Ratio analysis?

Question

Rediware Ltd is a small textile company based in Salford, UK. The company has been operating for 30 years and has enjoyed a slow but steady rate of growth over that period. The company was started by Antonio Sardu, an Italian immigrant, and was managed by him up until 31 March 2000. The company employed 30 workers (mostly female) and supplied a limited range of children's wear to clothes shops in Lancashire and parts of Yorkshire. Antonio estimated that school shirts and blouses accounted for approximately 60% of the total turnover of the business. Over the years the company had established a solid but unexciting image amongst its customers. The clothes provided were well produced and durable but rather traditional. In the years leading up to 2000 the company had been growing at the rate of approximately 4% per annum.
On 1 April 2000 the company was taken over by Antonio's son Guiseppe. Guiseppe was twenty-six years old and had acquired a degree in law. He worked for four years for a multinational oil company, as a trainee marketing manager and later as a marketing manager for a brand of engine oil. Although he was enjoying some success in his chosen career, Guiseppe began to find the prospect of running his own business increasingly attractive. Upon graduation he had made a conscious decision not to join his father's business immediately, partly because he wished to be independent and partly because he wanted to acquire a wider experience of the world of business than Rediware Ltd could offer. However, when his father announced his intention to retire, Guiseppe decided that he would like to take over the business and run it in a way that he saw fit. Antonio Sardu was delighted by his son's decision and during the last six months of his management he tried to provide as much information and advice on the business as possible to his son.
Guiseppe found his father's advice useful but soon decided that the company needed a change of direction. He felt that the image that it had acquired over the years was a real barrier to significant growth. He believed that real growth could only be achieved if the company became more attuned to the changes that had occurred in the children's clothes market in recent years. Children were becoming fashion-conscious at an earlier age and were exerting an increasing influence on their parents' buying decision. Guiseppe also felt that the retail outlets that the company supplied in the past were unlikely to be an adequate base for future growth. Most were small owner-managed retail businesses that had suffered for some time from the general effects of an economic recession, which had a bad effect on the size of the children's market, and from the specific problem of increasing competition from large multiple stores and mail order operations.
On taking over, Guiseppe commissioned a leading fashion designer to design a new range of children's clothes for the company. Within a fairly short period, the designer created a range of nylon leisurewear/sportswear clothes using bold primary colours for children in the 8-12 year age group. Guiseppe was excited by the new range and, through a former business associate, arranged for a buyer from a large chain store, Beta plc, to inspect the designs. The buyer was impressed and, after some negotiation, it was agreed that Beta plc would purchase the new range of products for sale through its stores. The contract from Beta plc was for £310,000 in the year to March 2001 and £455,000 in the following year. At the end of the year to March 2002, the fashion designer was commissioned to create a new range of products for the company as it was felt that the existing range had come to the end of its life cycle. The new range was also received with enthusiasm and it lead to orders from Beta plc worth £390,000 and which were for delivery during the year ended March 2003.
Rediware Ltd continued to produce its more traditional range and to supply it to established customers as well as fulfilling the contracts with Beta plc. However, this customer base was not growing as the contracts from Beta plc placed a considerable strain on the production capacity of the company. In order to meet the conditions of the contract with Beta plc, it was often necessary to reschedule other work and so established customers were often subjected to delays in delivery. This led, inevitably, to a loss of goodwill and lost sales.
Although Guiseppe made some attempt to satisfy the traditional customers, he felt that it was necessary to give priority to Beta plc in order to achieve the growth that he wanted for the company. Nevertheless, he did feel that some increase in production capacity would be required as he was hopeful that the contracts from Beta plc would increase over time. Under Guiseppe's management, the company had begun to replace some of the older equipment in the factory but to increase production capacity significantly, more new equipment costing £540,000 was required. In addition, more factory space and storage facilities were required. The existing factory could be extended to meet these requirements at an estimated cost of £72,000. To finance this expansion Guiseppe was considering either the issue of new equity shares or taking out a long-term loan.
The accounts of the company over the last three years were as follows:
Extracts from profit and loss account for the year ended 31 March
Balance sheet as at 31 March
A subsidiary of the multinational oil company for which Guiseppe previously worked was now a major supplier of nylon material to Rediware Ltd. He had close contact with their senior management before and since taking over the company from his father. The subsidiary, Nymax Ltd, had for some time, been interested in identifying suitable investment opportunities. Guiseppe was aware of Nymax's interest in making some outside investments and proposed that the supplier should make an investment in Rediware Ltd for an amount equivalent to the cost of the proposed expansion. This would represent a new activity for Nymax Ltd, which had previously made no outside investments.
In April 2002, Guiseppe entered into serious negotiations with the senior management of Nymax Ltd. During these negotiations he supplied the following unaudited forecast profit and loss account for Rediware Ltd for the year ended 31 March 2003.
Forecast profit and loss account for the year ended 31 March 2003
This forecast statement was based on the assumption that the new equipment and additional factory space would not be acquired and, therefore, Guiseppe argued that it should be considered a conservative estimate of future profits.
At one of the meetings with the senior management of Nymax Ltd, Guiseppe supplied details of the contract with Beta plc. He also informed the managers that the current market value of the freehold property was £610,000. Guiseppe made it clear that he would prefer that any investment from Nymax Ltd should take the form of new equity shares. At present, the shares in Rediware Ltd were held as follows:
After consulting with the other shareholders, Guiseppe offered to issue new shares in the company to Nymax Ltd at a price of £68 per share. Alternatively he was prepared to accept a 12% loan that would be guaranteed by Mr. Antonio Sardu and which would be repayable in equal annual instalments over a five-year period. Nymax Ltd was given two weeks to consider the proposal.
The accounts of Nymax Ltd for the year ended 31 January 2002 were as follows:
Extracts from profit and loss account for the year ended 31 January 2002
Balance sheet as at 31 January 2002
You are required to:
a.Evaluate the financial position and performance of Rediware Ltd for the three-year period ended 31 March 2002.
b.Evaluate the investment proposals made by Guiseppe Sardu from the perspective of Nymax Ltd.
c.State what other factors need to be taken into account before a Nymax Ltd make a final decision.

Answer 1

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Answer 2

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Answer 3

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