BUS 1010 Module 6 Financial Resources Written Assignment Example

Passaic Fire Sauce Company: Reading the Numbers, Financing Growth and Working With a Bank

Student Name

Bachelor of Science in Business Administration, Thomas Edison State University

BUS-1010: Introduction to Business

Mentor Name

Month Day, Year

Passaic Fire Sauce Company: Reading the Numbers, Financing Growth and Working With a Bank

The final written assignment returns once more to Passaic Fire Sauce Company, now three years old and about to supply a regional grocery chain. To fill its grocery contract, the company needs about $180,000: $110,000 for a second bottling line and $70,000 to carry more inventory and receivables while the chain pays on 45-day terms. The answers below explain how the owners should use their financial statements, how they should finance the expansion, and how their relationship with a bank and the level of interest rates affect the company.

Question 1: How Should Owners Use Accounting Information?

Accounting turns the company's transactions into information for decisions (Nickels et al., 2016). The income statement shows whether Passaic earns a profit: last year it had $640,000 in sales and $52,000 in net income, a net margin of about 8%. The balance sheet shows what it owns and owes, including $95,000 of inventory and a $60,000 bank loan. The third statement, which traces each dollar of cash in and out, holds the most urgent lesson for the expansion: a profitable year still left the company with little cash, because growing inventory and receivables absorbed it.

The owners should use these statements for three kinds of decisions. For pricing, the gross margin by product shows that the smaller $5.50 bottle earns much less per bottle than the original size, which matters as the grocery chain pushes for low prices. For planning, a monthly cash budget built from the statements will show when the grocery contract's slow payments create a cash gap. For borrowing, lenders will ask for these statements and compute ratios such as debt to equity and current assets to current liabilities, so the owners should know their own numbers before the bank does. Accurate records are also a legal duty, since tax returns and the bank's loan covenants depend on them.

Finally, the owners should compare their figures with those of similar food producers, since a margin or inventory level means more when it can be judged against peers.

Question 2: How Should the Expansion Be Financed?

The financing should match the use of the money. Long-lived assets, such as the bottling line, are best financed with long-term funds, while seasonal needs for inventory and receivables are best covered by short-term credit that rises and falls with the business. Berger and Udell (1998) described a financial growth cycle in which small firms rely first on the owners, friends and family and trade credit, then add bank loans as they build a track record and assets that can serve as collateral, and only later gain access to outside equity markets. Passaic, with three years of history, steady customers and equipment as collateral, sits at the stage where bank credit becomes available.

The recommended plan has three parts. An equipment loan of about $90,000 over five years, possibly guaranteed under a Small Business Administration program, would finance most of the bottling line, with the line itself as collateral. A revolving line of credit of $70,000 would cover inventory and receivables, drawn when the chain's orders rise and repaid as payments arrive. The remaining $20,000 for the line would come from the investor who has offered to buy a minority share, which strengthens the balance sheet and makes the bank more comfortable lending. This mix keeps the cousins in control, limits fixed payments to what the business can carry and avoids using short-term credit to buy long-term equipment.

The plan also needs a fallback. If the bank approves a smaller equipment loan than requested, the company can lease the bottling line instead, which raises the long-run cost but requires little cash up front and can usually be arranged within weeks.

Question 3: Why Does a Banking Relationship Matter When Rates Change?

Interest rates on small business loans move with the Federal Reserve's policy rate, which it raises to slow inflation and lowers to support growth. When rates rose sharply in recent years, many small businesses found loans both more expensive and harder to get. A line of credit with a variable rate exposes Passaic to that risk, so the company will hold its line-of-credit balance down in months when sales allow and choose a fixed rate on the equipment loan.

A strong relationship with one bank can soften the effects of tight credit. Petersen and Rajan (1994) analyzed survey data on small firms and found that the main benefit of close ties with a lender was greater availability of credit, with smaller effects on its price, and that borrowing from many lenders tended to raise the cost and reduce the availability of credit. For Passaic, that argues for concentrating its accounts, payroll and borrowing at the community bank that made its first loan, sharing statements every quarter and talking with the banker before a cash problem arises. When credit tightens, a bank that knows the business is more likely to keep lending.

References

Berger, A. N., & Udell, G. F. (1998). The economics of small business finance: The roles of private equity and debt markets in the financial growth cycle. Journal of Banking & Finance, 22(6-8), 613-673. https://doi.org/10.1016/S0378-4266(98)00038-7

Nickels, W. G., McHugh, J. M., & McHugh, S. M. (2016). Understanding business (11th ed.). McGraw-Hill Education.

Petersen, M. A., & Rajan, R. G. (1994). The benefits of lending relationships: Evidence from small business data. The Journal of Finance, 49(1), 3-37. https://doi.org/10.1111/j.1540-6261.1994.tb04418.x