For
Professor E. Wong
FINA 402
Short Term Financial Management
Due
Thursday, April 11th, 2019
To:
Mr. Seth Goldman & Mr. Barry Nalebuff
123 Road Street, Bethesda, Maryland
United States
A1B 2C3
From:
Mrs. Corso, Mr. Piccirilli, Mr. Groulx & Mr. Couillard.
Short-Term Financial Management consultants from
John Molson School of Business
1450 Guy St, Montreal
H3H 0A1
Quebec, Canada
Date:
11/04/19
2. What structure and amount of financing would be necessary to fund Honest Tea’s rapid growth
Conclusions from the analysis suggest the following recommendations should be adopted
for Honest Tea to fund its growth expansion and sustain market leadership:
Recommendation 1: Raise Equity from Current Existing Angel Investors & Investor’s Circle
Recommendation 2: Raise a Minimum of Two million through common equity issue (1 Million with
existing, 1 Million with IC)
QUALITATIVE ANALYSIS
Intro
Company Mission
Company’s Short Term Goal
Current Financial Position
Capital Requirement
Current Investors & Current Structure of Financing
Potential Investors
Potential Structure of Financing
QUANTITATIVE ANALYSIS
Ratio analysis
Cash Flow Statement and Forecast Analysis
Current Valuation of the Company
Investment and Investor Decision Recommendation
ACTION PLAN
QUALITATIVE ANALYSIS
Intro
Honest Tea has been operating for 3 years and it has created a market for slightly sweetened, all-
natural, bottled iced tea. It has demonstrated high growth in all years however, as a fairly new
company, it still operates losses. Management needs to find the ideal investors and the proper
amount of financing that would help the company fund its growth and reach profitability. To do
so, we first need to establish the management’s short term objectives, the necessary amount of
financing required to reach those objectives, determine which investor type would best suit the
company and suggest a sustainable growth strategy.
Capital Requirement
According to our cash flow analysis projections for 2001 and 2002, and taking into account all
management’s short term objectives reflected in the income statement projections, we have
computed a minimum capital requirement of 2.04 Million, which we have rounded off to 2 Million.
This capital would be used to cover for a predicted net loss of $861,500 in 2001 that includes a
total operating cash outflow for the period of 2.04 Million. The operating cash outflow reflects the
following expenditures:
1. Increased Marketing and Promotional Expenses
2. Increased wages and salaries
3. Coolers Bought
4. Increased R&D
5. Slotting fees paid to new retailers
In 2002, it is expected that Honest Tea will be cash flow positive as well as Net Income Positive
(1,105,100 $). It should be a pivoting year for the company as operating cash flows will be positive
(around $40,000) which means Honest Tea will be able to sustain its operations without additional
paid-in capital.
Potential Investors
In order to assess the issue of finding the ideal investors that would support Honest Tea’s business
strategy, mission, and round of funding of about $2 million, here is a list of the different type of
investor the organization should look for:
Cons:
1. Funding will mostly be topped at $500 000 but it could be possible to convince them to
invest more if shares are increased.
2. Dealing with the IC group can be complex as per past experience in the case where several
investors require various terms according to each investor’s needs. However, management
has experience in dealing with large groups of investors.
Venture Capitalists
Pros:
1. Significant investment amount ($5 million)
2. Great financial advising to bring on the board of directors of the company
3. Would enhance the company’s reputation and credibility
4. Strategies of rapid expansion
Cons:
1. A significant portion of the company’s control would have to be given
2. Business strategies might not align with the founders' convictions and Honest Tea core
values
3. Current equity owners and founders will have to give up significant ownership and future
profits
4. If a VC is appointed to the board, conflicts of interest could arise and compromise would
be necessary.
Strategic partnership
Pros:
1. Opportunities that enhance both businesses growth
2. Improvement of product quality, operations efficiency and customer base
3. Access to financial support
4. Leverage of distribution channels
Cons:
1. Risk of non-alignment of the core values and conviction of Honest Tea with the other
organization
2. A strategic partnership might be complex to arrange and achieve the stated terms such as
assuring a sustainable growth and profitability. The partnership must be clear and well-
stated as for the profit sharing
3. Partnerships usually require that a large portion of the shares be given to the partner.
IPO
Pros:
1. Would provide opportunities to merge or acquire other beverage brands
2. Would provide liquidity to investors
3. Would raise capital for future expansion
Cons:
1. Honest Tea is not large enough to currently go public.
2. A less traditional form of financing in the beverage industry
3. Would make the company leave the private sector and become a public business which
increases the amount of bureaucracy.
4. The current ROE-ROA are negative, which could discourage investors from seeing the
firm as a possible investment opportunity.
5. Currently, IPOs are extremely expensive and Honest Tea does not have the cash necessary
to pay for their IPO
Convertible notes/debt
Pros:
1. Less risk of default since the company does not need to pay back the loan.
2. The company can reinvest more money in its business.
Cons:
1. The company might not want to exchange a controlling interest in their company for a loan.
2. It can dilute the value of each share depending on the number of shares the investor is
promised.
QUANTITATIVE ANALYSIS
Ratio analysis
Profitability Ratios
If we look at the profitability ratios, the ROA and ROE are meaningless since EBIT and
net income are both negative throughout the three years. However, the gross margin has been
positive and has been increasing from 1998 (0.18) to 2000 (0.37), and is projected to keep on
growing according to the forecast until 2002. A similar growing trend can be observed for the
operating margin and the net margin. In 2002, both ratios are expected to turn positive at 0.067
and 0.07 for operating and net margin respectively. Therefore, it is significant to notice that
currently, Honest Tea is not in optimal profitability position, but according to the forecast, the
company should reach profitable activities in the upcoming years.
Warrants
To raise the equity, Honest tea is offering a package of a share with 2 half-warrants. The way this
package is created will be advantageous to both Honest Tea and its new shareholders. The
packages will give $37,000 each to raise the $2 million needed. On top of that, it is an attractive
package to shareholders because they have the option to exercise the warrants and obtain more
equity of the company if the warrants expire In-the-Money. This is also advantageous to Honest
Tea because the option makes the share more attractive to potential investors but they will also
receive extra liquidity since half the warrants will have a $50k exercise price and the other a
$75k price. Of course, an ITM option creates a loss for the underwriter of the option but the
trade-off here is that it will provide much-needed liquidity for the firm.
PLAN OF ACTION
1. A meeting should be scheduled with existing angel investors to accept the committed
capital of 1 Million at a pre-money valuation of $13.113 million Valuation.
2. A proposal should be typed addressed to Investor’s Circle making them aware of
management’s interest in having them as a part of their shareholders.
3. After Investor’s Circle has had the time to analyze Honest Tea’s proposal and financials (1
Month) a meeting should be scheduled to negotiate the following terms:
a. 1 Million in exchange for 10% of Honest Tea in common equity.
b. If they decline, Honest Tea could make a counteroffer for 1 Million in exchange of
15%, but not more.
4. After the 2 Million in committed capital is secured, the company may begin to approach
large retailers and commence national marketing efforts to be able to optimize production
at Three Rivers Production facility.
APPENDIX A
1.1
Balance Sheet Forecast
1.2
Cash Flow Statement Forecast
1.3
Sensitivity Analysis
1.4
Balance Sheet 2.0
1.5
Cash Flow Forecast 2.0
1.6
Ratio Forecast 2.0
APPENDIX B
1.1
Forecasted Ratios
APPENDIX C
Ratios
1998 1999 2000 ended June 30
Interest burden NM NM NM
ROA NM NM NM
ROE NM NM NM
ROA 0.06 NM
ROE 0.02 NM