Memo on Solving External Financing Problems

Memoon Solving External Financing Problems


TO:Sharon Light, CEO

FROM:Richard McManus, CFO

SUBJECT: Strategyto Use to Solve the Problem of Scant Profits and Meagre Cash Flows

Afirm can finance its operations by issuing shares or even acquiring adebenture. I secured a debenture, which resulted in scant profitsand meagre cash flows. The investment banker of the company gave methree solutions to solve the problem. One, the firm could receivecash upon the issue of debenture that equals to the present value ofthe repayment amount. The firm could also issue bonds with nointerest and lastly it can issue bonds with a market rate that equalsthe difference between the future value and its present value.

Usingstrategy 2, the non-interest bond would increase the firm`s costs offinancing since cash payments are at the end of 2018. In strategy 1,the firm pays 4 percent bonds that pay interest annually. Strategy 2implements a zero percent bond at effective annual interest ratewhile strategy 3 implements a discount rate of 1 percent. Strategy 1has a greater impact on the financial statements and statement ofcash flows as it realises greater profits and the bonds payable andthe cash paid on interest is lower as compared to the other twostrategies.

Inconclusion, I would recommend Sharon Light to implement the firststrategy where Light Point Inc. receives cash amounts, which areequal to the present value of the amount to be repaid. This isbecause it receives more cash than it would have received if it usedthe zero percent bonds and if it used the 1 percent discountingfactor with an effective annual interest rate of 5 percent. Bonds atfuture value have a higher return than those at a present value sincethe discounting factor tends to increase every year. In light ofthis, Sharon Light should implement the first strategy and this wouldhave greatly solved the problem of scant profits and meagre cashflows.