View
220
Download
0
Category
Preview:
Citation preview
8/9/2019 Financial Restruct
1/48
Financial Restructuring inFinancial Restructuring in
CorporationsCorporations
Dr. Khaled F. SherifDr. Khaled F. SherifSector ManagerSector Manager
Europe and Central Asia DepartmentEurope and Central Asia Department
The World BankThe World Bank
Washington D.C.Washington D.C.
http://www.ksherif.comhttp://www.ksherif.com
8/9/2019 Financial Restruct
2/48
Why Do Firms Fail?Why Do Firms Fail?
Corporate failure occurs when theCorporate failure occurs when thefollowing performance patterns exist:following performance patterns exist:
Firm performance never rises above a poorFirm performance never rises above a poorlevel;level;
Firm shoots up to very high levels ofFirm shoots up to very high levels ofperformance before crashing down;performance before crashing down;
Firm performance partially collapses,Firm performance partially collapses,followed by a relatively longer plateaufollowed by a relatively longer plateauperiod of subperiod of sub--par performance, and thenpar performance, and thenrapid decline into insolvency.rapid decline into insolvency.
8/9/2019 Financial Restruct
3/48
Processes Resulting inProcesses Resulting inCorporate FailureCorporate Failure
There are at least two primary failureThere are at least two primary failureprocesses:processes:
Relatively long duration in which financialstress is evident
STRESSEDSTRESSED
A relatively rapid, unexpeced failure in whichfinancial stress (proxied by accounting numbers)
is not evident
UNSTRESSEDUNSTRESSED
8/9/2019 Financial Restruct
4/48
Corporate RestructuringCorporate Restructuring
There is always a step company makes beforeThere is always a step company makes beforefiling for bankruptcy. This step is calledfiling for bankruptcy. This step is calledcorporate restructuring.corporate restructuring.
The aim of corporate restructuring is toThe aim of corporate restructuring is to
rehabilitate financially distressed company.rehabilitate financially distressed company. Corporate restructuring takes place through:Corporate restructuring takes place through:
Government involvement by utilizing suchGovernment involvement by utilizing suchrestructuring vehicles as establishment of Assetrestructuring vehicles as establishment of Asset
Management Companies, Deposit InsuranceManagement Companies, Deposit InsuranceCorporations, Corporate Restructuring Funds, etc.Corporations, Corporate Restructuring Funds, etc.
Company management involvement by changingCompany management involvement by changingfirm's strategy and restructuring its financialfirm's strategy and restructuring its financialstatements.statements.
8/9/2019 Financial Restruct
5/48
Why Restructure?Why Restructure?
Why does a firm face a need toWhy does a firm face a need torestructure?restructure?
Firm is overleveraged
Firm is underleveraged
Firm faces sluggish sales
Firm faces seasonal sale problems
Firm faces externalities
8/9/2019 Financial Restruct
6/48
Review of Basic RatiosReview of Basic Ratios
Before proceeding with approaches andBefore proceeding with approaches andmethods to financial restructuring, letsmethods to financial restructuring, letssummarize basic financial ratios:summarize basic financial ratios:
LiquidityLiquidityratiosratios
LeverageLeverageratiosratios
ActivityActivityratiosratios
ProfitabilityProfitabilityratiosratios
8/9/2019 Financial Restruct
7/48
Leverage RatiosLeverage Ratios
Nine ratios describe leverage. They allNine ratios describe leverage. They allare an indication of how a firm gets itsare an indication of how a firm gets itsoperating funds:operating funds: Collection PeriodCollection Period
Sales to InventorySales to Inventory
Assets to SalesAssets to Sales
Sales to Net Working CapitalSales to Net Working Capital
Accounts Payable to SalesAccounts Payable to Sales
Debt to EquityDebt to Equity
Current Debt to EquityCurrent Debt to Equity
Interest CoverageInterest Coverage
Debt ServicesDebt Services
8/9/2019 Financial Restruct
8/48
Financial Leverage RatiosFinancial Leverage Ratios
Financial leverage ratios measure the fundsFinancial leverage ratios measure the fundssupplied by owners (equity) as compared withsupplied by owners (equity) as compared withthe financing provided by the firms creditorsthe financing provided by the firms creditors(debt).(debt).
