Lawrence_Sport_Scenerio

Learning Team Assignment: The Lawrence Sports Simulation Lawrence Sports is a manufacturer of sports equipment bringing in $20 million in revenue per year. They have two sources of materials, Gartner Products and Murray Leather Works and supply mainly to Mayo Stores, the largest retailer in the world for sports equipment. In the simulation, the team becomes the finance manager at Lawrence, responsible for planning the working capital starting in April, reporting to Chief Financial Officer, Stephanie Sanders. Lawrence has an open line of credit with their bank to retain a minimum cash balance of $50,000 with a limit of $1.2 million. The interest rate increases as the loan amount increases and the amount must be paid at end of each month, retaining $50,000. Interest is 10% on the low end, up to 16% at the high end of borrowing. The CFO wants to keep bank borrowing as low as possible by negotiating terms with suppliers and buyers. Three Alternative working Capital & the Risk Associated The first alternative for Lawrence Sports would be to negotiate more favorable credit terms with its suppliers, Murray Leather Works and Gartner Products. Gartner Products provides approximately 70% of raw materials to Lawrence. They are a $200 million revenue company that owns 37% total market share in sports material supply. Lawrence accounts for a small percent of Gartner’s sales. On the other hand, Murray Leather Works is a small supplier with only $10 million in sales with Lawrence accounting for 75% of that revenue. Lawrence has a large amount of pull with the supplier but Murray is too reliant on Lawrence and may run into financial difficulty if terms are pushed too far out. Currently Garner is paid 40% at the time of the sale with 60% due the following week and Murray Leather is paid 15% on purchase with the remaining 85% due the next week. Lawrence should negotiate a credit term of 100% payment, four weeks after the receipt of the goods it receives from each supplier. This alternative is called a trade credit, which is “an arrangement to buy goods or service on account, that is, without making immediate cash payment” (Entrepreneur Magazine's). “Trade credit is the largest single source of short-term funds for businesses, representing approximately one-third” of many businesses short-term debt (Emery, Finnery &Stowe, p. 649, 2007). It is common for a buyer to request 60-day net terms on raw goods. This alternative would be more desirable than taking loans from a bank because the bank interest starts at 10% and most often supplier’s credit only costs 2%. Gartner has control of 37% of the market, leaving 63% open to other suppliers, so Gartner is not irreplaceable and there could be alternate suppliers that would give Lawrence Sports at least one-month’s credit. Negotiating better terms with Gartner is especially important because Lawrence sources about 70% of its raw materials from the supplier of which they have been a regular and long time customer, earning some amount of influence even if small. The second alternative is for Lawrence to negotiate with Mayo Stores to receive full payment on delivery. The first trouble in the simulation comes when Mayo defaults saying they will pay almost a month late. This will cause Lawrence to have to borrow from the bank and defer payment to suppliers. While Lawrence does not want to upset their largest buyer, they must request payment sooner. This second alternative may be more difficult. Mayo purchases 95% of the production of Lawrence Sports and Mayo is in a strong bargaining position being the world’s largest retailer. Once Lawrence Sports builds up more customers and other buyers for its product, the bargaining power that Mayo stores has may change. By obtaining more customers, Lawrence Sports should be able to reduce it working capital risk. The third alternative is for Lawrence Sports to negotiate a higher price with Mayo Stores, so that they can defray the cost of the line of credit. This third alternative is one which Lawrence Sports resigns itself to the idea of meeting all of it’s’ working capital needs through the bank line of credit. This would cause an additional capital cost that will reflect in the price Lawrence charges customers like Mayo. However, the profitability of Lawrence should not be affected because of the adverse credit policies and actions of the suppliers and customers. It is recommended that Lawrence should use a mix of the trade credit from the first alternative and parts of the second alternative of requesting payment from buyers sooner. Lawrence should negotiate for better terms with Murray and Gartner on one side and then with Mayo Stores on the other. As shown below in Table 1, this would shorten the cash conversion cycle at Lawrence, receiving as long as possible to pay suppliers while collecting payments