The Company named as Officenet was found by two friends named as Andres Freire and Santiago Bilinkis. They got off to a good start and hired finance and accounting manager, who was responsible for drafting all the financial transactions, forecasts and accounting statements of the company. Though numbers in profit and loss, balance sheet, cash flows and assumptions are open to debate and question.
First of all revenue portion of profit and loss statement can be commented. Gross profit has increased rapidly from US$ 460 to US$5729 from year 1997 to 1999. It is a very huge increase in the first three years of the business. Whilst on the other hand selling and administrative expense were understandably high in the first year but later the gross profit was able to cover the gap between gross profit and selling/ administrative expenses. EBITDA fell from US$ -647.2 to US$269.5. Numbers in the depreciation portion of income statement could be discussed as it has increased with a very high rate i.e. it increased to US$ -243 from US$45.1 within the time span of only 3 years. This means that depreciation costs of the equipment that Officenet is using very high and the equipment is becoming obsolete and less useful to company in a short span of time. Increase in depreciation costs will ultimately led to decrease in net income of the company. Moving on to balance sheet of the company the numbers in first and foremost portion i.e. cash is questionable. It shows that company was facing problems regarding cash in their starting years; when the company started in 1997 they had US$ 276.4 with them but after three years in 1999 company was left with zero cash. This signifies the importance of cash in a business; one should have cash to cater with emergency situations. Total debt amounted to US$3654 in year 1999 which is a very high amount considering the fact that when company was launched in 1997 total debts amounted to only US$53.4, this imparts the fact that company didn't take into account the negative side of acquiring too much debts in their hands. They must have realized that if debts help overcome cash problems in short run, it does have a negative impact in long run. And company is liable to pay off debts with interest within the specified period of time. Numbers in capital expenditure of the company are very unrealistic; it doesn't follow a trend but varied a lot in three years. Amount was U$517.4 in year 1997, it increased to US$3992 in second year of operation but suddenly fell to US$ 815 in year 1999. This shows the uncertainty of expenditures of the company.
After the first three years of operations company drafted its forecasts for the years 2000, 2001, 2002, and 2003. Considering the fact that company generated revenue of worth US$ 21718 in year 1999 it's unrealistic to assume the fact that they will be able to achieve revenues of US$35803.7 in year 2000, US$44754.6, US$53705.6 in year 2002 and US$61761.4 in year 2003. Given the prevailing situation criteria and circumstances it's unrealistic to speculate such increases in revenue over the period of four years. Moving onto depreciation portion of forecasted income statement, considering the fact that depreciation expenses were huge in first three years of operation of the company finance and accounting department should have assumed high figures for the years to come unless the company tends to solve the problem of obsolesce of equipments and machinery. Depreciation amount for year 1999 was US$243 and assumption of year 2003 is only US$455. Taxes for year 2000 and 2001 are shown at zero which in my opinion is wrong. As company are not sure of the government's policies regarding taxation they can't assume that the taxes paid will be zero in forth coming years i.e. 2000 and 2001. Lastly in total debt portion of forecasted balance sheet of the company it is assumed that total debts will decrease to US$1301.1 in year 2003. These figures are highly questionable considering the fact that company has faced great cash crises and were forced to acquire debts from external sources in its first three years of operation.
Q2 evaluate the opportunities and prepare SWOT analysis?
ANS: Swot analysis basically refers to the analysis that involves strengths, weaknesses, opportunities and threats any company has to face. Strengths and weakness are internal factors of a company whilst opportunities and threats are external factors. First of all ill try and highlight the weakness of the company. First and foremost weakness for the company includes the factors like overall inherited infrastructure problems and corruption in Argentina. Another weakness includes the lack of office supply market in Argentina; as there were no serious logistic companies in Argentina that operate in office supplies market. Few companies that were operating were completely unreliable and untrustworthy; an example of their unreliability could be judged by the fact that as the founder of company Freire suggests that ''if you tried to send a package to Cordoba it would end up in Santa Cruz and the only certainty you had in sending a letter via the post office was a certainty that it would never get there. No one, including the post office was interested in investing in logistics''. Corruption in mail delivery industry added the fuel to the fire and was another factor that could be added as a weakness for the company. Corruption is prevailing in not just mail delivery industry but in the whole of Argentina and lack of ethics plays a large role in operating of many businesses all across Argentina. It was considered a normal practice and act for many companies to take and offer bribes in selecting their office supplier providers. Bribes hold a major chunk of all businesses transactions made by companies so this made survival of Officenet almost impossible as there motive was a clean and pure business. If competitors indulge in such activities it makes the running of the clean and pure companies hard and even impossible in many cases. Another weakness of Officenet that can affect their running as a company is tax fraud by its competitors which ultimately leads to excellent and better cash management. For instance competitors only paid their bills with the endorsed check of a customer and would never account for that sale in the system. This way they knew the money coming in the door would go out the door to settle the bills.