Financial leverage is the use of debt to magnifyFinancial leverage is the use of debt to magnifyreturn on equity (ROE) to shareholders.return on equity (ROE) to shareholders.
Equity, or ownerEquity, or owner--supplied funds, provide asupplied funds, provide amargin of safety for creditors. Thus, the lessmargin of safety for creditors. Thus, the lessequity, the more the risks of the enterprise toequity, the more the risks of the enterprise to
the creditors.the creditors. To understand financial leverage we need toTo understand financial leverage we need to
understand ratios between Debt to Total Assetsunderstand ratios between Debt to Total Assetsand Debt to Equityand Debt to Equity
8/9/2019 Financial Restruct
9/48
8/9/2019 Financial Restruct
10/48
Sample Income StatementSample Income Statement
Company X Income StatementEnding December 31, 2003 ($000)
Net Sales 3,400
Other Income 100
Total Revenue 3,500
Cost of Goods Sold 1,000Gross Profit 2,500
General Expenses 200
Administrative Expenses 250
Selling Expenses 50
Earnings Before Interest and Taxes (EBIT)2,000
Interest Expenses 500
Earnings Before Taxes (EBT) 1,500
Taxes 500
Earnings After Taxes (EAT) or Net Profit 1,000
8/9/2019 Financial Restruct
11/48
The debt ratio is the ratio of total debt to totalThe debt ratio is the ratio of total debt to totalassets and measures the percentage of totalassets and measures the percentage of totalfunds provided by creditors:funds provided by creditors:
DEBT RATIO =DEBT RATIO =
Debt Ratio for Company X for the year 2003 isDebt Ratio for Company X for the year 2003 iscalculated as followscalculated as follows
Debt Ratio = 8,000 / 22,000 = 0.36Debt Ratio = 8,000 / 22,000 = 0.36
Financial Leverage Ratios:Financial Leverage Ratios:Debt RatioDebt Ratio
TOTAL DEBT
TOTAL ASSETS
8/9/2019 Financial Restruct
12/48
Debt RatioDebt Ratio
To see whether Company Xs Debt RatioTo see whether Company Xs Debt Ratiois an indicator of its good performance,is an indicator of its good performance,we need to look at:we need to look at: the historical trend of the ratiothe historical trend of the ratio
A comparison of the companys performanceA comparison of the companys performanceagainst other major players in the industryagainst other major players in the industry
If Debt Ratio is rising, the company isIf Debt Ratio is rising, the company isdeveloping a leverage problemdeveloping a leverage problem
If the debt ratio is falling, the company isIf the debt ratio is falling, the company isinvesting more of its own resources toinvesting more of its own resources togenerate assets and is becoming lessgenerate assets and is becoming lessdependent on debtsdependent on debts
8/9/2019 Financial Restruct
13/48
Debt RatioDebt Ratio -- Industry GraphIndustry Graph
-
.
.
.
.
.
.
