Advanced Medical Technology - Essay Example

Analysis of Mat’s creditworthiness using the 5 Co’s of credit revealed that the company passed only In terms of Condition because of favorable government polices ND an Increasing domestic and International demand. As for Character, we find the company neutral since it cannot be determined if Mr.. Haskins’ management skill could improve Mat’s financial position. MAT did not pass in terms of Capacity because its assets are mostly held as receivable and inventory with high cash conversion cycle, declining efficiency ratios, and a negative profitability ratio.

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It also failed In terms of Capital primarily because of Its negative interest coverage ratio. Lastly, for the Collateral, the company’s Items held as collateral have low turnover rate and thus would take longer to convert into cash. Furthermore, the income statement forecast showed that the company would continue to experience negative returns and profits in the next few years. Its heavy investment In research and development (R) costs leads to disproportionate operational expenses, which subsequently results to net losses.

Due to the reduced liquidity and heightened financial leverage of MAT. The group believes that providing lending funds to MAT would be risky to WIN since the company’s ability to repay the debt and interest obligations were found to be doubtful. POINT OF VIEW This case will be analyzed using Tom Winters, vice-president and loan officer of WIN, respective. CASE CONTEXT In April 1986, Tom Winter, loan officer of WIN, was reviewing a loan request of $8 million from Peter Haskins, president of MAT which developed, manufactured, and sold scientific medical Instruments.

MAT experienced extraordinary growth, fueled by state-of-the-art products and an expanding market resulted in sales growth of over 30% per year. Sales volume was always large in relation to the available capital. The situation was exacerbated by large operating losses as MAT entered new markets aggressively. Management met the financing pressures by heavy reliance on short- ERM credit, by leasing some manufacturing facilities and by establishing a connection with Biological Labs, Inc.

Dissatisfied with the company’s current loan arrangement of $MM with Sunnyvale Bank, from which it had accounts receivable and inventory pledged as security, Mr.. Haskins thought that the restrictive attitude on the banks part was limiting the company’s ability to expand at exactly the time that increased volume seemed to be the key to profitability. He hoped that WIN would provide the loan, with the agreement that all borrowings from the Sunnyvale Bank would be fully repaid. Sales were made to over 3,000 hospitals, clinics and doctors and had extended open lines of credit on net 30 terms without investigation.

However, slow payment seemed to be a competitive reality. Accounts receivables on Mat’s books as of December 31, 1985 included $1. 8 million due from foreign customers, representing 27% of the total. PROBLEM DEFINITION Should Western National Bank approve the $MM loan request of Advanced Medical Technology Corporation? Specifically, the group should be able to address the following to Justify Tom Winter’s decision: 1 . Evaluate the company’s credit history and provide external analysis; 2. Analyze the financial statements of the company for the past three years; 3.

Assess the availability of loan collateral’s; and 4. Provide an income statement forecast for the succeeding year. FRAMEWORK The group would employ the 5 Co’s of credit as an evaluation framework for creditworthiness of MAT. The system weighs five characteristics of the borrower to gauge the chance of default – Character, Capacity, Capital, Collateral, Conditions. A comprehensive analysis of various financial ratios would be generated from Mat’s 3- year financial statement and one year forecast would be generated to quantify the C ramekin.

Common size financial statements, trend analysis and comparisons to industry average were also used. ANALYSIS 5 CSS of CREDIT Using the 5 Co’s of credit as a framework, we evaluated MAT based on the following criteria: Character: The Mat’s loan application was personally being facilitated by the hands- on president Mr.. Haskins. Both the loan officers from Bank of San Francisco and Bank of the West thinks highly of him on his management skills. However, the loan officer of the former is cautious on the highly leveraged position of MAT and therefore is not willing to extend any more loans. The group finds Mr..

Haskins as an able manager, Sunnyvale, the bank where MAT currently has an account, shared that its experience with MAT was unsatisfactory. The company maintained very low balances or had even overdrawn its account in some occasions. The bank also considered MAT as a high-risk debtor wherein the securities pledged did not measure up to their definition of acceptable collateral. MAT is neutral in terms of Character. Capacity: Liquidity, Efficiency, and Profitability ratios, and a one-year forecast were used to determine the Capacity of MAT to meet its obligations. FINANCIAL STATEMENT ANALYSIS

Liquidity An analysis of the company’s balance sheet shows that MAT has an unconventional asset structure consisting mainly of current assets. As shown in the common size balance sheet presented in Exhibit 1, current assets are 83% of the total assets in 1983, 75% in 1984 and 84% in 1985. This structure was greatly influenced by the significant accounts receivable and inventory balances for the past three years. It can be perceived in Exhibit 3 that the current ratio of the company is decreasing. In 1983, it had a current ratio of 2. 57. It dropped to 1. 11 in 1984 and 1. 78 in 1985.

