Running head: LAWRENCE SPORTS SIMULATION

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Lawrence Sports Simulation Paul Hannen, Frank Hurley, Ranjan Behera, and Melanie L Gibson FIN 571 February 25, 2013 Kenneth Baker

2007. p.” (Emery. 640). In the short term.000 monthly and cover operations.LAWRENCE SPORTS SIMULATION 2 Lawrence Sports Simulation Lawrence Sports is a sporting goods company that produces and sells various sporting equipment. Its one major customer. x). Mayo Stores. Lawrence Sports would need to modify its agreements with its major customer. “The cash conversion cycle is the difference between accounts payable and accounts receivable. the firm hedges its risk by matching the maturities of its assets and liabilities. In order to achieve this. Lawrence uses two main suppliers. & Stowe 2007. Inventory from Gartner makes up 70% of Lawrence’s raw materials. Compounding this problem are the various issues that arise in business. Finnerty. accounting for 75% of Murray’s sales. p. Finnerty. a negative cash balance forces Lawrence Sports to use a bank line of credit to maintain a positive cash flow of $50. Working Capital Policy 1 The first approach that Lawrence Sports can take is a maturity matching approach. Team A will also recommend which policy it feels that Lawrence should follow along with contingencies for that plan and the performance measures and implementation plans for the recommendation. This creates negative cash flow and a problem with the working capital management system. Mayo Stores. Lawrence is also the biggest customer for Murray. There is a 20% difference on assets and liabilities for 70% of the inventories from Mayo and Gartner. This paper looks at three different working capital approaches that Lawrence can take to increase its net present values and reduce the difficulties it has faced in the past. accounts for 95% or its sales. as well as modify its . “With maturity matching. Each approach is also evaluated for risks. Garner Products and Murray Leather Works. & Stowe. Lawrence Sports receives and pays accounts as outlined in Appendix A.” (Emery.

When asset needs are relatively low. short term financing is an ideal approach. The line of credit is limited and the more the company borrows. long term financing could provide the ability for the company to both plan debt payments and invest the excess funds in securities or bonds that could help the company create a cushion between liabilities and unexpected expenses.” Working Capital Policy 2 A second approach Lawrence Sports could take is an aggressive policy for its working capital. . The use of the line of credit is a short term financing arrangement that is cost efficient. With the aggressive approach. According to Michael Wolfe (2011). It is the approach that most closely reflects the current Lawrence Sports policy. This line of credit covers the deficits monthly between assets and liabilities. However. In this approach. causing it to enter more heavily into debt or. Lawrence Sports would focus on using long –term financing rather than just shortterm financing. This way. As long as the company anticipates interest rates will fall in the future. Lawrence Sports can continue to keep operating net capital at or above the minimum monthly standard while planning how debt will be repaid. the company is vulnerable if interest rates rise or the bank does not renew the line of credit. “This helps prevent a company or other organization from taking on debt that it later cannot finance.LAWRENCE SPORTS SIMULATION 3 trade agreements with both Garner and Murray. This approach focuses on short-term financing over any long term or matching. This is the approach that currently is being used at Lawrence Sports. become insolvent. assets are supplemented by the use of a bank line of credit. Lawrence Sports would plan payouts to occur either at the same time or after receivables are due. the higher the interest payments to the bank become. in a worst case scenario. Working Capital Policy 3 The last approach that Lawrence Sports could use is a conservative approach.

the firm builds in a margin of safety. & Stowe 2007. Team A’s recommendation is to move to a more conservative approach and have vendors consign inventory.LAWRENCE SPORTS SIMULATION “By financing a portion of its seasonal needs for funds on a long-term basis. Recommended Policy for Lawrence Sports To address and correct the problem that Lawrence Sports has with the short term negative cash balance and prevent the use of short term loans. By getting inventory consigned. To do this. The consignment inventory will require their suppliers to keep product on hand bill them after they have used the product at the end of every two-week period. Finnerty. Lawrence will be able to extend their payment terms and improve cash flow. The risk associated with this is vendors either refusing. This will improve the cash conversion cycle by extending payment terms an additional week which will allow Lawrence to collect 100% of its receivables before its payables are due. The majority of the risk is in Lawrence’s . The excess loan amounts would be invested in securities or bonds with varying maturities.” (Emery. & Stowe. Lawrence Sports 4 would seek to convert the line of credit to a long term loan with fixed payments. This extra week help with the cash demands on transaction and obligation demand because more cash will be available to maintain operations (Emery. This recommendation is contingent upon vendors agreeing to the payment terms. Finnerty. The investment demand will not get improved much because most investment vehicles require more than seven days. 2007). p. 642). It also requires Lawrence Sports to use additional floor space to hold the inventory of raw materials needed. Each vendor still owns the inventory on Lawrence’s floor so there is no additional risk for something happening to the material on hand. or over-extending credit and going out of business because of their cash flow.

