Society Clothing Corporation

SOCIETY CLOTHING CORPORATION Case No. 3 I.

Background of the Study With its specialty in producing quality shorts for ballplayers, Society Clothing was established 1991. These standard-sized shorts were sold P 80.00 per piece to wholesalers and distributors, who at the same time distribute the product all over the city and in nearby provinces. In 1996, the Chief Executive Officer and at the same time one of the company’s stockholder, Ms, Shiela Lopez, sat down with the other stockholders with the main agenda of making plan for 1997 and for the next three (3) years. After the said meeting, she had with her a piece of paper with these statements written on it: a. Achieve an annual 30% sales growth b. Improve profitability Having those objectives, she believes that these could be achieved if they would allow and approve longer credit terms to their costumers and pay raw materials within the discount period to their suppliers. Thus, their usual 30-day credit period will be extended 60 days and will now pay 21 days after the receipt of the raw materials since suppliers grant 5 % discount if they will do so. By her own estimate, the company doesn’t need to expand their current production facilities. Instead, SCC will just have to alter their operation from one into two-shifts. However, a bank loan is needed to finance accounts receivables and inventories. She met with the loan officer of a local bank, Mr. Tamesis, and was being told that the bank will finance the company’s needs if she can present an acceptable financial plan showing their capability to repay the loan within one-year.

On the other hand, SCC may also be an eligible borrower under the KASAPI Lending Program of the Social Security System which 16% interest with a loan term of three to five years. II.Statement of the Problem Considering that Society Clothing Corporation have their primary goal of improving profitability by achieving an annual sales growth of 30%, SCC possess an anticipation that their business is continuously growing. However, pushing through with those transformations a loan is needed to finance accounts payables and inventories. Should they decide on acquiring a bank loan that requires them to pay within a year? Or should they borrow under KASAPI Lending Program of the Social Security System with 16% interest with a loan term of three to five years? In whichever firm they decide to have an access with their financial need Society Clothing should prepare a cash budget in order to show their capability to repay either of the firm. III. 

Alternative Courses of Action Society Clothing Corp. could have the option of acquiring a loan from the local bank that



requires them to pay within a one-year credit term. On the other hand, SCC could settle on acquiring a loan from KASAPI Lending Program of SSS with 16% interest with a loan term of three to five years.

IV. 

Analysis for the Courses of Action Society Clothing Corp. could have the option of acquiring a loan from the local bank that requires them to pay within a one-year credit term. Based on research, as reported by the Bangko Sentral ng Pilipinas (BSP), from 1985 until 2013, Philippines Interest Rate averaged 9.9 Percent reaching an all time high of 56.6 Percent in December of 1990 and a record low of 3.5 Percent in September of 2012.

http://www.tradingeconomics.com/philippines/interest-rate

The succeeding data could also be considered as a reference : Philippines Monthly Interest Rates

Period 2000

PHIBOR

Fixed Deposits 3 Months

Fixed Deposits 6 Months

Fixed Deposits 12 Months

Saving Deposits

Prime Lending Rate

Jan

9.3869

6.994

7.194

8.858

6.4

10.3

Feb

8.9625

7.001

8.186

8.762

6.2

10.2

Mar

9.1193

7.306

7.128

8.760

6.4

10.6

Apr

9.0000

5.518

5.620

8.307

6.3

10.3

May

9.4318

6.800

7.152

8.534

6.5

10.1

Jun

9.4792

7.424

7.615

8.579

6.4

10.6

Jul

9.4137

7.580

7.434

8.472

6.7

10.3

Aug

9.7582

7.269

7.530

8.637

6.7

10.9

Sep

11.5119

7.503

8.480

8.810

6.4

11.6

Oct

19.3665

12.007

9.119

9.600

7.8

10.7

Nov

18.1701

12.782

12.712

13.539

10.8

12.4

Dec

17.0188

11.477

11.604

12.550

11.2

13.1

http://dspace.fsktm.um.edu.my/handle/1812/619 Taking into account the averaged interest rate set by the Bangko Sentral ng Pilipinas (BSP) which fall under 9.9% or 10% to be exact. Assuming that Society Clothing Corporation’s CEO, Ms. Lopez, considers this option to make a bank loan to finance their payables and inventories. SCC has to prepare an acceptable financial plan showing the capability of the firm to repay the loan within one-year. As targeted, the company aims to improved profitability and achieve an annual 30% sales growth. Below is a forecasted sales for 1997 with an assumed 60-day credit period. January

176,000

July

128,000

February

150,000

August

100,000

March

176,000

September

140,000

April

200,000

October

190,000

May

200,000

November

220,000

June

150,000

December

250,000

Based on SCC’s given balance sheet and income statement for 1996, a balance sheet and an income statement for 1997 is assumed based on the targeted 30% increase: BALANCE SHEET 31Dec96