.7
7
o pany o pany Y
o pany Z Industry erage
8/9/2019 Financial Restruct
14/48
8/9/2019 Financial Restruct
15/48
The debt to equity ratio compares the amount ofThe debt to equity ratio compares the amount ofmoney borrowed from creditors to the amountmoney borrowed from creditors to the amountof shareholders investment made within a firmof shareholders investment made within a firm
DEBT TO EQUIT RATIO =DEBT TO EQUIT RATIO =
Debt to Equity Ratio for Company X for the yearDebt to Equity Ratio for Company X for the year
2003 is calculated as follows2003 is calculated as follows
Debt To Equity Ratio = 8,000 / 14,000 = 0.5Debt To Equity Ratio = 8,000 / 14,000 = 0.5
Financial Leverage Ratios:Financial Leverage Ratios:Debt to Equity RatioDebt to Equity Ratio
TOTAL DEBT
TOTAL EQUITY
8/9/2019 Financial Restruct
16/48
Debt to Equity RatioDebt to Equity Ratio
To see whether Company Xs Debt toTo see whether Company Xs Debt toEquity Ratio is an indicator of its goodEquity Ratio is an indicator of its goodperformance, we need to look at:performance, we need to look at: the historical trend of the ratio,the historical trend of the ratio,
the company compared with other majorthe company compared with other majorplayers in the industryplayers in the industry
If Debt to Equity Ratio is rising, theIf Debt to Equity Ratio is rising, thecompany is developing a leveragecompany is developing a leverageproblemproblem
If the debt ratio is falling, the company isIf the debt ratio is falling, the company isinvesting more of its owners resources toinvesting more of its owners resources togenerate assets and is becoming lessgenerate assets and is becoming lessdependent on creditorsdependent on creditors
8/9/2019 Financial Restruct
17/48
Debt to Equity RatioDebt to Equity Ratio -- IndustryIndustryGraphGraph
-
o pany o pany
o pany Industry era e
8/9/2019 Financial Restruct
18/48
Example of Debt to EquityExample of Debt to EquityRatioRatio
Debt to Equity Ratio of Company X hasDebt to Equity Ratio of Company X hasbeen declining from 199 to 2003been declining from 199 to 2003 It went down from 0. 9 to 0.5It went down from 0. 9 to 0.5
This means the company has beenThis means the company has beenchanging its debt to equity mix withchanging its debt to equity mix withmoving away from heavy debt borrowingmoving away from heavy debt borrowingto raising capital from shareholdersto raising capital from shareholders
The graph also shows that Company XThe graph also shows that Company Xhas been overleveraged in 199has been overleveraged in 199
8/9/2019 Financial Restruct
19/48
Example of Debt to EquityExample of Debt to EquityRatioRatio
Compared to the Industry in 2003, theCompared to the Industry in 2003, theCompany X is performing slightly aboveCompany X is performing slightly abovethe industry average, but has shown athe industry average, but has shown a
persistent trend towards the industrypersistent trend towards the industryaverage Debt to Equity Ratioaverage Debt to Equity Ratio
Company XCompany X 0.50.5
Industry AverageIndustry Average 0.510.51
Company X has performed better thanCompany X has performed better thanCompany in 2003. Company Z showsCompany in 2003. Company Z showssigns of being underleveraged, whichsigns of being underleveraged, whichcan be very riskycan be very risky
8/9/2019 Financial Restruct
20/48
Decisions about LeverageDecisions about Leverage
Decisions about the use of leverageDecisions about the use of leveragemust balance higher expected returnsmust balance higher expected returnsagainst increased risk.against increased risk.
Debt funding enables the owners to maintainDebt funding enables the owners to maintaincontrol of the firm with a limited investment.control of the firm with a limited investment.
If the firm earns more on the borrowed fundsIf the firm earns more on the borrowed fundsthan it pays in interest, the return to thethan it pays in interest, the return to the
owners is magnified.owners is magnified.
8/9/2019 Financial Restruct
21/48
Decisions about LeverageDecisions about Leverage
Indicate less risk of loss when the economy is ina downturn, but lower expected returns when the
economy booms
LOW LEVERAGE RATIOSLOW LEVERAGE RATIOS
Indicate the risk of large losses, but also have achance of gaining high profits
HIGH LEVERAGE RATIOSHIGH LEVERAGE RATIOS
8/9/2019 Financial Restruct
22/48
Decisions about LeverageDecisions about Leverage
DebtDebt
EquityEquity
Too much Debt =Too much Debt =
Overleveraged firmOverleveraged firm
Too much Equity =Too much Equity =
Underleveraged firmUnderleveraged firm
The decision is a tradeoff between Risks and Returns.The decision is a tradeoff between Risks and Returns.A firm should adopt a policy that minimizes risks andA firm should adopt a policy that minimizes risks andmaximizes returnsmaximizes returns
8/9/2019 Financial Restruct
23/48
Examples of OverleveragedExamples of Overleveragedand Underleveraged Firmsand Underleveraged Firms
A firm needs to raise $100,000 in capitalA firm needs to raise $100,000 in capital
Company borrows at 8% per yearCompany borrows at 8% per year
Income taxes are at 40%Income taxes are at 40%
COGS is 60% of sales, and fixed costsCOGS is 60% of sales, and fixed costsare $40,000are $40,000
We will look at three scenarios whereWe will look at three scenarios whereDebt to Equity ratios will be at 25%,Debt to Equity ratios will be at 25%,100% and 400%100% and 400%
What should the debt and equity mix be, and what is itgoing to affect, and how?
