More Vino Ltd.

Cash Flow Analysis

- Cash was not generated from operation in 2006 but in 2007. This was caused
primarily by the huge amount of inventory purchased by the Stone brothers when
they wanted to establish a wholesaler. It is a good sign that they quickly
recognized the chance of turning into a retailer/bar but they will have to deal with
the excessive amount of the inventory in the future. This makes me less likely to
grant the loan because this shows that the Stone brothers did not have much
experience and did not really understand the market (This makes me more likely
to grant the loan because it shows that the Stone brothers are able to quickly
change their strategy to adapt to the market.)
- The net income is negative for both years, (2,015,034) and (987,112), because the
gross profits were not enough to pay for the operation expenses. This is
understandable as it is still a start of a business. It is also a good sign to see the
increase in net income (or decrease in loss) because for a business just started, it
shows good performance. However, this still makes me less likely to grant the
loan because the negative numbers, after all, don’t look good. (This makes me
more likely to grant the loan because, according to these numbers, I expect the
business to have a positive net income next year.)
- The inventory became a source in 2007 that generated $650160 because the
business turned into a retailer from a wholesaler and a decrease in inventory is
explainable. The biggest short-term source in both years is accounts payable, and
this worries me because the accounts payable seems too high in 2007, $1209066.
It is evident that the increase in A/P was used to cover the net income (loss),
which is an acceptable way of financing as the business just started.
- In 2006 all financing activities are sources of cash because the business just
started. The biggest uses, the fixed assets, $991512 and the loan payable $400,000
are financed by the source from inventory, $650,160 and shareholders loans,
$666,000. This is a good sign as the company is using its long-term source to
finance the long-term uses. However, one thing that I strongly dislike is the bank
line of credit. Although it only increased slightly in 2007, it is $86528 above the
credit limit and the ending cash could not cover this use. It can result a huge
trouble when the bank wants the money back. Therefore, the financing activities
make me less likely to grant the loan as I pay most attention to the bank line of
credit. (Overall, the financing activities make me more likely to grant the loan
because the local bank is supporting this business and the bank line of credit
would not be a problem so far.)
- Above all, the company is doing well in terms of inventory. I hope it can decrease
further in the next year. Moreover, I really recommend the company to decrease
its bank line of credit to a level below the limit. Besides, the Stone brothers
should be easy on the fixed assets as it is a big expense in the cash flow. Other
than that I also expect the company reduce the accounts payable amount as it is
quite high apparently.
Ratio Analysis
Profitability
- The COGS is at a high level, 77.2% & 65.1% in 2006 and 2007 respectively. As
mentioned before, this is because the company is turning from a wholesaler to a
retailer, and the amount purchased is still huge. Again, I dislike the fact that the
Stone brothers are not confident with what they have started with because this
shows me that they do not understand the market when they started.
- The operation expense decreased a significant amount. From 59.3% in 2006 to
38.5% in 2007. This shows that after they changed the business to a retailer, they
are able to reduce the cost. It is a good sign and I expect the cost to decrease even
more as a percentage next year. Overall this makes me more likely to grant the
loan and it is a good sign for a starting business.
- The operating income, -3.6% in 2007 and -36% in 2006 are all negative ratios.
This bothers me a bit but it is acceptable since More Vino has just started up.
Liquidity
- The current ratio decreased from 0.71:1 to 0.26:1 because of the increase in
accounts payable and the decrease in inventory. The acid test also decreased from
0.03:1 to 0.01:1 because of the increase in A/P. It is not a very good sign because,
to compete in a competitive market (retail/bar), it is vital for the businesses to
carefully control the inventory amount. As a starting business, the fact that the
Stone brothers put all the current assets as inventory can be a very risky move.
This makes me less likely to grant the loan because I expect them to be more
conservative.
Efficiency
- The age of receivables, 2.1 days in 2006 and 0.47 days in 2007 is really low
compare to the age of inventory and the age of payables. This was because the
company were intended to be a wholesaler and turning into a retailer will result a
low age of payables. There is a significant decrease in age of inventory due to the
same reason. The age of payables almost tripled from 2006, 30.5 days to 2007,
88.4 days. This was because the increase in accounts payable amount. This
worries me significantly because the company still needs money even when it has
already exceeded the bank loan of credit limit. Overall, this makes me less likely
to grant the loan because I do not think the company is in a good financial
position.
Stability & Growth
- The business’s sales increased by 101% from 2006 to 2007 and the total assets
increased 4%, with all the rest of the information n/a. This is because the business
just started up, and its net income and equity are still in a negative number.
- This makes me less likely to grant the loan because the business is still losing
money and granting a loan at this stage is very risky. (This does not affect my
decision making because it is acceptable as a new-established business.)
 More Vino
Projected Statements of Earnings
(for the years ending February 28)
Net sales increase 40%, 20% 12127827 14553393
Cost of good sold
Beginning Inventory 708984 1644732
Purchases 7606053 8333312
COGAFS 8315037 9978045
Ending Inventory COGSX90days/365 1644732 1973679
Cost of good sold 55% of sales 6670305 8004366
Gross
Profit 5457522 6549026

