Quantitive Models Finance

RICHMOND THE AMERICAN INTERNATIONAL

UNIVERSITY IN LONDON

RICHMOND BUSINESS SCHOOL

FNN 6205 Quantitative Models in Finance

Case Study 3: Aspire Métaux S.A.

THE PROBLEM?

At the end of October 1991, M. Gagnon, Chief Executive Officer of Aspire

Métaux was preparing the company’s financial plan for 1992. He anticipated

that this planning exercise would help him find answers to a number of

questions related to the future of the company.

Among these questions two were very important for him:

(i) Should Aspire Métaux introduce in 1992 the plan prepared by the finance

manager which was aimed at reducing the volume of the accounts

receivable?

(ii) How could the new market regulations which the EEC planned to

introduce in 1992 affect the operations of Aspire Métaux?

ABOUT THE COMPANY

Aspire Métaux is the French subsidiary of Métaux Spécialisés Groupe de France

(MSG), one of the few large independent traders in special steels in Europe.

Like other subsidiaries of the group in Europe, Aspire was in competition with

trading companies belonging to the large steel producers as well as with large

numbers of small independent distributors.

Over the previous ten years the market for special steels in Europe had

generally been growing in volume but, due to the harsh competition prevailing

in the sector, margins had been gradually eroded at the same time.

Despite being different, 1990 and 1991 had both been very difficult years for

Aspire Métaux:

• In 1990 sales had developed well but the company had faced a severe cash shortage. It also had a lot of difficulties in securing new loans with its

banks;

• In 1991 the market was sluggish. To remove excess inventory Aspire decided to conclude several contracts at ‘sacrificial’ prices.

This resulted in a loss, however the company was able to decrease its

borrowing as had been requested by its bankers.

The financial statements of Aspire Métaux for 1989, 1990 and 1991 are

reproduced in Tables 1 and 2.

PROSPECTS FOR 1992

M. Gagnon expected the market to remain extremely competitive in 1992. He

was convinced that margins would stay low, although not as low as 1991, when

Aspire Métaux had decided to remove its’ excess inventory. A Cost of Goods

Sold equal to 80% of sales was expected for 1992.

The assumptions which M. Gagnon considered reasonable for 1992 were:

• operating expenses: 14 % of sales • inventory turnover: 4 times a year • collection period: 6 months, or about 183 days • payment period: 4 months, or about 122 days

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The sharp reduction in the payment period envisaged for 1992 was motivated

by the urgent need to improve relationships with suppliers. In 1991 Aspire

Métaux had significantly delayed its payments and (obviously) this could not

be continued indefinitely.

THE COLLECTION PERIOD REDUCTION PLAN

During its history Aspire Métaux had often experienced cash shortages caused

by excessive volumes of inventories and of accounts receivable. The success of

actions taken in 1991 for reducing inventory reinforced M. Delacroix’s position

as finance manager: for many years he had argued in favour of shortening the

collection period by offering discounts to its customers for prompt payments.

According to M. Delacroix it was possible to reduce the average collection

payment period to 122 days, losing only 4% of the sales’ price on average.

THE NEW EEC REGULATIONS

The EEC was trying to introduce new regulations aimed at “introducing a level

playing field” within the steel industry. For Aspire Métaux these new

regulations, which were not yet fully defined, were likely to mean:

• An increase in the gross margin; cost of goods sold could well fall to 74% in 1992 (instead of 80%) due to lower purchasing prices;

• An increase in the level of stocks (also). According to M. Gagnon this meant an inventory turnover of only 3 instead of 4 as expected without

the new regulations.

MARKET VOLUME IN 1992

M. Gagnon was not very optimistic about 1992: he expected the market to

remain sluggish. There suspected there might be a very small increase in sales

of 2% for Aspire due to the specificity of its product mix and of the marketing

efforts made in 1991. However, M. Gagnon did not completely disregard the

hypothesis of a much higher volume increase, say 8%, if the recession ended.

The steel market would grow in the long run but nobody knew when. Some

data about the industry appear in Exhibit 1.

ASSIGNMENT

In order to understand what is going on in Aspire Métaux:

a. Calculate the cash generated by Aspire in 1990 and 1991. How do you explain the cash levels with the declared profits?

b. Construct the 1992 accounts and cash generated under the various future scenarios that M. Gagnon can envisage. In particular, what

would you advise him to do about the collection period proposal of M.

Delacroix?

Notes

When constructing the new accounts, assume items such as depreciation, and

other current assets and liabilities remain constant, and that Bank Short Term

is equivalent to negative cash.

SUBMISSION

Please submit your Aspire Métaux case before 8:50am on Wednesday

13th February 2019, both a soft copy via Blackboard and a properly

formatted hard copy.

In addition to a four-page (maximum) report, you must include:

• A cover page

• An Executive Summary

• Bibliography (Harvard)

• All relevant data appendices.

