Hampton Machine Tool was established in 1915 and has been manufacturing machine tools since its foundation. Hampton companys customer base is made up primarily of aircraft manufacturers and automobile manufactures in the St. Louis area. It experienced record production and profitability during the years. Sales and profitability declined in the mid-1970s with the withdrawal from Vietnam War and the oil embargo. However, the company had stabilized the massive of sales by the late 1970s. The reasons of Hamptons recovery were the increasing number of military aircraft sales in both export and domestic markets, the automobile industry rising and an improvement in the economy.
Summary of The Problem
Hampton Machine Tool Company have problems with the repayment of its $1million loan due date of September 1979. The loan was used for the stock repurchase. Thanks to the president of Hampton Company- , Mr.Cowins good reputation and the credibility in the business community and submission of projected sales and forecasted financial statements St.Louis National Bank gave the loan to the company. There were several factors caused the failure of forecast sales including firstly, the detention of delivery by the major component supplier on time, secondly, the purchase of $420,000 worth of components over normal level of inventory, thirdly, problems of machines occured during the production period. On the other hand, the company plans to pay a dividend of $150,000 in 1979. Therefore, Hampton needs an additional loan of $350,000 till October to be paid on December 1979 along with the initial loan Analysis
The bank should make decision by the end of the October due to the maturity date of the initial loan. To assess the borrowers ability for the repayment Pro-forma Financial Statements, Profitability ratios, Liquidity and leverage ratios, and projected cash budget should be assessed.
Projected Cash Budgets and Proforma Financial Statements yield negative results about the principal payment of the loan for December 1979. The forecasts of this analysis are based on projected sales, one month extension of the loan and dividend payment, and starting to repay the loan early.
If sales projections and accounts receivables are not met, this situation will be worse than the present one financially. But as we can see in the projected cash budget, ending cash balance in December is negative so that Hampton will be unable to repay the loan on that time. On the other hand repayment in January will be possible with more accurate planning.
The reason of the paradox of increasing current ratio and net working capital but decreasing quick ratio is the increasing level of inventories Activity Ratios The average age of inventory improved as a result of an increase in inventories. The company has a stock of row materials, and there are additional inventories waiting for the production process. The receviables management seemed to improve but collection in July and August needs a concern and a further study should be undertaken.
Although there is unstable trend, Hampton Companys profit ratios seems as its best visible to the companys increase on its Net Profit Margin both in history and projection.
The company repurchased a substantial fraction of its outstanding common stock. Despite the good purposes about increasing the stock value, they had to make a loan of $1 million for he purchase. Because of the unreasonable conditions to pay dividends in December, the company will have a negative cash flow.
We inferred from the financial statements that the company can not afford to repay the loan in December, otherwise they will have negative cash flow. However, all the financial statements have consistency among them showing this declining trend. They should offer a one month extention on the loan to indicate a reasonable solution and then should start repaying it early.
The repayment process should be started
Payment of $200,000 in September
Payment of $100,000 in October
No payment in November
Payment of $350,000 in December
These payments reduce the interest and final loan payment.
Another solution is about the extention of one month till January with the final repayment of $700,000 once December accounts receivables are collected. Hampton will not able to make a dividend payment in December so holding the dividend payment till January will enable the cash flow positive and allows for December sales to be realized, therefore usable to maket he January final payment.
Hampton Machine Tool Company is not in a secure financial condition.There are many improvements needed to survive. For instance, in working capitals quantity and quality, in profitability, in liquidity and for financial stability they should focus on new improvements. Again, the dividend payment should be delayed to January.
Since the companys problems are mostly temporaray and the company past the analysis of credit, the Bank may grand both Hamptons loan refinancing of the $1million loan to be paid on December 1979, end the additional $ 350,000 that Hampton wants to borrow (payable on January 31, 1980). However, its very much advisable for St. Louis National Bank to undertake further studies and collect more data such as industry ratios and data, prevailing interest rates, financial statements from prior years etc. to permit a better and more informed decision.