John M. Case Analysis

Overview

History/Growth

This case concerns the John M. Case Company, which at one time was the leading producer of business calendars in the United States. The company was founded by the grandfather of John M. Case in 1920 and was inherited in 1951. The company had experienced profitable operations every year since 1932, and held approximately a 60-65% market share by 1984. Sales had been increasing annually at about a 7% compound rate, and the return on average invested capital was about 20%.

The cost structure of the company was 100% equity, owned solely by Mr. Case. The capital budget was the leftover earnings generated from internal operations minus the amount Mr. Case wished to withdrawal as income (dividends) for the year. Also, the seasonal accumulation of inventories and receivables were financed internally (although they did hold lines of credit worth $2 million at major banks).

Strengths/Weaknesses

Strengths of the company were its market share and production process, which created great economies of scale and allow extremely efficient and low cost production. Even though it was subject to a business with highly seasonal sales, concentrating the sales in the middle six months of the year and giving moderate discounts (for early delivery) could help get around most of the risks.

Even though the company focused on high-quality customer service and a high-quality product, there were believed advantages from a marketing viewpoint. Since the product is essential, low-cost, and virtually impervious to malfunction, they had a 95% reorder rate, with only 5% of sales going to new customers. Of those reorderers 98% also ordered other Case products as needed.

Business Calendar Market

The entire commercial desk calendar industry was mainly divided between Case and a company called Watts Corporation, who held a 20-25% market share of the $25-30 million dollar industry. Gaining market share from Watts was not a feasible option due to the drop in margins it would cause. It was thought that companies would need a $2-4 million minimum capital investment plus the working capital to support seasonal fluctuation, and take 3-5 years to even reach break-even. Since the only reasonable basis to compete in this market is price, and Case held economies of scale largely reducing its costs and expenses, it was inconceivable that new entrants were a significant business threat.

Unexploited Opportunities

There was a significant investment opportunity that the top level executives had proposed that Mr. Case rejected due to his satisfaction with his current income and also lack of desire to enter what could possibly be a riskier product market in order to create a more competitive but less profitable business. The project was projected to cost $1.1 million, with $900,000 spread between the first two years. The expected yield in the first year was $1 million, with a 40% growth rate in years 2-4 and a 12% growth rate thereafter. It was projected to have a before-tax profit margin of 6%. With Mr. Case out of the picture it will be possible to pursue this opportunity and increase growth rates through reinvestment of earnings in related businesses instead of disbursement of dividends. This could mean bigger profits for management if the faster growth rate allowed them to take the company public at a high price-earnings ratio.

Analysis

The outlook for the company is strong; it holds a majority of the market share for the entire country as well as the economies of scale to keep it. There is room for growth due to the fact that Mr. Case has been pulling personal income in the form of dividends out of the earnings. This can be reinvested into the company to open up opportunities for more low-cost and higher-margin products and services.

Analysis of Key Issues

Can the purchase price be met and still turn a profit reasonable for risk?

Based on the future cash flow forecast, a discounted cash flow valuation of the company can be performed and compared to the asking price. Provided with the debt/total capital ratios, total capital as well as equity can be figured. All numbers are represented in Figure 1. Knowing these numbers provides easy plug-ins for the WACC calculation, for example year in year one the debt ratio is 89%, so the equity ratio must be 11%. We are also told the venture capital firm will expect