For feasibility analysis regarding EEC company purchase of one of its largest components parts suppliers, a lot of information is required before making a decision on this investment opportunity. This includes evaluation of cash flow, assets, liabilities, income statements, and the ownership structure of the company. (English et al., 2011). Cash flow evaluation is critical in the decision-making process because it shows the cash inflows and outflows of a company at any given time. It is an indicator of the liquidity of a firm. When the balance is positive, it portrays that the there was more income than expenses while a negative balance means that disbursements were more for the period under evaluation.
Assets refer to valuable resources that a company owns. They are reported in the balance sheet of a company and gives a snapshot of how good the company is with managing resources. The two types of assets include current and fixed assets. In the course of business operations, companies accrue debts and are referred to as liabilities. They are a crucial aspect of business since they are used in paying for large expansions or even financing business operations. The two categories include current and long-term liabilities. Besides the statement of cash flows and balance sheet, the income statement is the other important financial statements that a company uses to report its financial performance. Income statement mainly focuses on the revenues and expenses that a company has within a specified accounting period. Lastly, the ownership structure of the company should also be considered when making this decision. It can either be a sole trader, limited company or business partnership.
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The process of decision-making entails three broad stages that include planning, screening and financial evaluation (Jones, 2014). Planning begins with reviewing corporate objectives as well as the strategies regarding product-market. The company that is acquiring should have its potential growth and diversification directions well defined and this is best done with the help of PESTEL analysis. It is during this stage that the criteria for acquisition is set. The fundamentals of acquisition are often composed of growth parameters within the specific industry. These may include regulation degree, the intensity of capital versus labor, ease of entry as well as the market growth projections.
Screening entails identifying candidates offering greatest money-creating potential for the acquiring company. The screening process involves various steps including taking a hard look at the financials of the company to be acquired. Investigating the possible legal liability then follows, so that the acquiring company is not held liable for past actions of the firm. The culture of the targeted company is also explored so that any core culture challenges are pinpointed. Additionally, Cross-Jurisdictional issues are also put into consideration especially when a company to be purchased is based overseas. This is because the laws and regulations governing the two firms may be varying considerably. Therefore, focusing on the differences early will prevent potential integration problems after the deal is sealed. From there, due diligence is carried out on areas considered to be potentially problematic. Finally, vetting takes place so that all information is verified.
The last stage of the decision-making process is the financial evaluation process is eventually carried out to allow management in answering a couple of questions. These include what the maximum price for the targeted company should be and principal risk areas. Additionally, the information informs on the balance sheet, earnings, cash flow, and their implications after the acquisition. Eventually, the management is able to decide what way is best to finance the acquisition (Goel, 2015).
Relevant costs refer to all costs that should be utilized when it comes to decision making. According to CIMA, future costs are appropriate costs that aid how a specific management decision is made. All future costs are relevant in decision making. This is because for a cost to affect a decision, it cost must be future since past costs are not relevant and cannot be affected by current decisions. Other costs that affect decisions include cash flow, sunk, incremental, common and committed costs. Capital budgeting with regard to mergers and acquisition falls in two broad categories which include screening and preference decisions. When a decision is taken to requirements like in the case of cost/benefit analysis, it is referred to as a screening decision. These decisions are considered related if a proposed project will pass a present hurdle. Preference decisions, on the other hand, relate to selecting a course of action that best meets the goals and objectives of the company amongst several alternatives. However, all the alternatives must have met the selection criteria (Schneider et al., 2013).
EEC should use screening decision because it will allow the company to learn the potential new personnel in great detail. Screening decisions will help EEC carry out a thorough investigation of its targeted supplier from the culture, legal position, financials, and even cross-jurisdictional issues. Further, using screening decisions will greatly assist EEC in mitigating risks since it will have employed investigative methodologies that are highly effective to verify the accuracy of critical credentials and data. In fact, to ensure the process is successful, ECC should consider engaging an investigative firm to have the information verified before acquiring their targeted largest component parts supplier.
References
Baker, H. K., & English, P. (2011). Capital budgeting valuation: Financial analysis for today's investment projects (1. Aufl. ed.). US: Wiley.
Goel, S. (2015). Capital budgeting (1st ed.). US: Business Expert Press.
Jones, R. C. (2014). Making better (investment) decisions. The Journal of Portfolio Management, 40(2), 128-143. doi:10.3905/jpm.2014.40.2.128
Johnson, N. B., Pfeiffer, T., & Schneider, G. (2013). Multistage capital budgeting for shared investments. Management Science, 59(5), 1213-1228. doi:10.1287/mnsc.1120.1598