With the rent ratio alone, it can be inferred that the company is liquid and has the ability to fulfill its short-term obligations. However, substantial decline in quick ratios from 1. 28 in 1983 to 0. 30 in 1984 and 0. 54 in 1985 indicates that a significant amount of current assets were held as inventory and thus, may not easily be convertible to cash. Efficiency Likewise, the company’s accounts receivable days outstanding, inventory days outstanding and cash conversion cycle which were presented in Exhibit 3 led us to believe that the company’s operating cycle and cash conversion cycle were a bit long.

This inference was also supported by low accounts receivable turnover ratio and inventory turnover ratio as shown in Exhibit 3. The company is not that liquid and may find difficulty in converting receivables and inventories into cash when the need arises. In fact, operating cash flow and cash balance is negative. It is also apparent in Exhibit 1 that a huge part of the company’s liabilities were from loans granted by the bank. These were probably the company’s main source to finance R costs.

Profitability Mat’s financial performance in Exhibit 2 for the past three years indicates that Hough gross profit ratio improves from 48% in 1983 to 55% in 1984 to 1985, the company’s net loss worsens from 1,290 in 1983, 1,176 in 1984 to 1,487 in 1985 because of its aggressiveness to earn market share through heavy spending on R costs. Two segments are even close to breakable in 1985 and the third division with huge potential growth opportunity is incurring major losses due to market positioning.

General, selling and administrative expenses (AS) and R increased from 57% in 1983 to 66% in 1984 and went down to 60% in 1985. It is also important o note that R expenses alone grew from 9% minion to 13% in 1984 and ended up 14% in 1985. R activities symbolize the livelihood of future innovation and are essential costs to businesses such as MAT. Although this cost should not and cannot flows more efficiently. However, despite the net losses, it seems that the company’s net profit margin has been improving in a continuing pace. From 1983 to 1984, the net profit margin of the company improved considerably from -9. 7% to -5. 44%. This continued the following year with a net profit margin of -4. 82%. From this, we can deduce that its net income loud continue to improve year after year. However, given the company’s growth rate, MAT would still incur net losses in the next few years. Due to Mat’s consecutive losses, the company also realized negative return on equity (ROE) and return on assets (ROAR) as shown in Exhibit 3. Nevertheless, ROE and ROAR can be seen to improve significantly from -0. 30 and -0. 19 respectively in 1983 to -0. 14 and -0. 07 respectively in 1985.

Leverage Review of the company’s financial statements also shows that debt-to-equity ratio increased from 0. 62 in 1983 to 2. 67 in 1984. This means that the company had been enhancing its growth through borrowings which could be a dangerous trend. This high debt-to-equity ratio means that MAT might be unable to sustain such growth and may experience difficulties meeting its obligations and thus, may not be able to attract additional lending capital. However, the company regained a stronger equity position in 1985 as compared to 1984 when its debt-to-equity ratio was reduced to 0. 2. Similarly, net losses incurred for the past three years also led to a negative interest coverage ratio. This means that the company may find difficulty meeting its interest moment obligations on outstanding debt and additional loan approvals may not be granted by creditors. 1986 Income Statement Forecast Considering that the company has three years of negative profit, the group saw the need to forecast Mat’s 1986 Income statement to determine whether the company has the capacity to pay for the loan they were asking. The forecast is based on the company’s behavior.

Specific assumptions are as follows: Sales Growth is 30%, same with company standard, conservative compared to Mat’s YOU growth COGS ratio will be 47% of sales, based on their 3-year company average AS&A expenses will be 9% of sales, based on their 3-year company average R&D will be 12% of sales, based on their 3-year company average Operating Lease amounting to 2,500 will be due at the end of the year. Base of Interest Expense will be the existing loan amounting $6 million Annual interest expense will be 10. 57% Exhibit 4 shows that MAT is expected to have 6,146 net loss in 1986, way lower than the past three years.

Hence, the forecasted figures show that the company may find it difficult to meet its payment obligations on their outstanding debts. With these, MAT failed in terms of Capacity. Capital: The leverage ratio is used to determine the Capital of MAT. Review of the in 1983 to 2. 67 in 1984. This means that the company had been financing its growth through borrowings which could be a dangerous trend. This high debt-to-equity ratio means that MAT might be unable to sustain such growth and may experience difficulties meeting its obligations and thus, may not be able to attract additional lending capital.

However, the company regained a stronger equity position in 1985 as compared to 1984 when its debt-to-equity ratio was reduced to 0. 92. Granted by creditors. MAT in terms of Capital failed. Collateral: The possible sources of security for the bank are accounts receivables, inventories, and investments. Looking at the 1985 balance sheet alone tells us that the company has sufficient accounts receivable, amounting to almost $6 million available as collateral for the loan. However, the aging of accounts receivable that same year suggests otherwise.

It seems that the company’s credit policies were not properly established. A closer look into Mat’s AR days outstanding and AR turnover ratio supports the interpretation that a lot of its sales are not being collected in a hurter period and that customers may have poor credit history. This makes accounts receivable less attractive to creditors. Likewise, sass’s inventory balance of $9. 76 million appears to be favorable to creditors. But inventory days outstanding and inventory turnover ratio suggests that the company may have poor inventory management which also discourages creditors.