8/9/2019 Financial Restruct
24/48
Examples of OverleveragedExamples of Overleveragedand Underleveraged Firmsand Underleveraged Firms
Debt to Equity RatioDebt to Equity Ratio 25%25% 100%100% 400%400%
Net sales 150,000 150,000 150,000COGS 90,000 90,000 90,000Fixed Costs 40,000 40,000 40,000
Interest Expense 1,600 4,000 6,400Pretax Income 18,400 16,000 13,600Income tax (40%) 7,360 6,400 5,440Net Income 11,040 9,600 8,160
Return on Equity 13.8% 19.2% 40.8%
Debt (8% interest) 20,000 50,000 80,000Equity 80,000 50,000 20,000Total Capital 100,000 100,000 100,000
8/9/2019 Financial Restruct
25/48
Examples of OverleveragedExamples of Overleveragedand Underleveraged Firmsand Underleveraged Firms
By looking at debt and equity mix, it isBy looking at debt and equity mix, it isclear that underleveraged companies:clear that underleveraged companies:
Have low EBT
Pay less in taxes
Their net income is comparatively low
ROE is the highest, since there is anover-reliance on debt
Pay high interest expenses
8/9/2019 Financial Restruct
26/48
Examples of OverleveragedExamples of Overleveragedand Underleveraged Firmsand Underleveraged Firms
By looking at debt and equity mix, it isBy looking at debt and equity mix, it isclear that overleveraged companies:clear that overleveraged companies:
Have higher EBT
Pay higher dollars in taxes
Their net income is comparatively higher
ROE is the lowest, since there is an over-reliance on equity, and the net profit is not
commensurate to the amount of equity raised
Pay less in interest expenses
8/9/2019 Financial Restruct
27/48
Examples of OverleveragedExamples of Overleveragedand Underleveraged Firmsand Underleveraged Firms
Overleveraged companies also haveOverleveraged companies also haveother obligations not shown here, suchother obligations not shown here, suchas payment of dividends to shareholdersas payment of dividends to shareholders
The more equity is raised throughThe more equity is raised throughshareholders (stocks issued), the moreshareholders (stocks issued), the morefirms have to pay out in dividends, thusfirms have to pay out in dividends, thus
reducing their retained earnings that canreducing their retained earnings that canlater be relater be re--invested into businessinvested into businessexpansionexpansion
8/9/2019 Financial Restruct
28/48
Causes for FinancialCauses for FinancialRestructuringRestructuring
There are several instances whereThere are several instances wherecompany management has to make acompany management has to make adecision about Financial Restructuringdecision about Financial Restructuring
This includes cases when:This includes cases when: Firm is overleveragedFirm is overleveraged
Firm is underleveragedFirm is underleveraged
Firm faces sluggish salesFirm faces sluggish sales Firm faces seasonal sale problemsFirm faces seasonal sale problems
Firm faces externalitiesFirm faces externalities
8/9/2019 Financial Restruct
29/48
8/9/2019 Financial Restruct
30/48
Overleveraged FirmOverleveraged Firm
Overleveraging is acceptable in casesOverleveraging is acceptable in caseswhen a firm is undertaking expansionwhen a firm is undertaking expansionprojects (buying new plant andprojects (buying new plant and
equipment, investing into newequipment, investing into newtechnologies) that have high probabilitytechnologies) that have high probabilityof higher expected returns, profits, andof higher expected returns, profits, andthus ROAthus ROA
When firms overWhen firms over--borrow debt on aborrow debt on aconsistent basis, and thus haveconsistent basis, and thus haveprofitability issues, the management hasprofitability issues, the management hasto consider Financial Restructuringto consider Financial Restructuring
8/9/2019 Financial Restruct
31/48
Overleveraged FirmOverleveraged Firm
If a firm is fully leveraged, it will not be able toIf a firm is fully leveraged, it will not be able toborrow moneyborrow money
A lower debtA lower debt--equity ratio will make for easierequity ratio will make for easierloan negotiations in the event a firm needs toloan negotiations in the event a firm needs to
