The report summarizes the effects of pandemic and the marketing plan that has been suggested by DuraBike to increase its sales. The pandemic has affected the business and the sales of the company have been reduced. In this report, a marketing campaign effects will be studied by NPV, Cost of capital, and Payback method. NPV has been considered as one of the best method as it provides the present value of future cash flows for the company. In these unsettled times, treasury bonds are the investments that are safer to invest as they provide appropriate and confirmed returns while share prices fluctuate and the return from them are also not guaranteed. Thus, overall the plan of the campaign was appropriate and selected as it is bringing good results for the company.
Table of contents
Introduction.
Change in Payment period.
Break-even point.
Payback period, NPV and the weighted average cost of capital
Treasury bonds and stock market.
Required Changes in business.
Limitations.
Conclusion.
References.
A bike manufacturing company named DuraBike carries its operation in New York. In the present year, due to a spread of pandemic COVID-19 company's revenue and market share has declined significantly. This happened because there was the loss of income as due to pandemic businesses have come to stand still and many employees have been laid off. People are trying to save as much as they can because there is no surety of how long this pandemic will continue. For the company, it was required to create a marketing plan to cover the sales. The marketing team has suggested a campaign for the next 10 years and various changes have been created in the plan. The period of the payment has been increased from 30 to 60 days while it has been estimated that the sales of the company will be around 21900 bikes per year. Also, the cash flows for the next 10 years has been given. In this report by using the NPV method on the cash flow, the present cash flows will be analyzed and then the decisions will be made whether or not the project is to be adopted. The report will be aimed at providing the various cost and also the weighted average cost of cost will be found. Also, the limitations of the plan will be described in the report.
Trade credit is an important source of working capital. It defines the cash inflows and outflows period for the company. It is referred to as 'payment delay' that has been provided by the company to its creditor or the delay of payment that has been received by the company from its suppliers. This is done for the purchase of raw materials from the suppliers or the product being sold to the creditors. This is a chain through which the company maintains its payment cycle. The receivables period is lesser than the period of payment. In this manner, trade credit is one of the major sources of finance for the companies as no business runs solely on a cash basis (Pakdel & Ashrafi, 2019). The main factor that affects the trade credit is the reputation, goodwill, or the credit history of the company. Profitability is also an important factor that is considered while providing trade credits or receiving the credits.
In the present situation of the pandemic, Dura Bikes have decided to increase their receivables period from 30 days to 60 days and according to the payment period will be moved. But, in the environment that is prevailing certain drawbacks are attached to the financial conditions:
Deferral period calculation:
The company has an inventory conversion period of 25 days while the receivable period was 30 days before and now it has turned down to 60 days. This will bring a change in the operating cycle from 55 days to 85 days and the cash conversion cycle will move from 25 days to 55 days. So the required change in the pay period to accommodate the change will be 30 days. This can be obtained through subtracting the after some time of the operating cycle and cash conversion cycle. 30 days change will absorb the receivables change period. Following shows the calculation for the above:
Before |
After |
|
Inventory conversion period |
25 |
|
Account receivable collection period |
30 |
60 |
Account payable deferral period |
60 |
90 |
Operating cycle |
55 |
85 |
Cash conversion cycle |
25 |
55 |
Required change in working capital financing |
30 days. |
Break-even point refers to the point where the company achieves that amount of sales where its fixed cost is covered (Bathkovskiy et al., 2017). This is the last point till where the company keeps its operation running. Certain costs that helps in analyzing or achieving the break-even point of the business are
Analyses of break-even point of Dura Bikes
The company has forecasted sales of 21900 bikes per year. The selling price is 620 per bike while the variable cost is at 300. There are two types of break-even point Accounting break-even point in which depreciation expenses will be included wile cash break-even point won't include the depreciation cost is fixed cost (Kampf, Majercak & Svagr, 2016). The formula for the above are as follows
Calculation of break-even points:
Fixed cost (F) |
5600000 |
Selling price (P) |
620 |
Variable cost (V) |
300 |
Accounting break-even point |
17500 |
Cash break-even point |
12500 |
Thus, after selling 17500 bikes Durabikes will reach its break-even point of accounting, while after selling 12500 bikes the cash break-even point will be achieved. The forecasted sales are at 21900 bikes, this depicts that the company will be making profits by achieving targeted sales.
Weighted average
Weighted average cost of capital depicts the cost of business where every category of capital like equity, long term debt, etc. are weighted equally. The increase in WACC happens because of an increase in the beta and the rate of returns that are received on equity. The increase in the WACC depicts that the risk for the business has increased and the valuation has been declined for the company (Frank & Shen, 2016). The formula for calculating WACC is as follows:
Where:
Kd= Cost of debt
T= Corporate tax
Wd= Weight of debt in overall capital
Ke= Cost of equity
We= Weight of equity in overall capital
WACC calculation for Dura Bikes:
Cost of equity=
Cost of equity (KE) |
0.144 |
Cost of debt (KD) |
0.08 |
Weight on equity (WE) |
0.8 |
Weight on debt (WD) |
0.2 |
Tax rate (T) |
30% |
Weighted average cost of capital (WACC) |
0.12352 |
Thus, the weighted average cost of capital for the marketing campaign of the company is at .12 or 12.35%.
Payback period
Payback period defines the number of years in which invested capital can be obtained back by the company. It is one of the methods of capital budgeting for the company. It defines how many years the capital will be received back (Gorshkov et al., 2018). The longer the period of payback, the chances of taking that project will be less. It helps in determining the best project that is profitable to be adopted. In this method, the investment is divided by the cash flow of the company annually.
