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Capital Structure Analysis Report

Using JC Penney investor web page and the attachment files do the following on APA style

A.Working Capital Management Section

1)Identify which of the liquidity and efficiency ratios were under-performing relative to industry standard or were deteriorating over the three-year trend.

2)Recommend specific changes in working capital strategies for each of the following (when applicable):

a)Cash and marketable securities
b)Credit policy
c)Inventory
d)Sources and uses of short-term financing

3)Your recommendations should include a detailed plan of your working capital strategy. Provide quantitative support for your recommendations. Discuss consequences of your recommendations on the firm's sales, profitability, customer service, quality, risks, and so forth.

B.Valuation and Investment Section

1)Prepare a three-year trend analysis table for the following financial market ratios for the company:
a)Price earnings ratio
b)Earnings per share
c) Dividend yield
d)Common stock share price

2)Recommend a "buy," "hold," or "sell" (reflecting expected performance over the next 12 months) for the company, based upon your prior financial research.

3)Provide five supporting reasons for this recommendation (including financial, market, and industry risks).

C. Cost of Capital Section

1)Calculate the cost of capital (show calculations) for the company using the following:

a)Weighted average cost of capital; and
b)Capital-asset pricing model (beta).

2)Discuss the relative strengths and weaknesses of the methods above as to the appropriate discount rate for the firm.
3)Describe why these two methodologies may produce different results.

How would you recommend that the firm lower its cost of capital?

Attachments

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This is a background material which should be used as a reference material only.

Capital Structure Analysis Report

Using JC Penney investor web page and the attachment files do the following on APA style

A. Working Capital Management Section

1) Identify which of the liquidity and efficiency ratios were under-performing relative to industry standard or were deteriorating over the three-year trend.

2007 2006 2005 Industry median
Current ratio
Current Assets/Current Liabilities 1.90 2.43 2.44 3.4

Quick ratio 0.93 1.26 1.53 0.6
Quick Assets/Current Liabilities

Receivable Collection period (days) 4.76 5.18 7.89 7.5
Receivables/Daily sales

Inventory turnover (times) 5.85 5.85 5.81 4.7
Sales/Average Inventory

Asset/Sales 63.67% 66.35% 76.68% 47.3%

Liquidity is a company's ability to meet its maturing short-term obligations. Liquidity is important for conducting business activity especially in times of adversity such as when operating losses occur due to economic conditions or drastic price increases of raw materials or parts. Liquidity must be sufficient to cushion such losses. If not, serious financial difficulties may result. According to the liquidity ratio analysis, The JC Penny has near to the ideal current ratio of 1.9 times in 2007 and quick ratio of .93 in the year 2007. So its liquidity position seems to be strong. Probably this can be increased to the ideal current ratio of 2:1 and the ideal quick ratio of 1:1. Infact its performing better than the industry as the industry has very high current ratio and lower quick ratio.

Efficiency ratios
It measures how well a company is managing its assets.
Inventory turnover ratio
It indicates the efficiency in the utilization of the inventory. Higher the ratio the more favorable it is for the organization. Here the JC Penny's ratio is 5.85 time which is better than industry average and high which is good for the organization.

Average collection period
It indicates the efficiency in the utilization of the accounts receivables. Lower the days the more favorable it is for the organization. Here the ratio is declining which is a sign of efficient management. Average collection period is very low at 4.76 days in 2007, and is outperforming the industry.

Asset/Sales
It indicates the efficiency in the utilization of the assets. It's ratio is moderate and its 63%.This is higher than industry and its underperforming. It needs to improve the utilization of the assets.

2) Recommend specific changes in working capital strategies for each of the following (when applicable):
3) Your recommendations should include a detailed plan of your working capital strategy. Provide quantitative support for your recommendations. Discuss consequences of your recommendations on the firm's sales, profitability, customer service, quality, risks, and so forth.

Use of working capital
Working capital provides the resources for the day to day operations of the firm.
Without cash, the firm cannot pay its bills. Without receivables, the company would have difficulty selling merchandise. Without inventory, the firm would be unable to make immediate delivery of goods.

Net Working Capital means the difference between current assets and current liabilities, and therefore, represents that position of current assets, which the firm has to finance either from long-term funds or bank borrowings.
a) Cash and marketable securities
It should increase the balance of cash and marketable securities as its quick ratio is slightly less than the ideal ratio of 1:1 as discussed above. Thus this can lead to improvement in liquidity position of the firm which will improve the customer service and quality. In short term this might lead to slight decline in profits.

b )Credit policy

The job of the credit manager is not to minimize the number of bad debts but to maximize the profit. This means that one should increase the customer's credit limit as long as the probability of payment times the expected profit is greater than the probability of default times the cost of goods.
Implications of extending Liberal Credit Policies are to have a trade off with reference to credit standards:
1. The collection costs
2. Investments in account receivable
3. Level of Bad debts
4. Level of Sales
Implication of relaxed credit standard
1. More credit, a large credit department to service accounts receivable and related matters. And increase in collection costs.
2. Higher will be accounts receivable, higher the carrying cost. It can also lead extension of credit to even less credit worthy customers who will take a longer period to pay overdue. It will result in higher accounts receivable.
3. Bad debt will also increase if credit standards are relaxed.
4. Sales are also expected to increase.

Point 1-3 will have negative impact on profitability and point 4 will have positive impact on profitability of firm. Therefore the rapidly expanding sales produce negative cash flow when point Point 1-3 outweighs point 4.
That is if the costs in terms of bad debt, collection cost and financing cost are more than the profit generated by the additional sales then it will create negative cash flow for the organization.

Creditor may get the payment late as there is a pressure of increased investment in the accounts ...

$2.19