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BUSINESS ORGANIZATIONS Ross and Westerfield graduated from UC in 2012 with a master’s degree in marketing and public health

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1. BUSINESS ORGANIZATIONS

   Ross and Westerfield graduated from UC in 2012 with a master’s degree in marketing and public health. They established a healthcare business in 2013. The business sourced and distributed pharmaceutical products in the United States. Ross and Westerfield have been partners for several years sharing profits and losses equally. Their partnership business has been very successful, as they agree on most business-related issues. One disagreement, however, is about the legal form of their business organization. Ross wants Westerfield to agree to changing the business from a partnership to a corporation. Ross believes that there is no major problem with corporations and incorporating the business would attract investors to help them raise large capital to expand the business internationally. Westerfield thinks otherwise and believes that the business should remain a partnership to avoid any agency problems. Ross & Westerfield want you to help them address the following questions:

    

   1. What are the advantages and disadvantages of changing the business organization from a partnership to a corporation?

    

   2. Ross and Westerfield know that limited partnerships, limited liability companies, and corporations enjoy limited liability, but they are not very sure what that means. Explain the concept of limited liability to Ross and Westerfield.

    

   3. Assuming Ross and Westerfield have invested $5.0 million in the business. If the company happens to declare bankrupt and has $6 million in unpaid debts. Explain the nature of payments, if any, by Ross and Westerfield in each of the following situations:

   i. The company continues as a partnership

   ii. The company changes to a corporation

   4. If Ross and Westerfield decides to go for a corporation they would like to consider alternative methods of issuing new securities (i.e., raising long-term funds) and the costs of issuing securities in the market.

   i. Distinguish between a public issue and a private issue of raising long-term funds and give two examples of each.

   ii. Identify five examples of flotation costs associated with issuing securities in financial markets that Ross and Westerfield must consider if they decide to go public.

   PART 2. FINANCIAL STATEMENT ANALYSIS AND FINANCIAL MODELS

   Ross and Westerfield want to use financial planning models to prepare a projected (pro forma) financial statement to determine the profitability and financial health of the business for next four years if they go public. The income statement ending Dec 31, 2020, and the company’s balance sheet as at Dec 31, 2020, are shown below. Use the financial statement to answer the following questions:

   INCOME STATEMENT	($millions)
   Total operating revenues	102
   Less expenses	47
   Less depreciation	10
   Earnings before interest and taxes	45
   Less interest	3
   Net income before taxes	42
   Less taxes @ 24%	10
   Net income	32
   BALANCE SHEET
   Assets:
   Cash	25
   Other current assets	38
   Net Fixed Assets	30
   Total Assets	93
   Liabilities and Equities:
   Accounts payable	15
   Long-term debt	18
   Stockholders' Equity	60
   Total Liabilities & Equities	93

   5. What was company’s profitfor 2020?

    

   6. Compute the following three profitability ratios and explain to Ross and Westerfield whether the business did better or worse in 2020 relative to the performance of the industry.

   i. Profit margin

   ii. Return on assets

   iii. Return on equity, and

   iv). Calculate and explain operating cash flow

    

   The industry ratios are as follows:

    

   Industry ratios
   Profit margin	30.80%
   Return on assets	32.00%
   Return on equity	42.50%

   Current ratio 3 times

   Total debt ratio 40.0%

    

   7. The business current assets comprise of cash and other current assets whilst its current liabilities comprise of only accounts payable. Compute and explain the current ratio and total debt ratio for the business in 2020.

    

   8. Ross believes that if the business goes public large capital can be raised to increase sales and cash flows to maximize the value of the firm. Assuming the business projects a 35% increase in operating revenue (sales) per year what will be the anticipated operating revenue in three years from now (i.e., in 2023)?

    

   9. If net income is projected to increase by 30% per year, what will be the profit margin in 2023?

    

   10. What will be the estimated earnings per share (EPS) in 2023 if 5 million shares are issued?