Lawrence Sports need to implement the performance measurements to assess the effectiveness of the approach. and accounts receivable days. Account receivable measurements can evaluate the bad debts. The third category of performance measurement is accounts payable days. The collected data can also help the company to re-negotiate interest rates on the accounts. A performance measurement comprises defining what the company should measure. The second category of performance measurement is accounts receivable days. “It is the length of time it takes to clear all Accounts Receivable. The first type of performance measurement tool is the cash conversion cycle. changes in exchange rate. To assess the alternative working capital it is essential to observe the cash conversion cycle. detecting diverse data collection methods. accounts payable. or how long it takes to receive the money for goods it sells“ (para. accounts payable and inventory turnover ” (para. According to "Understanding The Cash Conversion Cycle " (2013). These various measurement tools can assist the company to weigh the working capital. This measurement tool assists to quantify the late payments in use and the penalties that are applied to the . This will assist the organization to determine how many accounts are in bad debt and create a repayment plan for these clients. Performance measures used to evaluate the working capital policy In evaluating the conservative working capital approach recommended above. 1). According to "Accounts Receivable Days Definition” (2012). and the follow-up made to the clients to receive the payments. This measurement tool will assist Lawrence to explore the time of when every client pays their respective account and how long their account remains in delinquency. and defining how to collect the data. 2). “Cash Conversion Cycle is a combination of several activity ratios involving accounts receivable.LAWRENCE SPORTS SIMULATION 5 vendors having the funds to continue to operate while extending the delayed payment terms to Lawrence.

It should also be established that any merchandise not sold within a reasonable time frame would be returned to the vendor. The company will be able to amend how much it charges the delinquent accounts the interest rate and penalty fee. this solution allows Lawrence to postpone payment until the items are actually sold.LAWRENCE SPORTS SIMULATION 6 accounts. Lawrence should approach the vendors with the idea of consignment explaining that the inventory will continue to be owned by the vendor until such time that Lawrence submits payment for the items. Implementation Implementing the suggestion of conservative capital policy and consignment would be a wise choice for Lawrence Sport’s. Lawrence would need to begin searching for alternate suppliers of inventory that will agree to a consignment contract with the aforementioned terms. If any of Lawrence’s current vendors do not agree with these terms. The ability to get vendor . Lawrence could offer to pay a holding fee to the vendors as well to sweeten the deal. the time frame would need to be discussed and agreed upon by all parties. Having Lawrence offer both a holding and restocking fee should entice most vendors to agree to the consignment contract. This solution would allow Lawrence to maintain adequate inventory while having greater control over cash flow. This clause should put the vendors at ease in that nothing will be lost on the vendors’ end. The biggest hurdles for the company will be getting the vendors on board with the consignment idea and securing a long term loan. this would encourage Lawrence to do its best to ensure all inventory is liquidated and not returned. something like a three percent perk for allowing the company to hold the inventory until it is sold to customers. should Lawrence fail to make proper on time payments the inventory can be repossessed by the vendors. While this may be more money out the door for Lawrence. Lawrence could offer a three percent restocking fee on all returned merchandise.

Since the amount borrowed from the bank varies so much. Alternation in the cash conversion cycle explained the less recurrent use of short-term financing from banks.term securities will allow the company to earn some of the interest back while covering the fixed costs including the loan. choices of a conservative approach and forecasted cash requirements are crucial. Account Receivable days. As long as the company anticipates that interest rates may increase in the future¸ the fixed rate long term loan will give them the opportunity to better control and plan to pay debt. However. current interest being paid on the line of credit varies between 10 – 30% monthly. The third policy is to establish a conservative approach that will enforce long-term financing instead of using the short-term plan. Team A brought up various categories of performance measure tools such as Account Payable days. more risky. The downside to the long term loan is if interest rates would fall in the future. . emphasizing the holding and restocking fees would be pivotal.LAWRENCE SPORTS SIMULATION 7 agreement will depend heavily on how the company approaches the vendors and explains the agreement. A long term loan with money invested in short. and Cash Conversion Cycle to assess each of these alternatives. A working capital policy offers the guidance for optimizing wealth. The second policy is to put an aggressive plan to place short-term financing over any long-term or matching. The second step is approaching the bank to convert the existing line of credit into a fixed rate loan. The first policy is to develop maturity matching plans with clients focus on maintaining the operating net capital at or above the minimum monthly standard. Recommending an aggressive plan to financing working capital for Lawrence Sport may vary with in interest rates and are hence. Conclusion In this paper. Team A discussed three working capital policies.

. D. R.com/articles/06/cashconversioncycle. University of Phoenix.com/info_8668031_advantages-maturity-matchingprinciples. (2013). D.ehow.LAWRENCE SPORTS SIMULATION 8 References Accounts Receivable Days Definition. Upper Saddle River. (2013).). J. J.html#ixzz2LnQf1RsL .com http://www. New Jersey: Pearson Prentice Hall.wallstreetoasis. (2012). (2007). Lawrence Sports Simulation.asp#axzz2LgWLkhzL Emery. Retrieved from http://www. FIN 571 website.investopedia. Michael (2013) The Advantages of Maturity Matching Principles | eHow. Corporate Financial Management (3rd ed.com/what-is-accounts-receivable-days Understanding the Cash Conversion Cycle. Wolf.. Retrieved from http://www. D. & Stowe. Retrieved from University of Phoenix. Finnerty.

LAWRENCE SPORTS SIMULATION 9 Appendix A Following Collection Week Company on Sales Collection Mayo 20% 80% Gartner 40% 60% Murray 15% 85% Appendix B Appendix B Continued .