Friendly Cards Inc. Harvard Case Solution & Analysis

Proposal of Envelop Machine:

Total cost included one of the major cost i.e. the cost of envelop. Friendly purchased envelop and in 1987 it spent $1,500,000 to buy 100 million envelops. Now the management wanted to purchase the machine which would cost $500,000. The machine would have useful life of eight years

The estimation to run the operation would be $91,000 per year cost. Financial consultant concluded that the cash flow would be positive and company should make an investment in machine of envelops. Working capital requirements would rise by $200,000 and would remain at the same level during the whole useful life of the envelope machine. As the working shows the IRR about 37% with all positive cash flows; therefore, Friendly should invest in the project to save its cost. Not only the annual cost would be saved but  the company would also be in a position of self-sufficiency with minimum dependency.

Working Attached in Exhibit Acquisition of Creative Designs

Creative Designs was a small manufacturer of studio cards. Friendly spent more than four months to examine the operations of Creative Designs. After acquisition, Friendly would be able to reduce cost of goods sold by 5% at current sales. Other expenses would be reduced by 10%. Sales after 1987 would be expected to increase by 6% per year. Balance sheet of Creative Designs was very strong and according to perception of Friendly, the suppliers would be willing to deal in trade credit.

To analyze the cash flows, DCF (Discounted Cash Flow) a Model has been used. . Friendly concluded that company could be acquired at 11 times of its earning (1987).

The net present value of the company was $2.310 million. This indicates that the company was more worthy to acquire. Friendly would be able to generate profit in long term after acquiring Creative Designs.

Working Attached in Exhibit D & E.Sale of New Common Stock:

In order to achieve rapid success and growth for the following years, management wanted to raise additional capital through equity keeping in view the company’s tight financial position. The company did not want to cut its projection in sales growth. Management understood that it would be very difficult to raise fund through equity especially when the company is a small one.

Friendly Cards had low market volume of shares, around 3,000 shares a week. It is very difficult to calculate beta directly through stock. In past two months stock price held about $9.5. In the year 1986 and 1987, the stock ranged from $9.5 to $15. Ms Beaumont owned 55%, 20% was owned by employees, 25% by public.

Friendly received the offer from West Coast investors. They offered that they would buy 200,000 share at $8 per share. If the offer was accepted then Friendly would have to pay $80,000 or 10,000 shares to individual for to attract them towards the offer.

It was very tough to raise money through equity. Friendly was at the stage of growth and it had been funded much by bank loans. The company wanted to grow and that needed extra capital to meet its targets and bankers were uncomfortable with current level of debts and restricted banks for further loans and wanted to reduce the gearing in company before December 1988. Although the current market conditions were not feasible in issuing new equity, in this situation West Coast investors were offering to buy 200,000 shares at $8 which would help the company to raise extra equity. As a result it is concluded that the company should not accept the offer from West Coast at $8 per share.

Conclusion:

Friendly Cards, a small card manufacturing company had great dealing with suppliers and customers. It manufactured cards with its packaging. The management believed that the customers are not so much card specific but they want card with economical prices at their homes. The company was performing its operations successfully and the management wanted growth of the company. As company acquired many organizations and continued to move ahead in a successful manner  ,still its financial position was very tough and as the company planned to increase its sales volume therefore, it needed funds. Although the company maintained good relation with the bankers, but the bankers restricted company in debt financing and restricted the company to maintain its debt to equity ratio as 2 to 1. Thus, it was difficult for the company to finance through debt to minimize leverage. Hence Friendly decided different options regarding cost cutting and raising funds. For cost saving, Friendly wanted to buy envelop machine. When the project evaluation was performed to validate the option; the results came in positive and not only buying the envelope machine would help to reduce the cost but it would also provide the platform to Friendly for self-sufficiency. Positive cash flows showed that the project was feasible for investment. The second important decision was whether to acquire Creative Designs ................................

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