset turnover (times) Debt ratio Debt to Equity Ratio Times interest earned ratio Gross profit margin Net profit margin 2019 2019 2017-2019 2.5 1.3 0.9 1.3 70.2 50.7 days 69.0 57.9 10.2 35.8 46.0 days 69.0 57.9 1.6 57.0% 137.7% 55.8 days 57.0% 137.7%) 45.8 54.3% 24.5% 2.2 27.01% 0.65% 1.06% 2.55% 34.5 $12.94 0.88 27.01% 0.65% 1.06% 2.55% 34.5 $12.94 0.88 27.5% 1.04% , 1.6%, 3.0% 33.5 26.0% 0.94% 1.4% 3.2% 38.7 2 6.0% 1.14% 2.3% 3.1% 43.4 5 Return on total assets (ROA) Return on tol eqity (ROE) Price/earnings (P/E) ratio Book value per share Market/book (M/B) ratio 1.2 Balance Shect Ratios 138%

Answer 1

Analysis of Martin Manufacturing Company (MMC)

1. Current Ratio
   1. Formula = Current Assets/ Current Liabilities
   2. Use = This Ratio used to evaluate financial position assessment for ability to repay its current liability. Higher is better can be used for this kind of ratio. As it indicate that company would be in better financial position.
   3. MMC Ratio= Company’s ratio is better than industry it shows that company has better liquidity position to meet any financial current liabilities.
   4. Conclusion: - As ratio is better Bank can think positively to provide loans.
2. Quick Ratio
   1. Formula= Quick asset / Current Liabilities
   2. Use = This Ratio used to evaluate financial position assessment for ability to repay its quick or immediate liability. It shows that how much time company able to pay its immediate requirement from its readily available or quick convertible assets.
   3. MMC Ratio:- MMC Ratio is even not stable and neither too good for first two years but it is in good trend for third year than the industry.
   4. Conclusion: - Bank should be watchful in this case.
3. Inventory Turnover Ratio
   1. Formula: - Cost of Goods Sold/ Average Inventory
   2. Use: - This Ratio used for assessment of company’s position by two ways :-
      1. Company ability to sale its product in market
      2. Adequate Inventory level
   3. MMC Ratio: - As MMC Ratio is lower than the industry it may be observed as negative remark either company not able to sale its product or company has huge inventory. This ratio depends to analysis industry to industry. In the case where product is perishable this ratio should be at higher side or vice versa.
   4. Conclusion: - In this case Bank should provide adverse remark to Company.
4. Inventory Turnover Days
   1. Formula: -365/( Cost of Goods Sold/ Average Inventory)
   2. Use: - To know how many times inventory has been rolled out in a year.
   3. MMC Ratio: - As Company ratio is better than industry even it is double in this case so it can be seen as very good sign for company, but it can be other side also that inventory may be very low.
   4. Conclusion: - As inventory Turnover ratios are saying different story it should be analyzed with other details.
5. Average Collection Period.
   1. Formula:- Average Accounts Receivable/ Average Credit sales per day
   2. Use: - To Judge Efficiency of collection of credit sale amount from debtors.
   3. MMC Ratio: -Is higher than the industry
   4. Conclusion :- Company is not expert to realized its receivable
6. Total Asset Turnover.
   1. Formula :- Total revenue/ Average Assets
   2. Use:- To Calculated efficiency of performance of company against amount invested
   3. MMC Ratio: - Lower than the industry
   4. Conclusion: - Inefficient than the industry.
7. Debt Ratio
   1. Formula :- Total Liabilities/ Total Assets
   2. Use:- Assessment of solvency
   3. MMC Ratio: - Higher than the industry
   4. Conclusion: - In better position.
8. Debt to equity Ratio
   1. Formula :- Outside debt/ Equity
   2. Use:- Assessment of outside control
   3. MMC Ratio: - Higher side in this case is not good
   4. Conclusion: - not a good position.
9. Total interest Coverage Ratio
   1. Formula :- Earning Before Interest & Tax/ Interest
   2. Use:- Ability to pay interest
   3. MMC Ratio: - Able to pay its interest liability
   4. Conclusion:- At par with industry             
10. Gross Profit Margin
    1. Formula: - Gross Profit/ Sales
    2. Use:- assessment of gross margin
    3. MMC Ratio:- At par with industry
    4. Conclusion :- At par
11. Net Profit Margin
    1. Formula: - Net Profit/ Sales
    2. Use: - Assessment of profitability
    3. MMC Ratio :- At below than the industry
    4. Conclusion :- Lower than the industry
12. Return on Total Assets
    1. Formula: - Net Income/ Total Assets
    2. Use: - Return on total Assets
    3. MMC Ratio:- Lower than the industry
    4. Conclusion :- Less effective
13. Return on Total Equity
    1. Formula: - Net Income/ Total Equity
    2. Use: - Return on equity
    3. MMC Ratio:- Lower than the industry
    4. Conclusion :- Less efficient
14. Price/ Earnings Ratio
    1. Formula: - Market Value per share/ Earning per share
    2. Use: - Investor willingness to pay for earning per dollar
    3. MMC Ratio :- Lower than the industry
    4. Conclusion :- Less efficient than the market
15. Book Value per share
    1. Formula: -Total company’s Equity/No of shares.
    2. Use: - Value of equity
    3. MMC Ratio:- Not comparable
    4. Conclusion :- Not comparable
16. Market/ Book Per share
    1. Formula: - Total Market Capitalization/Total Book Value
    2. Use: - Assessment of Market value to book value
    3. MMC Ratio : Lower than the industry
    4. Conclusion :- Less Effective

Final Conclusion :- It is risky to provide loan to MMC.