Moving on to the strengths of the company; they adopted the most appropriate and thorough hiring process and out of 1000 applicants only 23 people were selected. A proper and systematic procedure was followed in the recruitment process as candidates had to pass several interviews to qualify for the job. Founder of the company wanted to look like they were a five star international company so they got a room at five star hotels and began interview process. This gave a good professional impression to candidates, competitors and all other stakeholders of the company. Another factor that led to the strengths of the company was the fact that they were the first company ever to introduce the catalogue system in the whole industry. No company was offering such services as Officenet that gave then a competitive edge over all other companies in the industry. With the Officenet catalogue, not only were people able to see exactly what they wanted, but they were guaranteed free delivery within 24 Hours on all products. This focus on service was what the company believed would be the edge in consolidating the market.
Despite some of the weaknesses, the company was quite successful and came up with a number of innovations that helped them differentiate from other companies in the market. Officenet main focus is on the satisfaction of customers so they decided to split their sales force into two categories; one called "hunters," which was responsible for generating new accounts, and one called "gatherers," which was responsible for servicing existing accounts. This helped the company to increase the efficiency and effectiveness of sales force immeasurably. Leo Piccioli, the Logistics Manager also had developed a new inventory control system for receiving, stocking and shipping. New inventory control system resulted in in-depth analysis and understanding of inventories and stock compilation of the company. This ensured that stock was kept up to date and inventories never gets out of stock; this avoided surplus of unwanted stock and all the demands of customers were also fulfilled at the same time. Warehouses were organized in a more systematic and efficient manner i.e. warehouses were split into two areas, called micro Centro and macro Centro. Together, these areas represented about 70%-80% of sales but only approximately 8% of the warehouse space. Another aspect that led to increase in strengths of the company was the introduction of a new software system that tracked all aspects of inventory and warehouse control, through this software company was able to design routes that have increased the speed and accuracy of picking the products for delivery. Additionally, this software system has allowed them to track the efficiency and competence of the individual picking worker and the firm as a whole in all areas of warehouse and inventory management and company worked on improving the speed and accuracy of the business.
All the weaknesses that are discussed above could ultimately turn into threats to the company as it will increase the overall costs of the company, eliminating the chances of economies of scale in several departments. As mentioned earlier due to the infrastructure problems in Argentina, Officenet had to develop their own delivery network to ensure the delivery of their product. There seemed to be a plentiful supply of delivery people with their own trucks as recent privatizations had put a significant and noteworthy number of people out of work due to cost cutting measures. While this measure allowed Officenet to overcome some infrastructure barriers in Argentina, it had two important side effects: a relatively high initial per order cost and a limit on the geographic area which they could serve. The management of this delivery system was an area where the company looked for improvement, both logistically and financially. So failure in catering and rectifying such issues could eventually result in bankruptcy and solvency of the company. Officenet have to take necessary measures to avoid such harmful threats.
There are many opportunities for the Officenet Company to consider. They could expand and grow immensely in new and existing markets; they could explore the markets which are not yet explored and can even diversify their existing products range. They could go for geographic expansion, business-to-consumer market segment expansion and internet-driven commerce expansion.
Q3 the entrepreneurs are currently considering a number of strategic growth options. Which one would you advise them to pursue? Why? Should they seek to grow outside of their current business at all?
ANS: The entrepreneurs are currently considering a number of strategic growth options. They had several options on which they could develop their business: expand geographically, expand into the consumer segment, and expand more aggressively into Internet-driven commerce.
All of these options had their advantages and disadvantages. As said by the founder of the company Freire ''we need to figure out what we want to be when we grow up''. As mentioned earlier Freire and Bilinkis had three choices to consider for growth and expansion. First and primary option is of geographic expansion; Officenet could consider expanding to Brazil as the big benefit from expanding to Brazilian market is the absolute size of the market. By expanding in Brazil Officenet could benefit in two ways. First, they could potentially accomplish enormous synergies in purchasing and, consequently, dramatically increase the purchasing power of the entire organization. Although Officenet had started some private label products of its own, these efforts were quite limited due to the size of the company. The increased scale achieved through regional expansion towards Brazil could allow them to expand this dramatically. Second, a Brazil expansion could help on the exit by allowing Officenet to command a regional multiple, rather than a single-market multiple, upon a realization event. As Officenet was the only one expanding in the region they could exploit the advantages of being the only ones in Latin America with a regional vision and this concept is well-suited for expansion. Since the office supply market in Brazil was very uneven and scrappy and otherwise quite similar to Argentina, Officenet felt it could employ much the same entry strategy they did in Argentina i.e. first via catalogue and then by expansion into the Internet based commerce. Company should be aware of the fact that there are many risks involved in this expansion; firstly the differences in language, culture, norms and values. Secondly there were many cases of Argentine companies entering the Brazilian market and resulting in destroying the entire business. Another big issue was of the corruption in Brazil market; same problem as Argentina. And lastly due to cultural differences it may be difficult to find an attractive and ethical partner in Brazil.