Operating expenses
Administrative expenses same 2.8% 339579 407495
Amortization previous # + 1.06M/20 285104 285104
Insurance same 0.05% 60639 72766
Marketing and
3.50%
advertising 424473 509368
Miscellaneous same 2.2% 266812 320174
Rent increase 20% 623887 623887
Repairs and maintenance same 3.4% 412346 494815
Security same 1.6% 194045 232854
Supplies and expenses same 2% 242556 291067
Telephone same 1.6% 194045 232854
Travel and entertainment same 0.8% 97022 116427
Utilities same 0.6% 72766 87320
Vehicle expenses same 0.7% 84894 101873
Wages increase 300000 1221768 1466121
Total operating expenses 4519941 5242131

Operating income 937581 1306895

Other income 0 (being conservative) 0 0
previous interest + 9% of the new
Interest expense loan 798656 798656
Subtotal 798656 798656
Net income before tax 138925 508239
Tax 23% of earnings before tax 31952 116895
Net earnings after interest and tax 106972 391344
More Vino
Projected Statements of Retained Earnings
(for the years ending February 28)
 2007 2006
Beginning retained earnings -3002156 -2895183.6
Add: net income 106972.39 391344.53
1 8
Less: dividends - -

Ending retained -2895183 -2503839

earnings

More Vino
Projected Balance Sheets
(as at February 28)

Implication 2007 2006

Assets
Current assets:
Cash same ammount 20706 20706
Accounts receivable same days 15616.65472 18739.98566
Inventory 1644732.784 1973679.341
Total current assets 1681055.439 2013125.327
Fixed assets:
Automobiles same amount 117126 117126
Furniture and fixtures same amount 609928 609928
Equipment same amount 429938 429938
Leasehold improvement same amount 662388 662388
Patio 1060000 1060000
Subtotal 2879380 2879380
Less: accumulated
amortization previous+ amortization 606096 891200
Net fixed assets: 2273284 1988180
Total Assets 3954339 4001305
Liabilities
Current liabilities:
Accounts payable same days 1842123 2018259
Bank line of credit plug 1580479 1138748
(limit $1,500,000)
Current portion due same number 78784 78784
on bank loan
Total current liabilities: 3501387 3235792
Long-term liabilities:
Bank loan previous less current portion 102136 23352
Loan payable less 400000 800000 800000
Shareholder's loans 666000 666000
New loan 106M 1060000 1060000
Total long-term 2628136 2549352
liabilities
Equity:
Common stock same amount 720000 720000
Retained earnings -2895183 -2503839
Total equity -2175183 -1783839

Total liabilities and 3954339 4001305

Equity

Plug Interpretation
- The plug, bank line of credit for the projected balance sheet is $1580479 in 2008
and $1138748 in 2009. Therefore, it is exceeding the loan limit in 2008 but in
2009 it will be under the limit. It is a good sign if the projected statements are to
be true because the company will be working with a leeway on the working
capital. However, this will not make me more likely to grant the loan because the
projected might be true only if the company increase its sales by 40% and control
its COGS under 55% of sales in 2008, which is not an easy task. (This makes me
more likely to grant the loan because the plug shows that More Vino’s business
idea works and it will keep the line of credit below the limit.)
 Seasonality Test
2008 2009
Plug 1580479.29 1138748.53
3 8
High 120000 120000
season
New Plug 1700479.29 125748.583
3
Limit 1500000 1500000

- The seasonality test indicates that during high seasons, the company in 2009 can
work out with its current working capital loan but in 2008 it needs to exceed its
limit. This is a good sign because as long as the company follows the projected
statements, it will be in an acceptable position in 2009. This makes me more
likely to grant my loan because the new plug indicates that More Vino will be on
a good track in 2009. (However, this will not make me more likely to grant the
loan because this is only true based on many assumptions.)

Sensitivity Test
Days of inventory Inventory 2008 Change in Plug New Plug New Plug in High Season
90 1644732 0 1580479 1700479
75 1370610 274122 1306357 1426357
100 1827480 182748 1763227 1883227

- The sensitivity test indicates that, if the inventory were to be decreased to 75 days,
the company can pass through the regular seasons as well as the high seasons.
However, if the inventory increased to 100 days, the working capital loan, the
new plug will exceed the limit by almost $300,000 even during the regular hours.
- This makes me less likely to grant the loan because the company seems to have a
huge possibility of exceeding the working capital limit which is not good.
4 C’s
Capacity to Repay
2009 2008 2007 2006
Current Ratio 0.62 0.48 0.26:1 0.71:1
Acid Test 0.01 0.01 0.01:1 0.03:1
Interest coverage 1.6X 1.2X n/a n/a
Debt to equity n/a n/a n/a n/a

- As the capacity to repay indicates, it is good that the company is increasing both
the current ratio and acid test ratio. This means that the company is getting better.
However, it still worries me because the increase is so slight that it does not make
a huge different from the fact that the company’s capacity to repay is really low.
Therefore this makes me less likely to grant my loan because I expect the current
ratio and acid test to be higher.
- The interest coverage, on the other hand, represents a good sign of exceeding 1.
This shows that with the $1060000 loan, the company is able to pay for the
interest. This makes me more likely to grant the loan because the ratio shows that
I have a chance of making profit after granting the loan. Nevertheless, the n/a’s
are terrifying because the equity is still a negative amount. As a result, this makes
me less likely to grant the loan because the entire company is financed completely
by debt.

