Key problems & Key issues Francis Libris, Vice-President of Caslon Bank, is the “Relationship Manager” for Padgett Paper Company – a long time customer of the bank. Recently, Padgett Paper had asked for and received from Caslon Bank a significant increase in the amount of its loan.
Libris is reviewing Padgett’s most recent financial forecast and its performance. During the past year Libris has attempted to restructure the loan, but Padgett has refused all suggestions. The problem is, if Padgett Paper doesn’t change its debt structure, we can see in the forecast that the net cash flow will be negative and ratios like ROE will keep decreasing in several years, which means that profitability of this company is going down.
And also, Padgett Paper’s cash flow and net income will become more and more hardly to repay the short-term notes and the interests.
Analysis
The core of these problems is how to increase the net cash flow. From the cash flow statement, we can find at least 3 methods: reducing the accounts receivables, manage the inventory and get more debt. The first two methods are not suitable for Libiris, so we take the debt one. We can have long-term debt, short-term debt and credit line. Because short-term debt should be taken from other banks, there are many things to be hold, credit line needs the accounts receivable and inventory as security, it will affect the management in the company. Libris doesn’t have much time and the management of the company dislikes complex ways. So we choose the long-term debt.
3 million from Calson Bank as mortgage loan, and 1 million from Canadian banks, both are 10-year loans. The interest rate is important, we use the 10-year treasury rate(6.59%) +risk premium(size of company sales, purpose, term, escalating vs level payments, debt profile, liquidity posture, relationship benefits, fixed rate) =7% as the rate of mortgage loan, and 8.5% as the average of