Jones Electrical Distribution

Topics: Accounts receivable, Balance sheet, Cash conversion cycle Pages: 6 (2036 words) Published: November 5, 2011
Current Position
Jones Electrical Distribution (hereinafter Jones Electric) is currently facing an issue with cash flows, which will ultimately affect the overall profitability and growth potential for the company. The owner, Nelson Jones, is diligent in paying his suppliers within ten days in order to capitalize on a two percent early pay discount, but in doing so, has over-extended cash flows. Though the company has been profitable and growing over the past three years, its current lender, Metropolitan Bank, will not increase a line of credit (LOC) beyond $250,000, a LOC upon which Jones has recently fully drawn. In order to ease the tensions of depleting cash reserves, Jones is seeking a higher LOC from another lender, Southern Bank & Trust (SB&T). A higher LOC will not only cover overhead expenses and take advantage of early pay discounts, but could also be invested in the continued growth of sales, as well as, potentially opening new locations. After weighing his options, Jones is convinced that he has to take on more debt in order to keep the business moving forward. Thus far, Jones is only contemplating one financing option, a higher LOC from SB&T. The terms of LOC are not favorable when weighed against Jones’s objective to grow the business. SB&T will limit the drawable amount, control investments in fixed assets, and control Jones’s withdrawal of funds from the business. As such, Jones needs to reconsider SB&T’s offer and consider other financing options or reduce the need to borrow by changing operating procedures. Jones is seeking a $350,000 LOC from SB&T, which is $100,000 more than the current LOC. Therefore, we assume that the difference of $100,000 is the target dollar amount needed for Jones Electrical. Coupled with alternative financing options, business operations will have to be adjusted if Jones Electrical is going to stay in business. Nature of the Issue

The issue facing Jones Electrical is cash flow. More specifically, a slipping margin due to an inability to capitalize on early pay discounts. The shortage of cash has been the result of continually paying suppliers early to receive a discount but not collecting accounts receivable as quickly. Over the past three full operating years, the days payable outstanding averaged 11.88 days whereas days sales outstanding averaged 43 days. Clearly, the practice of continually paying vendors approximately 30 days before customers has created the current stress on cash flows. As a result of slow cash flows, Jones Electrical has not only experienced an inability to fully take advantage of the early pay discounts, but is now struggling to pay vendors within standard net terms. The first quarter of 2007 indicates days payable outstanding jumped to 33 days while days sales outstanding stayed relatively the same; however, we forecast this to decrease overall in 2007 as cyclical orders even out. This is indicative of poor cash flow management, and should be assessed to find a middle ground to sustain operations. In 2006, the gross margin slipped one percent, which slipped another one percent in the first quarter of 2007. Again, this is the result of cash flow struggles to capitalize on early payment discounts. Given the volume of business Jones Electrical does, taking advantage of the early pay discounts saves approximately $31,000 a year. This is a considerable amount of money that can ultimately be reinvested in the firm, but given the business strategy Jones implemented, does not align with operations. Jones Electrical has traditionally competed on price, which implicitly means lower margins. The early payment discounts offset the lower prices for customers, but the lower prices have not offset the cash flow required to sustain this strategy. Furthermore, inventory management has started to slip and looks to be inefficient. The past three years show days in inventory to be averaging 70.07 days, which we forecast to jump to 77.13. This...
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