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Exhibit 1: EVOLUTION OF THE INDUSTRY

Throughout Western Europe the demand for special steels had been growing

in the 1970s and 1980s, and more growth was expected in the future. In spite

of this basic trend towards growth, the market was very cyclical.

Production of special steel was concentrated in a very small number of

manufacturers—four major ones in Europe—and distribution was ensured by

the trading companies of these manufacturers, hundreds of small independent

traders, and a few large stockists such as Aspire Métaux.

In the late 1970s and early 1980s price competition in this market had been

severe and some manufacturers did not hesitate to cut their prices when the

volume of their sales did not match their expectations—and their production.

Buyers of special steel had the choice either to purchase direct from the factory

or from stocks. In the first case the price was lower but a long lead time was to

be expected (six months or more). In the second case delivery was almost

immediate but the price was higher. In the 1980s more and more customers

seemed to prefer buying from the factory in spite of the long lead time but the

new EEC regulation could reverse this trend.

In Aspire’s market segment, the customers were relatively few: about a

hundred spread over Europe. Very often these customers had special technical

requests which required the engineering departments of the customer and of

the manufacturer to cooperate with one another. Due to the diversity of the

problems raised by the customers and the variety of possible technical

solutions, even the large traders like Aspire Métaux could not envisage setting

up their own engineering department.

In the 1980s the trading companies of the manufacturers, very much on the

back of the technical support, became very aggressive in the market and there

was no sign that this aggression would decline in the near future.

Market conditions were different in each country in Europe but the general

trend described above existed everywhere. In some countries such as France

and Italy, the situation for stockists like Aspire was made even more difficult by

the existence of long collection periods. On the other hand, business was

rendered somewhat easier by the 15 days collection period prevailing in

countries like Norway.

TABLE 1: INCOME STATEMENTS (000 FFr)

1989 1990 1991*

SALES 96,793 129,524 115,757

COST OF GOODS SOLD (75,931) (103,826) (95,752)

OPERATING EXPENSES (14,519) (16,821) (15,919)

DEPRECIATION (203) (300) (340)

EBIT 6,140 8,577 3,746

INTEREST (3,048) (6,206) (6,800)

PROFIT BEFORE TAX 3,092 2,371 (3,054)

TAX** 0 0 0

PROFIT AFTER TAX 3,092 2,371 (3,054)

Growth rate of sales 0.15 0.34 -0.11

CGS/sales 0.78 0.80 0.83

Operating expenses/sales 0.15 0.13 0.14

EBIT/sales 0.06 0.07 0.03

Profit after tax/sales 0.03 0.02 -0.03

* Estimates ** The corporate tax rate is 50%; losses made in one year can be carried

forward against future profits.

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TABLE 2: BALANCE SHEETS (000FF)

1989

Dec 31

1990

Dec 31

1991*

Dec 31

CASH 3,195 1,089 256

ACCOUNTS RECEIVABLE 41,972 63,953 58,893

INVENTORY 20,239 27,068 16,709

NET FIXED ASSETS 2,464 4,482 6,478

TOTAL ASSETS 67,870 96,592 82,336

BANK SHORT TERM 21,491 42,251 25,395

ACCOUNTS PAYABLE 30,632 33,234 39,944

LONG TERM DEBT CURRENT 11 3,076 2,245

LONG TERM DEBT 5,000 4,924 4,699

NET WORTH 10,736 13,107 10,053

TOTAL EQUITIES 67,870 96,592 82,336

Collection period (days) 158 180 186

Inventory turnover 3.75 3.84 5.73

Payment period (days) 136 110 171 * Estimates

Notes

On the calculation of collection period, inventory turnover and payment

period:

Collection period measures the number of days of sales that are not yet

paid at the end of the year. It also corresponds to the number of days it

takes for the customers to pay the company. For example, the collection

period as of end 1991:

Accounts Receivable

Daily Sales =

58, 893 115, 757

365

≅ 186 days

Inventory turnover measures how many times the inventory is renewed

during the year. The inventory turnover at the end of 1991:

Cost of Goods Sold

inventory end =

95, 752

16, 709 ≅ 5.73x

This inventory turnover of 5.73 corresponds to the average time goods

stay in inventory, i.e. 365/5.73 = 64 days.

Payment period measures the number of days of purchases that are not

yet paid by the year end. It also corresponds to the number of days the

company takes to pay its suppliers. The payment period at the end of

1991:

Accounts Payable

Daily Purchases = 39,944

95,752 + 16,709 - 27,068

365



 



 

≅ 171 days

where: purchases = CGS (+) inventory end (-) inventory open.

These ratios are based on a year of 365 days. Actual daily sales normally

differ quite significantly from hypothetical daily sales because sales only

occur on normal working days. In fact, some people use 250 in these

ratios to represent the approximate number of working days in a year.

These ratios may also be misleading because sales may vary significantly

from one day to another.