Should Dar Purchase Or Continue To Rent a Warehouse For Their Products Part 2

Analysis and discussion Ratio Analysis (Gearing and Current) Gearing ratio (2018): Gearing ratio= 𝐿𝑜𝑛𝑔−𝑇𝑒𝑟𝑚 𝐿𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠 𝐶𝑎𝑝𝑖𝑡𝑎𝑙 𝐸𝑚𝑝𝑙𝑜𝑦𝑒𝑑 Long-Term Liabilities=850,000 BGN Capital Employed=5,048,000 BGN 850,000 5,048,000 × 100 =16.8% (Appendix 5) Currently, the gearing is 16.8%. This means that at present the company is considered low-risk by lenders. So the company has a low percentage of capital employed which originates from long-term liabilities. Therefore, most banks would likely approve a bank loan of 720,000 leva for the purchase. In short, the company is financially stable. Current ratio (2018): 𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝑎𝑠𝑠𝑒𝑡𝑠 Current ratio= 𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝑙𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠 Current assets=29,789,000 Current liabilities=26,533,000 29,789,000 Current ratio= 26,533,000 Current ratio=1.122:1 (Appendix 5) The current ratio of the company is currently 1.122:1. This means that the company can pay it’s short-term obligations. So, it will be able to pay a 180,000 leva down payment and cover the running costs of the warehouse (Stoychev, Appendix 2). Force Field Analysis Figure 5-Force Field Analysis The driving and restraining forces total 14 and 10 points. Driving forces: Primarily, the warehouse will serve as a distribution center for the long-term. Hence, it would be more suitable to buy the warehouse since the company will not pay fixed costs such as rent in the future. The company will be less vulnerable to increases in rent prices for warehouses because of inflation. Buying is then an adequate long-term investment as Mladost is a neighborhood where the value of properties have lately consistently increased (2.5% annually). So, the company may sell the warehouse in the future for a higher price (Stoychev, Appendix 2). Additionally, when a company purchases property, they would have full legal control over it which would give it operational autonomy. For example, the organization can install a ramp, a loader, and other machines to improve the efficiency of the business (the stock will be transported to the trucks easily using the loader and the ramp will ease loading the stock (Ivanov, Appendix 3). Moreover, the company may rent spare space of the property to clients in the future. The rent price of properties in the area is increasing by 3%. Giving the warehouse fully or partially for rent will be an adequate way to increase the working capital (Nikolov, Appendix 4). Additionally, the warehouse is easily accessible. The company's staff can reach it via public transport. Moreover, this is advantageous for the efficiency of the logistics since the stock will be loaded fast on a truck to be transported to the supermarkets as the warehouse is next to the ring road (Ivanov, Appendix 3). Restraining forces: Firstly, buying a distribution center may lead to additional bureaucratic costs for ownership. There may be expenses such as property taxes (2.5% of the property value) which are the responsibility of the owner. This might contribute to the increase in the fixed costs of the business damaging the working capital. Additionally, the company will pay a 0.1875% (garbage tax) of the purchase which is a marginal cost. But, in this case, the organization has a positive working capital (Kanchev, Appendix 1). There could additionally be a potential for a financial loss. This would depend on the market price of properties in the location relevant to macro-economic reasons. A financial crisis could decrease the price of warehouses by devaluating the value of the asset (Stoychev, Appendix 2). Furthermore, there are also maintenance and administrative costs. The company should use its own equipment which has to be installed, insured and maintained since it will be their property. They will need to install new machinery including loaders which might be costly for the business. Therefore, the indirect costs of the company will increase (Ivanov, Appendix 3). The investment is significant, which is financed by a loan with a fixed-interest rate. The company will first pay 180,000 leva as a down payment. The company will also pay interest over the loan (the interest total is planned to be 114,285 BGN). This is an indirect cost associated with the purchase. Additionally, the company may not take advantage of falling interest rates because the loan would be on a fixed-rate basis. But, overall the company can afford to purchase the warehouse due to their stable financial position (Stoychev, Appendix 2). Buy vs Rent Analysis over a 20-year time-span Table: All sums are in BGN Year Cumulative Expenses (Rent) Cumulative Expenses (Buy) Expenses (Buy) 1 72,000 72,000 961,743 961,743 2 74,160 146,160 33,336 995,079 3 76,385 222,545 31,371 1,026,450 4 78,676 301,221 29,347 1,055,797 5 81,037 382,258 27,261 1,083,058 6 83,468 465,726 25,112 1,108,170 7 85,972 551,698 22,897 1,131,067 8 88,551 640,249 20,615 1,151,682 Expenses (Rent) 9 91,207 731,456 18,263 1,169,945 10 93,944 825,400 15,840 1,185,785 11 96,762 922,162 14,500 1,200,285 12 99,665 1,021,827 