The investment of MAT totaling a little more than $1 million may be a good source of security for WIN. Yet, this amount is insufficient to cover the $8 million loan request. MAT failed in the Collateral criteria. Conditions: Based on the external analysis, various government policies and incentives greatly advanced the medical device industry. United States surged to the forefront of biomedical innovation during sass. It was the result of the policy incentives by the federal government.

The Bay-Dole Act allowed business operating under federal research contracts to have exclusive rights to the intellectual property they produced for further development and centralization. Another landmark piece of legislation was the Drug Price Competition and Patent Term Restoration Act of 1984. The absence of price controls, the clarity of regulatory approvals, a thoughtful intellectual property system, and the ability to attract foreign scientific talent to outstanding research universities put the U. S. On top of the medical device industry. A 25-year study also shows that the compounded annual growth rate of the medical device industry is at 12. 12%, from MM in 1958 to 17,MM in 1983. 2 The demand for medical devices was high for both the domestic and foreign markets and industry has a bright prospect in the near future. Continued growth in the foreign market demand puts an upside to the industry. With this, the company passed the condition cement. CREDIT HISTORY definition of acceptable collateral. EXTERNAL ANALYSIS United States surged to the forefront of biomedical innovation during sass.

It was the result of the policy incentives by the federal government. The Bay-Dole Act allowed business operating under federal research contracts to have exclusive rights to the intellectual property they produced for further development and centralization. Another landmark piece of legislation was the Drug Price Competition and Patent Term Restoration Act of 1984. The absence of price controls, he clarity of regulatory approvals, a thoughtful intellectual property system, and the ability to attract foreign scientific talent to outstanding research universities put the U. S. On top of the medical device industry. A 25-year study also shows that the compounded annual growth rate of the medical device industry is at 12. 12%, from MM in 1958 to 17,MM in 1983. 4 The demand for medical devices was high for both the domestic and foreign markets and even became one of the top US exports. 1986 INCOME STATEMENT FORECAST with company standard, conservative compared to Mat’s YOU growth COGS ratio will e 47% of sales based on their 3-year company average AS&A expenses will be 49% of sales based on their 3-year company average R&D will be 12% of sales based on their 3-year company average Operating Lease amounting to 2,500 will be due at the end of the year.

Base of Interest Expense will be the existing loan amounting $6 the past three years. Hence, the forecasted figures show that the company may find it difficult to meet its payment obligations on their outstanding debts. DECISION Given the issues enumerated above, the group does not recommend the granting of the requested line of credit amounting to $8 million. JUSTIFICATION Evaluation of the 5 Co’s of credit reveals that the company passed only in terms of Condition because of favorable government policies and an increasing domestic and determined if Mr..

Haskins’ management skill could improve the company’s financial position. The remaining 3 criteria are given more weight since it is objective in quantifying the creditworthiness of the company. MAT did not pass in terms of Capacity because its assets are mostly held as receivable and inventory with high cash conversion cycle, declining efficiency ratios, and a negative profitability ratio. It failed in terms of Capital primarily because of its negative interest coverage ratio.

For the Collateral, the company shows that the items to be held as collateral have low turnover rate and thus would take longer to turn into cash. Furthermore, the medical device industry is technology-driven and inventory not sold could be obsolete in two years or less, adding risk to the bank. The income statement forecast in relation to the financial statement analysis clearly shows that the company will continue to experience negative returns and profits in he next few years. Its large AS and heavy investment in R lead to disproportionate operational expenses, which subsequently results to net losses.

Due to the reduced liquidity and heightened financial leverage of MAT, we believe that providing additional lending funds to MAT would be risky to WIN since the company’s ability to repay the debt and interest obligations were found to be doubtful. While the president of MAT is confident that sales will continue to increase, this may not be enough for the company to generate profits from its assets and investments. Given this, MAT is most likely to have a difficult time in managing and paying Off loan in this amount.

PERSONALIZATION As a lending company, WIN advise MAT the following courses of action in order to increase its credit line: 1. Minimization of General, Selling & Administrative and Research &Development expenses Mr.. Haskins’ attitude towards the company’s market position is unfavorable to the company in the long-run. Instead of heavy spending on R&D and lowering prices to maintain its market share, he should add a premium to the high-tech instruments and align R&D costs to the industry average. MAT might also want to consider reducing its AS&A expenses by employing lower cost developing techniques.

The company should decide carefully on what investment to take. They must know how to manage their limited resources efficiently, proportioning the more important activities that are aligned to their business strategies. 2. Review of credit policies A look into Mat’s AR days outstanding and AR turnover ratio shows that the company shall improve its control over receivables since the figures show that a lot of its sales are not being collected in a shorter period thereby not generating enough cash on mime.