How has Aurora Textile performed over the past four years? Be prepared to provide financial ratios that present a clear picture of Aurora’s financial condition
On the basis of financial statement overlook and the outcome of the financial ratios, we found that over the period of 1999-2002, the company’s financial performance was bearish. Moreover, just like the other companies in the industry, even the company had not considered the possible impact and consequently lost its financial standing.
Beginning with the revenue figures, the amount has been decreasing consistently and plummeted from $245.90 million to $147.503 million by the end of 2002, and thus accounting for a cumulative loss of 11.99% every year. The impact of decreasing sales figure was very much visible on the bottom line profits as over the period of four years, the bottom line losses of the company inflated from $4.467 million to $7.040 million. The decline here can be attributed to overall tough financial and overall environment for the textile industry in the United States. To extend our analysis further, we calculated some profitability and liquidity ratio of the company:
As noted from the above figures, the profitability ratios, such as ROE and ROA, confirms poor financial performance of the company. Additionally, we gauge the liquidity position of the company using the cash ratio and here also we found that the company is operating with minimal cash reserves, and this is most likely to invite more trouble for the company. It is considerable that the case details that since 1999, 150 textile plants had been closed in the country and thus, if Aurora Textile do not consider this entire situation with utmost urgency, it might be the next one to face the ill consequences of poor financial standing.
Q: List the factors affecting the textile industry. What do you think is the state of the industry in the United States? How should you incorporate the state of the textile industry into your analysis? Why should anyone invest money in the industry?
Below we have discussed some of the factors that have affected the textile industry:
Low cost production in Asia: The case details that in the recent years, the majority of the production activity has shifted to the Asian region as the industry participants look for lower cost of production. The trend was followed by apparel makers and then the yarn manufacturers. As a consequence, the existing yarn manufacturers in the United States continued to face decline on account of low cost import for yarns
Change in consumer preference:
The industry is also witnessing significant change in the consumer preference, who now look for high quality yarns with minimum defects.
Shift from mass production to flexible production:
The textile industry has also shifted their focus on flexible production as it look to offer their produce to customized markets. Accordingly, firms are now focused on producing goods with customized outlook, but with minimal lead time
Information Technology:
IT has changed the phase of the textile industry and has allowed the retailers to communicate their need and grievances with the apparel manufacturers. For instance, if a shirt is found defective, IT means allow the retailer to find the source of error, and can eventually ask the manufacturer to repay the entire retail price
i)Unfavorable exchange rate for Textile Industry
Strong US dollars has allowed the overseas exporters to export large volumes to US market at lower prices and this has posed negative effects on Aurora and other companies, whose manufacturing is based entirely in the United States. In order to face the competition, these companies are forced to cut costs to stay operational
Trade agreements with Canada, Mexico and Carriben countries lowered the prices for consumer goods in the US market and this further affected the textile companies negatively
Reason for investing in US market:
Even though US textile industry is experiencing turbulence, however, analyst are still projecting growth on account of globalization and trade policies of the federal government. Moreove, even the analysts have confirmed 2% growth in the industry
What are the relevant cash flows for the Zinser investment? Using a 10% WACC and assuming a 36% tax rate, what do you get as the NPV for the project? What are the value drivers in your analysis? What do you estimate as the cost per pound for customer returns under the Zinser alternative? (Hint: for a replacement decision, analysts often find it helpful to prepare two sets of cash flows and two NPVs—one for the status quo and one for the new machine.)
Following he NPV profile for both the scenarios,we found that old machinery yields net positive NPV compared with that of Zinser investment. Refer to excel sheet for calculations.
Q4. Craft a memo to the board of directors stating your recommendation about investing in the new Zinser machine. Part of your memo should explain why it is better to invest in the Zinser or to pay a dividend to the shareholders. Be sure to explain the primary reasons that justify your recommended course of action.
Dear Authorities,
I had received comprehensive detail relating to the company’s consideration of replacing old machinery with a new ring-spinning machine, the Zinser 351 in our Hunter production facility. Beginning with the qualitative analysis, I found the option lucrative enough as the new machine is expected to produce a fine-quality yarn and will also align with the customized taste of consumers in the high-end market. Additionally, the yarn produced by this machine will also command a 10% premium in the selling price, which at present was recorded at $1.0235 a pound. Moreover, Zinser will also be a useful tool for the company to reduce the operational costs with lower power consumption and maintenance expenses. This will result in saving of $0.03 per pound.
However, since we are largely concerned with shareholder value, it was important for us to analyze the NPV profile under both scenarios. Ironically, my calculation reveals that even though Zinser is a fantastic tool, however, the NPV offered by this project is lower than that of existing machine. Therefore, on the basis of NPV outcome, I suggest that we should keep old machinery only.
I hope my suggestions will be useful for you, and if you need any assistance, please let me know
Regards,
References
"Aurora Textile Case Study." n.d.
"Capital Budgeting Techniques: Certainity and Risk ." n.d. 26 February 2016 <http://wps.aw.com/wps/media/objects/222/227412/ebook/ch09/chapter09.pdf>.
Kaplan Inc. "Capital Budgeting." Inc., Kaplan. Schweser notes for CFA Exam- Corporate Finance. Kaplan , 2015. 214-250.