from buyers as fast as possible (Emery, Finnery & Stowe, p. 643, 2007). On the suppler side with Murray and Gartner, the negotiations will be fruitful; however, with Mayo Store, they might not agree to the cash on delivery terms. The only way Lawrence will reduce it risk is to increase the number of customers gradually. Table 1 – Desired Cash Conversion Cycle Contingencies for the recommendation The contingencies associated with the recommended plan are that the suppliers will simply refuse to allow longer terms on the trade credit or not be in a financial position to provide it. In this case, Lawrence may have to find new suppliers. On the buyer side, they are so large and influential that they could find other manufacturers to fill in Lawrence’s spot. Lawrence would then have to find other outlets to sell their goods. Performance measures to evaluate recommendation The performance measures we focus on are capital marketing, risk-return trade-off and behavioral. “Capital Market Efficiency: Periodically evaluate routine capital market alternatives to make sure they continue to be competitive being careful to distinguish between routine transactions made in an efficient capital market and unique transactions that are not subjected to such intense competition” (Emery, Finnery & Stowe, p. 639, 2007). “Risk-Return Trade-Off: Recognize that risk-return trade-off decisions are part of a firm’s choice of financing working capital” (Emery, Finnery & Stowe, p. 639, 2007). “Behavioral: Use common industry practices as a starting place for operating efficiently” (Emery, Finnery & Stowe, p. 639, 2007). As stated earlier we show the use of risk-return trade-off when we ask the suppliers to allow longer terms on the trade credit. If the suppliers will not agree to the terms, Lawrence will be forced to find other suppliers. On the buyer side, they are so large and influential that they could find other manufacturers to fill in Lawrence’s spot. Implementation Plan for Recommendation Summary of the Implementation Plan: This implementation plan alternative is designed to keep Lawrence Sport’s bank borrowing as low as possible by negotiating terms with suppliers and buyers. Main Source Area of this Project: Gartner Products and Murray Leather Works - supply mainly to Mayo Stores, the largest retailer in the world for sports equipment. Project Implementation Approach: The proposed project will consist of three distinct phrases starting in April, May and June 2010, which may run sequentially depending on resources and budget. Phase I – Data collection: Alternatives Mixture 1. Develop project charter – to establish standards for data development 2. Form team – personnel with necessary skill sets 3. Signoff project charter – CFO, executives and team leads 4. Map budget process – map out plan 5. Start development – start the work 6. Monitor and identify probable causes Phase II – Review – Development 7. Develop test plan of recommendation 8. Evaluate risk associated 9. Test solutions 10. Review & refine solutions 11. Signoff Phase II – CFO, executives and team leads Phase III – Review & Refine Recommendation Solution 12. Make necessary changes 13. Test solutions and measure performance 14. Review & Refine solutions 15. Final Review - Signoff Phase II – CFO, executives and team leads Gantt Chart: Conclusion We have presented three alternatives, which Lawrence Sports may choose. The first was to negotiate more favorable credit terms with suppliers. The second alternative is for Lawrence to negotiate with Mayo Stores to receive full payment on delivery. This will ensure that payment is received on time. The third alternative is for Lawrence Sports to negotiate a higher price with Mayo Stores so that they can defray the cost of the line of credit. In this paper, we have analyzed three alternative solutions, developed an implementation plan and evaluated the results. It is recommended that Lawrence should use a mix of the trade credit from the first alternative and parts of the second alternative of requesting payment from buyers sooner. The only way Lawrence will reduce its risk is to increase the number of customers. We also discussed contingencies for the recommendation, which was to have the suppliers simply refuse to allow longer terms on the trade credit or not be in a financial position to provide it. This paper also described the implementation plan for the recommendation. It showed the different phases of the implementation plan. References Entrepreneur Magazine's. Entrepreneur. Retrieved from http://www.entrepreneur.com/encyclopedia/term/82538.html Emery, D. R., Finnery, J. D., and Stowe, J. D. (2007). Corporate Financial Management (3rd ed.). Prentice Hall, Inc. Lawrence Sports Simulation. (2002). Apollo Group, Inc., Retrieved May 16, 2010 from Corporate Finance Course Web Site. https://ecampus.phoenix.edu