Second option that Officenet can consider is expansion in business-to-consumer market segment. The driving and motivating force behind entry into the business-to-consumer segment was that it would provide a large increase in the size of the market Officenet served. The company estimated that in Argentina the business-to-consumer market was roughly the same size as the business-to-business market. By entering this segment, Officenet could effectively double the potential size of their business. From an operational point of view, there were other benefits such as clear logistical and purchasing synergies that Officenet would benefit from by entering this segment. Furthermore, they could potentially gain some of the scale necessary to expand their private label efforts. Choosing this type of expansion can help in exit considerations. As said by Bilinkis ''this could also help our exit because this is a flashy segment in the eyes of the public and private markets''. However there are some downsides of choosing this type of expansion; the problem with expansion into this segment refers to a profitability issue.
As stated in the case right now the cost per order of the company is about $40 and the average order size is around $190 dollars. In the business-to-consumer market the average order size would be considerably lower than in the business-to-business segment. There may be certain aspects of the business that may be able to change to lower that cost, but it is not clear what impact that would have on the business. Company could also impose a minimum order size, but that could radically limit the effective market that is being targeted. Marketing is another issue;
There might be better direct marketing information in this segment, but loyalty in this segment is a big question mark. This will just result in expanding the company further into the unknown.
Third and last option the company has is internet expansion. The basic objective goal of entering this segment would not be to phase out the catalogue but conduct 100% of Officenet's business over the Internet. In the longer term, the founders can even start line extensions into other businesses and become a "Wal-Mart of the Internet" in Argentina. Officenet would effectively become logistical experts in Argentina and would position the company in other markets where logistical expertise was important. As Bilinkis said "This would probably change our exit options i.e. from a Staples or an Office Depot to an Amazon or a Star Media but the line extension would bring about an even greater increase in the exit multiple." However, the disadvantage of this option is large as well. Even without the line extensions, the capital investment required would be massive and the Internet penetration rate in Argentina is very low on an actual and a projected basis when compared to other countries. This problem could be explained by what Bilinkis said ''we would risk becoming such a hybrid that no one would be interested in us. Also, with the line extension, the risks go through the roof; we could easily just vaporize the entire firm''. Another disadvantage of internet expansion is that the company will have to hire professional, well trained I.T specialists to manage the overall running of the business on the internet and this may increase the costs of the company. Company will not only have to develop much of the know-how, expertise and knowledge of how to sell things on internet but would also be grappling with even lower order sizes than in the business-to-consumer segment of the office supply market.
In my opinion Officenet should go with the first option i.e. geographical expansion. However as discussed earlier all three types of strategic growth options have its own advantages and disadvantages but advantages of geographical expansion outweigh the advantages of other growth strategies. Despite the fact that there are differences of language and culture it can be overcome with careful analysis of the situation and factors like diversity of norms and values shouldn't be intruding with all the advantages the company will be able to gain after expanding into Brazil. To sum up I believe that the risk of geographical expansion is worth its advantages and given the situation and all other related factors Officenet should acquire this growth strategy.
Lastly I do agree that Officenet should they seek to grow outside of their current business. The reason I am strongly convinced by the fact that the company should grow outside their business is that there are many benefits that a company can achieve by growing outside their own businesses and can reap the advantages of diversification. Diversification refers to a strategic direction that takes companies into other products and/or markets by means of either internal or external development. There are basically two broad forms of diversification; first is related diversification and the other is unrelated diversification. The advantages that Officenet may achieve by growing outside of their own business will include the fact that they can be enjoying profits from other business in case they are facing problems and losses in one business. Now Officenet can enjoy multiple sources of income which will eventually help their problems regarding cash flows and liquidity.
Q4 When should the entrepreneurs plan to exit their venture? Is the sale to a large US based firm in the office supply distribution industry really such an obvious exit strategy? Why not?
ANS: Usually every business follows a trend; it could be called a business life cycle. It has several stages, starting from the introduction of business to growth and then maturity stage; maturity stage refers to the optimum and saturation point of a business. In this stage sales are at its maximum possible level. After maturity stage businesses starts to decline; business should either plan to modify its existing strategy which can also b refer as extension strategies or can exit their venture. There could be several reasons Officenet may think to exit their venture; primary and foremost reason could be the liquidity and cash problems that Officenet may b facing. Officenet may be failing to run and manage day-to-day running of a business. It may not be able to pay wages or salaries to employees and workers. Another reason that may lead Officenet to exit their venture could be the failure of marketing system that the company is employing to attract its target customers.