Calculations of the Payback period:
Total investment |
4000000 |
|
Returns each year |
2585600 |
|
Payback period |
1.54703 |
Net Present Value
Net Present value refers to the series of cash flows on whom the discounting factor has been applied. This helps in calculating the sum of all the cash flows for the company. The value of cash flows is dependent on the interval of time between the first cash flow that has been received to the last cash flow of the company. The basic fundamental of the Net Present Value is the Tiem value of money that studies the effect on cash inflows.
Calculations of Net Present Value
Time |
0 |
1 |
2 |
3 |
4 |
Cash flows (CF) |
CF0 (negative) |
CF1 |
CF2 |
CF3 |
CF4 |
Amount |
-4000000 |
2585600 |
2585600 |
2585600 |
2585600 |
Sum of NPV |
7795502.583 |
2301339 |
2048329 |
1823135 |
1622700 |
5 |
6 |
7 |
8 |
9 |
10 |
CF5 |
CF6 |
CF7 |
CF8 |
CF9 |
CF10 |
2585600 |
2585600 |
2585600 |
2585600 |
2585600 |
2585600 |
1444300 |
1285513 |
1144184 |
1018392 |
906429.6 |
806776.5 |
Returns through campaign |
3795502.583 |
The returns that are received from NPV are positive and are higher. The returns show that the company should accept the project as it is bringing in more profits than the investment over the period and is beneficial for the company.
Benefits of the NPV
The stock market is the investment that has the riskiest investment form. They are the ones that provide the maximum return to the investor. The problem with the stock market is that there is no surety of returns on them. There is no liability for the company even if they are generating good returns to provide it to the investors. While on the other hand, Treasury bonds provide security and also have various other benefits attached to it. They are the securest form of investment and are backed by the government (He, Krishnamurthy & Milbradt, 2016). Since the pandemic has disturbed the market, there is no surety of returns on the stock market. The prices are getting affected and moving on the lower side. In the present scenario, treasury bonds are the best solution for investment as the money is secured in them
Pros of investing in Treasury bonds:
The marketing plan that has been created by Durabikes is very appropriate, yet there are certain loopholes in the process. The ongoing crisis is not considered and also the below-mentioned factors have been neglected in the business plan:
The pandemic has become one of the major challenges for the world. Even after taking various measures, there is no reduction in the cases. It has been spread throughout the world and no country has been left. Also, there is no availability of medication for the disease. The growth of the business cannot be predicted as there is no specific control over the disease.
Strategies and planning regarding sales of Durabikes do not provide any surety. There are very likely chances that the business is not able to achieve its target. And the present situation limits the planning department of the company. So, creating bigger strategies and predicting sales do not guarantee the results for the company. At present rather than achieving the sales target company should focus on the strategies to survive in the situation as there are huge losses that will be faced if the pandemic continues for a longer period.
Durabikes' extension of credit from 30 days to 60 days requires a backup for the company as a payment cycle has to be adjusted according to that. The payment cycle should reach 90 days to cove the extension of credit that is being provided to the creditors. These changes will help in accommodating the difference between both periods. According to the case study the sales forecasted from the marketing campaign in 21900 bikes per year but the break-even point of accounting will be achieved at 17500 bikes after which the company will start making profits. The NPV of the campaign shows positive results that means the company can opt for the project. T-bonds are the securest form of investment for the company as they provide guaranteed returns. The limitations in the plans are because of the performance gap, technological gap, etc. The plan should consider the crisis factor in it. In the present times, it is very hard to depict the sales for the company as there is no guarantee. Although this plan can be carried forward with as there are chances that if the company achieves the required sales than profits will pour in huge numbers.
Batkovskiy, A. M., Semenova, E. G., Trofimets, E. N., Trofimets, V. Y., & Fomina, A. V. (2017). Statistical simulation of the break-even point in the margin analysis of the company. Journal of Applied Economic Sciences, Romania: European Research Centre of Managerial Studies in Business Administration, 12(2), 558.
Frank, M. Z., & Shen, T. (2016). Investment and the weighted average cost of capital. Journal of Financial Economics, 119(2), 300-315.
Gorshkov, A. S., Vatin, N. I., Rymkevich, P. P., & Kydrevich, O. O. (2018). Payback period of investments in energy saving. Magazine of Civil Engineering, (2).
He, Z., Krishnamurthy, A., & Milbradt, K. (2016). What makes the US government bonds safe assets?. American Economic Review, 106(5), 519-23.
Kampf, R., Majerčák, P., & Švagr, P. (2016). Application of break-even point analysis. NAŠE MORE: znanstveno-stručni časopis za more i pomorstvo, 63(3 Special Issue), 126-128.
Pakdel, M., & Ashrafi, M. (2019). Relationship between Working Capital Management and the Performance of Firm in Different Business Cycles. Dutch Journal of Finance and Management, 3(1).
Santoso, N. B., Bahaweres, R. B., & Alaydrus, M. (2016, October). Cost-benefits, NPV, IRR, and QoS analysis of the dynamic telecytology system in Indonesia. In 2016 1st International Conference on Biomedical Engineering (IBIOMED) (pp. 1-6).
Shah, N. (2016). Impact of Working capital management on firms profitability in different business cycles: evidence from Pakistan. Journal of Finance & Economics Research, 1(1), 58-70.
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