Collateral
Assets Value Factor Value Realizable
Value
Accounts receivable 15617 90% 14055.3
Inventory 1644732 25% 411183
Fixed assets 1213284 40% 485313.6
New assets (Patio) 1060000 60% 636000

Total realizable value 1546551.9

Current loan requested 600000
Existing loans (shares) 0
Excess collateral total 946551.9

- The collateral analysis shows that the excess collateral is a positive number. This
means that the company is able to pay off the loan with its collateral.
Nevertheless, this does not make me more likely to grant the loan because, I am
already a partner in this partnership business and it makes not sense for me to take
collateral from my own business.
Condition & Character
- The retail company is relying on local customers and tourists, meaning that
economic change may strongly affect More Vino’s business. This indicates the
volatility of the company and it makes me less likely to grant the loan to an
unsecured area.
- The income level was rising, which indicates that local customers are more likely
to purchase normal goods such as wine. This makes me more likely to grant the
loan because as demand increases, the company is more likely to make money in
this field.
- The Stone brothers are well educated and were graduated from UWO. This makes
me more likely to grant the loan because the brothers are able to handle some
situation such as the financing activities, which looked good for the past years;
moreover, this explains why the brothers can quickly recognize the potential
profit in retail businesses and that they soon expanded the bar and restaurant area.
- Nonetheless, the brothers are not experienced meaning that they might know
some details of a work but they may be wrong in directional decisions such as
what is the right investment. This makes me less likely to grant the loan because
they may not fully understand the market before they invest into More Vino’s and
that can cause a significant loss.
As Arthur Greenway, I have decided not to grant the loan knowing that this may break
the good relation I have with the Stone brothers and their family.

What bothers me the most is the fact that the company is heavily relying on its debt.
Having a negative total equity, -2282156 in 2007, and many “n/a’s” in the Financial
ratios shows me a terrible image of company’s performance. This makes me even
question the original business idea and whether it actually fits the current market.
Overall, I wish that the company could reduce its A/P level, which is currently $1209066
to lower the debt.

Moreover, the fact that the company’s bank line of credit, $1580479 is still over the limit
even in the projected statements of 2008 makes me unlikely to grant the loan. I expect
that at least in the third year the company can handle itself but actually it cannot without
extra working capital. Apparently it is okay because the banks are not requesting to pay
these money back but when they do (in terms of both working capital loan and accounts
payables), it is going to be detrimental to the company and More Vino may be forced into
bankruptcy. Therefore, to be more conservative, I would not grant the loan.

More than that, the current ratio, 0.26:1 and acid test, 0.01:1, showed me that the
company are unlikely to pay back all of my money. Even more severely, the little
liquidity may not even support More Vino to survive the competitive market of
restaurants. Also, the fact that TT$1500000 working capital loan could not support the
company makes me worry that after granting this loan, I might need to pay more for other
unexpected changes, such as to supply the money covering the exceeding amount of the
working capital loan as the sensitivity and seasonality tests show. Overall, I do not feel
confident within the company and do not want to be involved in further investment.

However, one thing disadvantageous to my decision is that I don’t want to damage my

personal relation with the Stone brothers. To minimize the cost of that, I will explain
them my concern and my inability to supply the $600,000 loan, advising their finance
activities to the best of my ability in the future. Other than this concern, I believe my
decision is the best for this situation.
Alternative Decision

As Arthur Greenway, I have decided to grant the $600,000 loan to the Stone brothers.
Understanding the risks correlating to this decision, I will grant my loan under the
following conditions:
1. Keep the days of inventory below 75 days.
2. Increase the days of payables to 85 days. (if you did the second sensitivity test on
payables)
3. Make the interest rate, which is currently 9%, 4%. (to increase the cash)
4. Pay back 20% of the new loan every year after December 31, 2011.
5. Keep the 40% increase sales and 55% cost of goods sold in 2008 as tested in the
projected statements.
6. No more purchases on new assets for the next 5 years.
7. Prepare alternative business ideas for alternative changes in the economy that affect the
bar business.

Reasons
1. Personal relations
2. Educated; knows what they are doing (excellent performances in quickly recognizing
the market and changing business strategy)
3. Projected. (under the condition we set, the line of credit will be kept below the limit)
4. Ratios. (the numbers do not worry me because as a restaurant More Vino should allow
the majority portion of its current assets as inventory)
5. Cash flow. (good performances finicing the business)
6. Condition. (increased tourists; support from local bank)
7. How could the conditions set in the previous slides affect the business's performances?

According to the above reasons. I strongly contend that my decision is the best under the
circumstances given in the case.