14,500 1,214,785 13 102,655 1,124,482 14,500 1,229,285 14 105,734 1,230,216 14,500 1,243,785 15 108,906 1,339,122 14,500 1,258,285 16 112,174 1,451,296 14,500 1,272,785 17 115,539 1,566,835 14,500 1,287,285 18 119,005 1,685,840 14,500 1,301,785 19 122,575 1,808,415 14,500 1,316,285 20 126,252 1,934,667 14,500 1,330,785 Figure 6-Buy vs Rent Analysis Table (Appendix 6) The calculations show that the rental fees for a 20 year-period are 1,934,667 BGN when considering the annual inflation. Initially, the rent will cost 72,000 BGN per year, but this will increase due to inflation at 3% (Stoychev, Appendix 2). Meanwhile, by purchasing the property, the expenses for the property including the purchase will be 1,330,785 BGN for 20 years. This will also include the maintenance, taxes, closing costs, and interest. The maintenance costs are 4,000 leva per year while the insurance is 1,500 per year. The taxes are 9,000 leva per year while the closing costs were 26,500 leva. For 10 years, the interest paid varied since it decreased with time (Appendix 6). Following ten years, the debt-repayment period has finished. Additionally, the value of the asset may have increased at 2.5% annually (Stoychev, Appendix 2). Thus, according to the numerical data, at the end of the 20th year, the asset could have a book value of 1,438,785 BGN. So, the capital gain for the asset would be 538,785 BGN considering that the purchasing price was 900,000 BGN. Cumulative Expenses Chart: Figure 7-Buy vs Rent Analysis Cumulative Expenses Chart (Appendix 6) This graph demonstrates the cumulative costs of buying and renting for a period of twenty years. After ten years, the line representing the cumulative costs of buying is linear since the company has to pay only maintenance costs, insurance and taxes. The debt-repayment period has finished. The cumulative rent expenses line is not linear since the fees increase by 3% annually (Stoychev, Appendix 2). We can see that the lines intersect around the 14th year. Therefore, when considering the costs, it would be more suitable to buy the warehouse when using it for more than 14 years. Conclusions According to the Ratio analysis, including the gearing and current ratios the company will remain stable if it bought the warehouse and it will be able to pay its short-term obligations. According to the FFA, based on quantitative factors, it would be beneficial for the company to purchase the warehouse. The driving and restraining forces for the FFA totaled 14 points and 10 points, respectively. Based on the Buy vs Rent Analysis, the company should buy the warehouse since the cumulative expenses would be lower if they bought a warehouse instead of renting one after fourteen years. The analysis conducted was balanced since it included three stakeholder groups which included the shareholders, the general, operational managers and an independent economist which all agree that the company should purchase the warehouse. The statistics of the Buy vs Rent Analysis and the Gearing Ratio may not be fully accurate. The Buy vs Rent analysis could be imprecise due to external factors. Another potential flaw is that there can be deflation in property and rent prices due to a crisis. Moreover, there were slight inaccuracies for the financial ratios. The Gearing and Current Ratios may be imprecise for the purchasing period. This is because the balance sheet was from 2018 since the company specified that they couldn’t send their 2019 one since they wanted to keep their financial privacy. Recommendations The company should buy a warehouse since it will develop its autonomy because it would be able to adjust to the logistical needs of the company. It would bring a positive change in the financial health of the company due to the cost advantages and capital gain. Qualitatively, the stakeholders including the managers, and the employees will be satisfied, which is important for the success of the operations. The company should monitor the financial data to understand whether the actual costs would exceed the projected costs by verifying data on maintenance, taxes, and insurance. These sums may increase due to inflation. They should also verify the projected increase in property prices to ensure the projected capital gain. The company should conduct further research on the economic cycle since this could influence the rent and purchasing prices of a warehouse. They can understand to what extent it can influence the property prices or whether the investment will not accumulate equity. Therefore, the company may understand whether the price of the asset will continue to increase or decrease. Word Count: 1992 Works Cited Dar. Balance sheet (2018). 2nd February, 2019. Accessed 24 August, 2019. Dar. Buy vs Rent Information. 10 July 2019. Accessed 24 August, 2019. Hoang, Paul. Business Management 3rd Edition. IBID Press. March 2015. Accessed 10 August, 2019. Ivanov, Ivan. “Interview with Mr. Ivanov (Operational manager).” 15 September, 2019. Kanchev, Nikolai. “Interview with Mr. Kanchev (Owner).” 29 July 2019. Nikolov, Venelin. “Interview with Mr. Nikolov (Independent economist).” 29 October 2019. Stoychev, Pencho. “Interview with Mr. Stoychev (General Manager).” 31 August, 2019.