borrow money in the futureborrow money in the future Many financially distressed firms thatMany financially distressed firms that
restructure their debts either file for bankruptcyrestructure their debts either file for bankruptcylater or experience financial distress againlater or experience financial distress again
This is because they remain overleveraged afterThis is because they remain overleveraged afterthe restructuring; outthe restructuring; out--ofof--court restructuringscourt restructuringsleave firms with suboptimal capital structuresleave firms with suboptimal capital structures
8/9/2019 Financial Restruct
32/48
Overleveraged FirmOverleveraged Firm
Financial Restructuring in overleveragedFinancial Restructuring in overleveragedfirm can be implemented throughfirm can be implemented through
Selling off unprofitable assets to pay off debt
Rent out equipment to pay off debt
Restructure debt (refinance LT debt with alower interest rate, if possible)
Issuing new stocks
Debt to equity swap
8/9/2019 Financial Restruct
33/48
Overleveraged FirmOverleveraged Firm -- ExampleExample
Issuing new stocksIssuing new stocks (issue $50,000 in stocks(issue $50,000 in stocksto pay off $50,000 in debt)to pay off $50,000 in debt)
BeforeBefore After After
Total Assets $100,000 $102,400Total Debt $80,000 $30,000
Total Equity $20,000 $ 2,400
Common Stocks $10,000 $60,000
Retained Earnings $10,000 $12,400
Net Profit $8,160 $10,560
Debt Ratio 80% 29%Debt to Equity Ratio 400% 41%
Return on Equity 41% 15%
Return on Assets 8% 10%
8/9/2019 Financial Restruct
34/48
Underleveraged FirmUnderleveraged Firm
The problem of underleverage arises when aThe problem of underleverage arises when afirm has raised majority of its capital throughfirm has raised majority of its capital throughstocksstocks
As a result, firm has a very low Debt to EquityAs a result, firm has a very low Debt to Equity
RatioRatio
With higher equity the firm has to improve itsWith higher equity the firm has to improve itsperformance to keep the shareholders happyperformance to keep the shareholders happy
If firm pays dividends, it has to constantlyIf firm pays dividends, it has to constantlyallocate a portion of its profits towardsallocate a portion of its profits towardsdividends payable to shareholdersdividends payable to shareholders
8/9/2019 Financial Restruct
35/48
Underleveraged FirmUnderleveraged Firm
Financial Restructuring in underleveragedFinancial Restructuring in underleveragedfirm can be implemented throughfirm can be implemented through
Buying back stocks for cash (if available)
Borrowing funds (debt) to buyback stocks toattain the best debt to equity mix
Selling off unprofitable assets to
buyback stocks
Renting out equipment to buyback stocks
8/9/2019 Financial Restruct
36/48
Underleveraged FirmUnderleveraged Firm --ExampleExample
Borrowing funds to buyback stocksBorrowing funds to buyback stocks (borrow(borrow$40,000 in debt to buy back $40,000 worth of$40,000 in debt to buy back $40,000 worth ofcommon shares)common shares)
BeforeBefore After After
Total Assets $100,000 $98,080Total Debt $10,000 $50,000
Total Equity $90,000 $48,080
Common Stocks $80,000 $40,000
Retained Earnings $10,000 $8,080
Net Profit $11,520 $9,600
Debt Ratio 10% 51%Debt to Equity Ratio 11% 104%
Return on Equity 13% 20%
Return on Assets 12% 10%
8/9/2019 Financial Restruct
37/48
Firm with Sluggish SalesFirm with Sluggish Sales
Sluggish sales can cause financial distress, as they affecta companys cash flow
Sluggish sales are influenced by the line of business a firmis in
Usually, firms face sluggish sales when they are into bigticket items sale, or when the economy is slow
As a result, companys working capital decreases causingcash deficit
One of the areas most affected by sluggish sales is pilingof accounts receivable and the problem of non-collection
Cash deficit forces firms management to take alternativesteps to raising cash through stock issuance, debt
borrowing or other
8/9/2019 Financial Restruct
38/48
Firm with Sluggish SalesFirm with Sluggish Sales --ExampleExample
Decrease in sales by $25,000 and $35,000. OriginalDecrease in sales by $25,000 and $35,000. Originalsales at $150,000.sales at $150,000.