31-Dec-97 increase 30 %

Cash Marketable Securities

20,000 5,000

26,000 6,500

Accounts Receivables

176,000

228,800

Inventories Raw Materials Finished goods

202,800 140,800

263,640 183,040

Net Fixed Assets

180,000

234,000

Total Assets

724,600

941,980

Accounts Payable Common Stock Retained Earnings

A/P & Equity AFN

500,000 500,000 138,800 138,800

724,600 750,340 191,640

INCOME STATEMENT Income Statement

Income Statement

31Dec96

Increase 30%

Sales

1,600,000

2,080,000

Less: Cost of good sold

1,280,000

1,664,000

320,000

416,000

Gross Profit

85,800 111,540

Operating Expenses

Variable

80,000

93,350

180,000

180,000

60,000

142,650

Income tax (35%)

21,000

49,928

Net Income

39,000

92,723

Fixed

As mentioned earlier, loan officer of the bank required SCC to prepare a cash budget showing the capability of the company to repay its loan. Before proceeding to the formulation of the said requirement, the following data has to be known and be computed for a well-guided financial plan: Inventory Conversion Period (ICP) = (Inventory/ Cost of Goods Sold) x 360 days = (446,680/ 1,664,000) x 360 days = 97 days This means that there is 97 days average length of time that SCC could convert materials into finished goods and then sell those goods. Days Sales Outstanding (DSO) = Accounts Receivable or (Annual Sales/360) Average Collection Period (ACP) = 228,000 (2,080,000/ 360) = 40 days This represents the average length of time that SCC must wait after making a credit sale before receiving cash. Payables Deferral Period (DPO) = (Accounts Payable / Cost of Goods Sold) x 360 days = (111,540/ 1,664,000) x 360 days = 24 days The computation shows that there is 24 says average length of time between the purchase of raw materials and labor and the payment of cash for the firm. Cash Conversion Cycle = ICP + DSO DPO

=

97 + 40 24 = 113 days This represents 113 days length of time between paying for labor and materials and collecting on the receivables. Guided by the previous computations being presented, the cash budget of Society Clothing is attached on the succeeding page. Given the cash budget, tied with the previous computation, it could be detected that Society Clothing will have their first receivable to be collected on the month of May. This makes them decide that they really have to cover up their deficit and look after for a financial firm, in this case, the bank where they could acquire a loan. The surplus, which is located at the bottom part of the cash budget reflects a negative cash from February to June. Following the data, as reflected, SCC has to acquire an initial loan of Php 65,872 for the month of February, followed by and additional loan of Php 133,618 for the month of March. After gradually paying for it with its monthly income, by the month of May and June the company already shows a positive net cash flow but still left with a negative surplus which is lesser than the previous month. This is a good indicator 

that the company is already coping. By July SCC will already surpassed its deficit. On the other hand, SCC could settle on acquiring a loan from KASAPI Lending Program of SSS with 16% interest with a loan term of three to five years. By simply looking into the interest rate of the bank versus the rate under the KASAPI Lending Program of SSS, which is 16%, it is obvious to speak that the bank offers a much lower interest rate. This view takes into account the concept of short-term and long-term loan. But on the other hand, even though short-term loan is often less expensive than longterm loan, short-term credit subjects SCC to more risk than long-term financing. Firstly, if a firm borrows an amount to KASAPI, which is considered as a long-term loan basis, its interest costs will be relatively stable and perhaps even fixed over time.

If it takes the bank, which is a short-term loan, there is a possibility that its interest will fluctuate widely. Furthermore, if a firm borrows heavily on a short-term basis, and it could find itself unable to repay its loan, and it might be in a weak financial position that Society Clothing will fail to meet its forecasted sales which will in turn allow the lender (KASAPI) to refuse SCC from extending the loan. This could give a possibility for SCC to lead into bankruptcy. V.

Recommendation Based on the findings being presented it would be better for Society Clothing Corporation to settle for a short term bank loan with an assumed 10% interest rate rather than obtaining it in KASAPI Lending Program of SSS. As reflected in the cash budget data, the company could be able to cover up its deficit for an estimated time frame of six (6) months from February to July, after acquiring a loan in the month of January. This means that if the company would be able to achieve its forecasted sales for 1997 it wouldn’t be tough for the company to compensate for its shortfall in less than a year. Although, borrowing from KASAPI is another underlying option for SCC but since they are capable of paying the amount in a shorter time then they should take advantage on paying it in a much lower interest rate rather than paying the higher one.

VI.

Conclusion Based on the study, it is concluded that any firm must take a careful and thorough analysis with regards to its financial plan before considering any future actions such as taking some loans or acquiring additional assets for added investments. By doing so, this will allow the company to take some rational and reasonable assumptions that would lead itself into a well-guided path. Moreover, after taking a careful look with their financial plan, another important decision that has to be considered by the company is choosing the right financial firm that

would supplicate its financial need. Thus, deciding whether to settle for acquiring a shortterm or a long-term loan. Being caught with this decision making point, the advantages and disadvantages of each type of loan must also be reconsidered and be scrutinized by the company as well. After taking such actions, the company should already have a clear and comprehensive judgement for its concern.

SOCEITY CLOTHING CORPORATION CASE NO. 3

A Case Analysis

Presented to the Graduate School HOLY CROSS OF DAVAO COLLEGE

In Partial Fulfilment of the Requirements for the Subject Financial Management

Master in Management by RANDY ANDRIN JESSIELYN A. PULVERA GELLI ANN DELA ROSA November 2013