Department of International Business

University of Dhaka

Answer Script of Midterm-1

Course Code: IB- 206

Submitted To:
Dr. Suborna Barua
Associate Professor
Department of International Business
University of Dhaka

Submitted By:
Adrita Rahman
Batch:12th
Section: A
ID: KM-030-068
Summary: :
BigZag Corporation is a company, having an asset size of BDT 175 crore, produces ceramic products
and mainly exports to South East Asia. Chandrima works as a Deputy Manager of Finance in this
company. After doing a SWOT analysis Chandrima found that the annual profitability is highly
fluctuating and it would look like a zigzag if charted. Over time, the business produced good
sales, but somehow the sales were not converted into cash. Other factors that have harmed
productivity and increased production cost per unit have also been seen as the production
technology and inflation impact on raw material pricing. The company's managing director met
with a financial advisor who suggested that because the value of the company to the owners
depends on how much cash they receive from the business, the company must be able to
generate more cash rather than profit to achieve the ultimate goal of wealth maximization.In
addition, a few months ago, Chandrima's detailed investigation revealed that the company lacks
sufficient cash and needs more than BDT 50 crore as an additional investment that they intend to
acquire by selling a portion of their holdings to one of their cousins as the credit lines are well
utilized.Again, as BigZag company is a very typical family business, in addition to their regular
salaries from the business account for their personal expenses and investment intent, the owners
make money in the form of loans whenever it is needed, but the repayment is very slow.

Formulation of the question:

1. Why are money management, cash generation, and the ultimate goal of the firm
interrelated?
2. Is there any relation of continuous borrowing by the owners with the value of the
business ? If it is, how?
3. What is the process of calculating the amount the owner would charge their cousin for
the stake they are going to sell?
4. Why is the annual profitability fluctuating and how to fix that?

Facts & Figures:

● The company has an asset size of BDT 175 crore
● Sales growth rate in last 7 years is 9.17% while that of cash is around 3%
● On average, profit grew by 8 percent
● The company needs more than BDT 50 crore as an additional investment
● Total loan and withdrawal in the last 5 years is around 37% of the shareholders’ equity
Discussion:

Solution to the question no 1

Money management, cash generation, and wealth maximization are interrelated.

Wealth is the value of investment made by the owner. Wealth maximization means maximizing
the value of owners' or shareholders' investment. And money management is making financing
and investment and dividend decisions. Efficient money management generates regular cash
flow. An organization should have sensible money management decisions.

Cash flow from investing activities is one of the sections on the cash flow statement that reports
how much cash has been generated or spent from various investment-related activities in a
specific period. Efficient investment activities generate free cash flow. Free cash flow portrays
the level of the company's financial flexibility since it is the source of internal funds. a company
that has high free cash flow has more durability of survival in the terrible situation compared to
companies that have low free cash flow. This is because the company has sufficient capital
available for supporting stable operational activity and also determining success in the long-term
period. The managers are expected to use the resources in maximizing the wealth of the
shareholder by generating positive returns which can be used in paying dividends and growing
the business to improve the company's market value. Besides, owners can expand their business
by investing the cash in another sector and maximize the wealth. Therefore, Money management,
cash generation, and wealth maximization are interrelated.
 Solution to the question no 2

There is a relation of continuous borrowing by the owners with the value of the business.
We can make a rough estimate of the firm's value by measuring the total assets of a company.
The accounting equation is a formula for calculating the value of business assets relative to the
amounts that its owners have earned, spent, and invested in business equity.

Asset= Liability + Owner's equity

When a business owner withdraws cash from a company account, the value of company assets
decreases because some capital reserves have been transferred from business to personal use.
Thus, the value of the firm will decrease as the value of an asset (VA) = value of the firm (VF)

When a private limited company is being treated as a pass-through entity, there is no need to
borrow money from the company. With this business structure, cash can be taken out as a draw,
which you will pay or will have already paid income taxes on. The repayment is achieved in this
case by deducting money from the dividend. But there is a long-term impact, as that part of your
asset has now been liquidated. Now there is less cash value left to earn dividends, grow for the
future, or borrow against. There are also no interest charges or penalties to withdraw part (or
even all) of your cash value. Therefore, the company can’t invest the withdrawn amount which
results in a decrease in the intrinsic value of the firm.

In the given situation, Akram and his brothers used to make money in the form of loans in
addition to their regular salaries from the business account for their personal expenses and
investment purpose.This loan would be treated as a withdrawal and repaid by deducting the
dividend since BigZag is a pass-through entity. As the owners of the BigZag company liquidate
the assets, they will not invest them elsewhere and the value of the company will decrease.

Therefore, there is definitely a relation of continuous borrowing by the owners with the value of
the business.
 Solution to the question no 3

Akram and his brothers have already decided that they would sell their cousin some ownership.
To calculate the amount to be charged for the stake they will sell, Akram needs to understand the
company valuation process first.

Valuation is a quantitative process in which the fair value of an asset or a company is determined.
Value of a firm depends on how much benefit the firm is expected to generate in the future.

We will discuss two methods of firm valuation:

1. Discounted Cash Flow Method: This method has three golden step of firm valuation

● Find the benefits to be generated by the firm or estimate cash flows

● Calculate the present value of all the expected benefits to be generated by the
firm.
● Sum up all the present values calculated. The summation of all the present value
of future cash flow is the value of the firm

2. Asset based valuation: Another technique for calculating the firm's value is to tally up
all the assets of the company. We can make a rough estimate about the firm's value by
measuring total assets of a company.The going concern approach of this method takes
into account the business’s current total equity—in other words, your assets
minus liabilities.

VE=VA -VL

In the given case, The company has an asset of BDT 175 crore. Chandrima can calculate the
firm's value by subtracting the total liability of BigZag from BDT 175 crore.
She can also sum up the present value of estimated future cash flow for valuation.
 Solution to the question no 4

In the detailed assessment report on company SWOT analysis, Chandrima found that, for the
last seven years, annual profitability is highly fluctuating and it would look like a zigzag if
charted.
Profitability is a business's ability to produce a return on an investment based on its resources in
comparison with an alternative investment. The essence of profitability is a firm's Revenue –
Costs with revenue depending upon price and quantity of the good sold. Some factors affect the
profitability of a company.

● BigZag Corporation produces ceramic products and mainly exports to South East Asia
with only 20% of the products released into the domestic market of Bangladesh. As the
firm relies mostly on exports, appreciation in the exchange rate will decrease profitability.
A rise in the exchange rate makes exports costlier to foreign buyers. Therefore, the firm
can't sell more or choose to have a smaller profit margin.
● An increase in costs will decrease profits; this could include labor costs, raw material
costs, and the cost of the rent. The production technology and inflation effects on raw
material pricing have also been seen as other reasons that have damaged efficiency and
increased production cost per unit of BigZag.

These are the main reasons why the annual profitability of BigZag is fluctuating and here’s how
one can fix this problem:
 ● Set up a foreign currency bank account so you can accept payments or pay bills in a
foreign currency. This gives you some control over when to exchange the money into
your own currency. One of the main sources of foreign exchange risk is having costs and
revenue being earned and incurred in different currencies. So one way of reducing that
risk is to change your business practices so that the difference no longer exists
● To tackle the inflation effect on raw material BigZag has to estimate demand accurately,
so it can stock up on inventory when the costs are still low. This will allow it to gain a
good profit margin considering the products get sold.

Conclusion: Though BigZag is a pretty old business, it has never been handled professionally.
This mini-report will help Chandrima answer all of the questions and remove all confusions of
Akram and his brothers and deal with money matters more efficiently and effectively.