BeforeBefore After After AfterAfter(sales down(sales down (sales down(sales downby $25,000)by $25,000) by $35,000)by $35,000)
Total Assets $100,000 $94,000 $91,600Total Debt $50,000 $50,000 $50,000Total Equity $50,000 $44,000 $41,600
Common Stocks $40,000 $40,000 $40,000Retained Earnings $10,000 $4,000 $1,600
Net Profit $9,600 $3,600 $1,200Debt Ratio 50% 53% 55%
Debt to Equity Ratio 100% 114% 120%Return on Equity 19% 8% 3%Return on Assets 10% 4% 1%
8/9/2019 Financial Restruct
39/48
Firm with Sluggish SalesFirm with Sluggish Sales --ExampleExample
The example showed that a slight drop inThe example showed that a slight drop insales might completely change thesales might completely change thefinancial picture of a firmfinancial picture of a firm
Decline in profits causes drop in totalDecline in profits causes drop in totalassets (decrease in cash inflow) andassets (decrease in cash inflow) andequity (decrease in retained earnings)equity (decrease in retained earnings)
If not addressed timely, this might causeIf not addressed timely, this might causea problem of overleveraged firma problem of overleveraged firm
8/9/2019 Financial Restruct
40/48
Firm with Sluggish SalesFirm with Sluggish Sales --ExampleExample
Current AssetsCurrent Assets Current LiabilitiesCurrent Liabilities(remain unchanged)(remain unchanged)
Fixed AssetsFixed Assets Long Term LiabilitiesLong Term Liabilities(remain unchanged)(remain unchanged) (remain unchanged)(remain unchanged)
Equity/CapitalEquity/Capital
TOTAL ASSETSTOTAL ASSETS TOTAL LIABILITIES + EQUITYTOTAL LIABILITIES + EQUITY
Working Capital = CAWorking Capital = CA CLCL
8/9/2019 Financial Restruct
41/48
Firm with Sluggish SalesFirm with Sluggish Sales
Financial Restructuring in a firm with slow salesFinancial Restructuring in a firm with slow salescan be implemented through:can be implemented through:
Different hedging techniques (to avoid or covercurrency risk, interest rate risk, etc.)
Borrowing funds on line of credit to cover workingcapital gap
Selling off unprofitable assets to raise cash
Renting out equipment to raise cash
Selling techniques (such as selling on credit, providingdiscounts, or demanding prepayment)
Diversification of line of business (producing fastselling products in parallel to compensate slow salesand raise additional cash to use as a working capital)
8/9/2019 Financial Restruct
42/48
Firm with Sluggish SalesFirm with Sluggish Sales
Why do companies attempt to hedgeWhy do companies attempt to hedge
Hedging is contingent on the preferences ofHedging is contingent on the preferences ofthe firm's shareholdersthe firm's shareholders
There are risks peripheral to the centralThere are risks peripheral to the centralbusiness in which they operatebusiness in which they operate
Companies do not exist in isolation; hedgingCompanies do not exist in isolation; hedgingis also used to improve or maintain theis also used to improve or maintain the
competitiveness of the firmcompetitiveness of the firm
8/9/2019 Financial Restruct
43/48
Firm with Seasonal SalesFirm with Seasonal Sales
Seasonal sales are attributive to firms inSeasonal sales are attributive to firms inseveral industries such as farming,several industries such as farming,construction, businesses highly dependentconstruction, businesses highly dependenton holidays, etc.on holidays, etc.