Furthermore in my opinion sale to a large US based firm in the office supply distribution industry really isn't such an obvious exit strategy. It isn't a very considerable and appropriate option for Officenet giving all the circumstances and situation. Sale to a large US based firm would mean that owners of Officenet are no longer owners of the company and don't possess the control and authority over it. They won't be able to reap and enjoy profits and revenues from the company which they used to acquire before. Now founders of Officenet won't have any say in the overall decision making of the company. In short they won't be a part of the management of the company. Though there will be some advantages of this takeover but disadvantages overlaps the advantages and it's not worth it. Some of the advantage that Officenet may get by the sale to large U.S based office supply firm includes the fact that owners will get a handsome amount of money immediately for the sale of the company and it may solve some of the problems but as mentioned earlier the ownership of the company will be at stake and that is why I won't recommend Officenet to sale its ownership to U.S firm.
In my opinion the best option that Officenet can have would be a conglomerate or merger with a large firm who possesses good reputation, Goodwill and management skills. Through a merger Officenet can have several advantages; they can still have the say and authority over the business. Many of Officenet problems will be solved by a merger. A merger is basically when two different companies decided to work together for a mutual goal and interests. There are basically three types of mergers; forward merger, backward merger and unrelated merger. Forward merger refers to the concept where a manufacturer acquires the channels of distribution of its outputs to achieve greater economies of scale or higher market share. Backward merger refers to the concept in which a consumer of raw materials acquires its suppliers, or sets up its own facilities to ensure a more reliable or cost-effective supply of inputs. Lastly unrelated merger refers to the merger of the companies that are not at all related to each other in any way. Considering all the options of mergers I would recommend Officenet to go with backward integration. Officenet will be merging with the company that deals in raw materials that are being used for the manufacturing of office supplies. Through this type of merger Officenet won't have to face the problems regarding dealing with suppliers and they will be able to get good rates and prices and all the orders will be placed on time. Lastly there will be no issues regarding stock and warehouses.
Q5 How much debt should the entrepreneurs raise in the pending commercial paper program? In your opinion, how much new equity does the company need over the next 2 years?
ANS: Nowadays debts have an imperative and significant role to play in running and managing of businesses worldwide. Same was the case with Officenet and after an important meeting held by founders of the company it seemed that it was Officenet's decision whether to pursue the debt facility or not. Although the debt facility would provide a needed source of capital for growing their existing business, Freire and Bilinkis needed to consider this next stage of capital in relation to their long term growth plans. Given the infrastructure problems and other loopholes Officenet faces in their existing business it could be a formidable challenge. Not only did they soon have to make a decision on the commercial paper program, but they also had to make an important decision on the long-term strategy of the company. In making the decision, they had to consider more than just the positive and negative aspects of each option but other interests as well. They had to think and consider about the interests of Carlos Adamo and the investor group and how each of the options fed into their original charge set out by Adamo back in 1996. Plus they had to think about the interests of their most likely exit opportunity, the BBRs, and what these firms considered important in a business partner or acquisition target. Finally, Freire and Bilinkis needed to think about their own interests and what they wanted to achieve personally and professionally. So given all these factors decision regarding perusing with commercial paper program wasn't easy for Freire and Bilinkis. They had to take into account several considerations before deciding on the amount of debt that they were to raise in commercial paper program. In my opinion they should raise the debt according to their primary needs and the amount that will cover their foremost problems. They should be aware of the fact that debt may serve their purpose in short term but they have to pay back with interest in long term. As it can be seen in balance sheet of the company that debts grew at rapid rate and it was US$ 3654.4 in year 1999 so they have to take control of the situation and should put a stop on the amount of debt they are liable to pay off in future. To solve the problems that may arise by taking too much debt can be minimized and eliminated by the increase of total equity. Company should raise the amount of total equity in forthcoming two years to keep a balance between debts and equity. Investing more and more equity will solve the issues regarding amount payable by company to bank or other external sources. As it can be observed from balance sheet of Officenet that total equity amounted to be US$ 5337 at the end of the year 1999 and company speculated in its forecasted balance sheet that the amount in total equity will increase to US$6033.5 in year 2000, US$7568.1 in year 2001, US$9724.0 in year 2002 and US$12766.0 in year 2003 respectively. I would recommend Officenet to increase total equity to US$30,000.0 so that there is more working capital in the business which will eventually solve many problems including the debt issue which company is facing.
