Kota_Fibres,_Ltd.

Company Background: Kota Fibres, Ltd. was founded in 1962 to produce nylon fiber in Kota, India. The company supplies synthetic fiber yarns to a steady franchise of small local textile weavers that produce colorful cloths for making saris. The synthetic textile competitor’s market in India was driven by price, service and credit. Kota Fibres Company has a large customer base of nearly 500 million Indian women and a relatively inelastic demand for its synthetic yarn made the Kota Fibres a profitable company with the industry’s unit growth expecting to be 15% per year. The Kota Fibres’ profit margins decreased due to increasing price competition in the market. Production and distribution systems were experiencing challenges as well. Pundir intended to ward off thin profit margins with the implementation of policies opposing overproduction and overstocking. Such policies would require Kota to have inventory on hand even during their season of slow sales. Management had adopted a seasonal production cycle, operating at its greatest capability for only two months of the year This unfortunately generated seasonal training costs, setup costs and labor instability evident by the annual cycle of hirings and layoffs. Kota experienced further challenges with regard to transporting goods in a timely matter. Due to poor road conditions, quickly delivering yarn from Kota’s two distribution warehouses into the hands of the customer proved both dangerous and slow. Making the trip between Kota and Calcutta could take 10 to 15 days. Kota had experienced consistent profits and in 2000 had sales growth at an annual rate of 18%. The forecasted gross sales by December 31, 2001 were INR90.0 million. In January of 2001, after a potentially explosive incident involving Kota’s independent contractor truck drivers, a tax inspector and Mr. Mehta, the bookkeeper, where Kota was unable to pay excise tax because their bank account was overdrawn for the third time in a relatively short period of time, reassessing the company’s financial standing became unavoidable. Pundir and Mehta forecasted cost of goods sold would function at 73.7% of gross sales. Operating expenses were estimated to be 6% of sales in 2001 which is higher than the previous year’s. The increase was due to the addition of a quality control department, two new sales agents and three nephews of Mrs. Pundir, whom she hoped to build an allegiance to the family business. Additionally, the income tax rate would be 30%, accruing monthly but paid quarterly. Excise tax, which is a separate tax, at 15% of sales is expected to be paid when trucks leave the gate to deliver product to customers and the regional warehouse. Mrs. Pundir proposed to pay dividends of INR 500,000 per quarter to only eleven individuals who held the entire equity of Kota Fibres. Those eleven individuals of course were members of her extended family. The family believed that the funds would be at a greater risk if left in the company than if the funds were returned to their stakeholders. Pundir wanted to see a cash balance of no less than an INR 750,000, however the sales collection observed was at a steady rate of 40% of the last month sales plus 60% of the sales from the previous month. The average value of raw materials purchased in any month was 55% of the value of sales expected to be made two months later. Monthly wages and other expenses were about 34% of purchases in the previous month. Problem: Kota Fibres had a line of credit with All-India Bank & Trust company, their short term interest rate was 14.5%, and they were worried about the interest rate being increased due to inflation in the upcoming year. Kota Fibres failed to make full repayment on time to the bank due to sales coming in lower than predicted. The Bank refused to extend anymore seasonal credit until a reasonable financial plan for the company was presented. This plan must include clearing up the past loan by year end 2001. Because of Mrs. Pundir’s mismanagement of Kota Fibres, this has placed them in a state of inefficient cash flow and because the company has anticipated a heavy selling season, this problem requires a solution that will generate cash immediately. This however is not the only problem, the other problems consist of the company’s inefficient cash holdings, the company’s outstanding line of credit in 2001, the company’s profitability showed increasing price competition, liquidity, debt position, efficiency, long cash conversion cycle, leverage and borrowed capital. This weakened the financial health of the company’s cash flow and devalued the company as a manufacturing firm. Solution: We recommend the company to cut back on dividend distributions until the company regains their positive cash flow state. The dividends of INR500, 00 per quarter paid to the share holders needs to be reduced. The company could benefit from the funds allotted to share holders being reduced this will give the company a cushion of funds to rely on for growth and hard times. Pundir should revisit the stack of proposals received from her department managers that she pushed aside earlier as they contain potential solutions to Kota’s existing financial woes. These managers have their finger on the pulse of operations in their perspective departments and their input could prove to be invaluable to the company’s financial success. As expressed in a memo from a field manager, Pundir should approve the offer of Pondicherry Textiles, extending credit to them as a new customer which would immediately impact Kota’s sales as Pondicherry Textiles’ purchases would be approximately INR6 million. This INR6 million would be new revenue as it is not included in the current sales forecast. Additionally, because Pondicherry would immediately meet its quarterly sales quota upon approval of credit terms of 80 days Kota’s bottom line would be drastically improved with just this one transaction. Furthermore, the transportation manager’s memo, which Pundir has no yet read, indicated that shipment reliability has improved because of a new road between New Delhi and Kota. Additionally, suppliers’ have been consistently meeting shipment dates due to new manufacturing equipment. These new developments with regard to transportation would allow for a reduction in raw material inventory from 60 days to 30 days reducing inventory on hand by 30 days. This would allow for better inventory control. From a purchasing agent, Pundir has possibility of buying 35% of its raw materials from a plant only 20 km away on a “just-in-time” basis, further reducing inventory from 60 days outstanding to merely 2 to 3 days. Moreover, the operations manager has, from a scheme of level annual production, estimated production efficiencies to include an increase gross profit margin of 2% or 3%, the elimination of seasonal training and set up costs as a direct result of having a stable work force thereby making production more efficient and saving in labor costs. Developing a stronger work force would undoubtedly eliminate the need for seasonal hirings. Since negotiating the reduction of seasonal layoffs is going to be the focus of the unions is the coming year, Kota’s production efficiencies would allow them to improve labor relations and curb contention amongst workers because of the more stable environment. Once level production is achieved, Kota would experience lower manufacturing threats such as malfunctioning equipment. Kota Fibres will need to rethink their strategy to generate a profit using the 2001 projection. Across the board they will be facing a decrease in profitability if they execute this plan. In addition Kota Fibres will need to understand the serious of their financial situation by paying their bills on time, paying close attention to their future forecasts, and responsibility for the company that would benefit them in the long run.   References Case Studies in Finance 6th ED., Retrieved on December 6, 2011