The question is how to keep businessesThe question is how to keep businessesviable when the season is outviable when the season is out
Similar techniques can be adopted as withSimilar techniques can be adopted as withsluggish salessluggish sales
In addition, firms with seasonal sales needIn addition, firms with seasonal sales needto engage into other lines of businesses, toto engage into other lines of businesses, todiversify and therefore reduce the risk, asdiversify and therefore reduce the risk, aswell as to have an additional source for cashwell as to have an additional source for cashinflowinflow
8/9/2019 Financial Restruct
44/48
Firm with Seasonal SalesFirm with Seasonal Sales
Seasonal pattern in sales affectsSeasonal pattern in sales affectscompany profits, and therefore, causescompany profits, and therefore, causescash flow deficit during later monthscash flow deficit during later months
Cash flow deficit causes working capitalCash flow deficit causes working capital
gapgap Working capital gap slows downWorking capital gap slows down
company growthcompany growth
In order to raise cash the company canIn order to raise cash the company can
borrow long term debt or issue stocks;borrow long term debt or issue stocks;before doing so, however, it should showbefore doing so, however, it should showcompany sustainabilitycompany sustainability
8/9/2019 Financial Restruct
45/48
Firm with Seasonal SalesFirm with Seasonal Sales
Financial Restructuring in a firm withFinancial Restructuring in a firm withseasonal sales can be implementedseasonal sales can be implementedthroughthrough Different hedging techniquesDifferent hedging techniques
Borrowing funds on line of credit to coverBorrowing funds on line of credit to coverworking capital gap during months ofworking capital gap during months ofinactivityinactivity
Diversification of line of business (producingDiversification of line of business (producingproducts that have nonproducts that have non--seasonal demand toseasonal demand to
compensate seasonal sales and raisecompensate seasonal sales and raiseadditional cash for covering working capitaladditional cash for covering working capitalgap)gap)
8/9/2019 Financial Restruct
46/48
Firm facing ExternalitiesFirm facing Externalities
Firms face externalities such as:Firms face externalities such as: Changes in currency exchange ratesChanges in currency exchange rates
Changes in global interest ratesChanges in global interest rates
Fluctuations in prices for imported rawFluctuations in prices for imported raw
materialsmaterials This causes firms product prices to goThis causes firms product prices to go
upup
Pushing price increases to consumersPushing price increases to consumers
usually affects the companys sales;usually affects the companys sales;resulting in sluggish salesresulting in sluggish sales
8/9/2019 Financial Restruct
47/48
Firm facing ExternalitiesFirm facing Externalities
There are several techniques thatThere are several techniques thatcompanies can employ to reduce externalcompanies can employ to reduce externalriskrisk
This includesThis includes different techniques ofdifferent techniques of
hedging:hedging: Buying raw materials in abundance to hedgeBuying raw materials in abundance to hedge
price fluctuations of imported materials.price fluctuations of imported materials.
Currency hedgingCurrency hedging
Interest rate hedgingInterest rate hedging Future and forward contractsFuture and forward contracts
8/9/2019 Financial Restruct
48/48
ConclusionConclusion
Each firm is a unique entity, and there isEach firm is a unique entity, and there isno one road map for successno one road map for success
Management should be aware of differentManagement should be aware of differenttechniques available when a company istechniques available when a company is
in financial distressin financial distress Each decision should be tailored to a firmEach decision should be tailored to a firm
taking into account specificity of thetaking into account specificity of thebusinessbusiness
Management has to look at advantagesManagement has to look at advantagesand disadvantages each decision has.and disadvantages each decision has.
Recommended