Options:-Portion of debt through insurance company-Continue at 90 day terms-Factor receivables-Collateralize assets-Mortgage general purpose building-Independent Canadian Financing-Flat dividends-Payment Terms - accelerate receipt-LIFO / FIFOEvery available option has a positive and a negative aspect to it. Here we will decipher what option gives Padgett Paper Products the best financial structure, provides the most flexibility for continued growth, and reduces the risk for all parties involved.
It is preferred by Padgett Paper Product's management to continue at 90 day terms, however this may not be the best choice for the company or for Caslon. There is a chance that the company may be audited after the 1997 fiscal year and Calson would prefer that new terms would be worked out and shown on the financial reports in a more favorable outcome for Padgett. Another problem with the 90 day terms is that there are no covenants or collateral set in place because Padgett's management did not want to lose direct control over the company. They also felt that the fact that the notes can be called in 90 days was appealing to the note holders as protection; however this could be a huge disadvantage to Padgett if too many people called their loans at one time.
By factoring their receivables Padgett Paper Products could increase their cash flow in a short amount of time. A factoring firm would give Padgett a percent of their sales right away and the factoring firm would have to wait the payment term to get their money and collect it as well. (The Smart Choice) By letting someone else deal with collecting their receivables Padgett could decrease the amount they were paying employees in the collections department, if not remove this department completely. Padgett has a higher average collection period versus that of the industry. Meaning, since sales are taking so long to be turned into cash they have less cash on hand to reinvest. (Brigham) By factoring out receivables Padgett would be advanced cash from a factoring firm immediately rather than waiting around two months (see exhibit 7a) for this cash. This also transfers the risk of not being able to collect from a customer to the factoring firm rather than Padgett. However they would have to make sure the cost of hiring a factoring firm is worth getting a percentage of their sales up front. Padgett could outsource their factoring to a firm called Full Force Factoring, where they cash advance 97% of sales. Whereas the industry standard is right around 80%. (The Smart Choice)Currently very few of Padgett Paper Product's customers are taking advantage of the two percent discount that is offered to customers if they pay within ten days, versus paying the full amount in 30 days. (Case Studies in Finance) Accounts receivable turnover ratio is lower than the industry average (see exhibit 7a). The average collection period is twice as long as the payment terms. This means that Padgett's recourse for late payment is not strict enough and that maybe they need to consider increasing the penalty for late payment. If they could persuade customers to take this discount this would increase cash flow for the company as well as the account receivables turnover ratio for the year. However without offering more of a discount it seems that this has not been advantageous to customers in the past so it is unlikely to change.
The use of debt through an insurance company has several positives and negatives. Positives of debt through an insurance company are that you have a longer maturity schedule than that of the bank. The bank would be stretched beyond appropriate levels; they require payment within five years. Padgett cannot afford to repay in that period with its projected "undedicated" cash flows being only $1 million each successive year. Use of the "undedicated" cash flows would require eight years to retire the debt. (Case Studies in Finance) If Padgett were to default on the loan it could put...
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