Liquidity refers to the speed and ease with which an
asset can be converted to cash (Stephen A. Ross, et al., 1991). It involves
planning and controlling current assets and current liabilities in order to
eliminate the risk of unable to meet the short term obligations and also can
avoid the unnecessary investment in the company assets. When the business is
more liquid, it means that the company is reducing risk to the financial
distress, which is unable to pay their debts and not enough capital to buy the
necessity of the business. Therefore, liquidity is very important to a company.
However, liquid assets are generally less profitable to hold (Stephen A. Ross, et al., 1991). This is because we
can’t get any return from the liquid asset. For example, we can’t get any
return from the cash of the company.

The terms profit and profitability are different.
Profit is an absolute term whereas the term profitability is a concept .Profits
is the excess revenue that we get after deducted all the expenses. According to
Lord Keynes, profit is the engine that drives the business enterprise. Profit
is very important to a business because it is related to the growth of the
company. In order to maximize the firm’s value, the very first thing is to get
sufficient profit. Profitability means the ability of the company to get profit
from all the business activities. Therefore, profitability is an important
yardstick for measuring the efficiency of the company. This is because when the
company has greater efficiency, the company will generate more profit.

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Kuantan Flour Mills berhad has experienced eight years
of profit loss which mean the company has loss profit since 2009. From the
annual report, the chairman’s statement stated that the loss profit incurred
are mainly due to impairment loss on property, plant and equipment, impairment
loss on investment. Other than that, the company has a very low revenue in 2016
because the company has decided to cease the operation due to the cash flow
situation and also the prolonged loss position.

 

Working
Capital Management

Working capital management involves current assets and
current liabilities. It can be defined as the working expenses that get blocked
in current assets along the productive line of an enterprise (Titto Varghese, 2014). It also represent
how well the company manage the account receivable and payable, cash and
inventories. Current assets is the asset which relatively liquid and those
asset can convert into cash within one year. Whereas current liabilities is the
short term obligation that the company need to pay back over the next 12
months. From working capital management, we can understand the relationship
between short term assets and short term liabilities of the company. It helps
us to make sure that the company able to operate its business and able to
satisfy the short term debt and the operating expenses.

From the point of view as an investor, working capital
represents a safety cushion for providers of short-term funds of the company
and as such they view positively the availability of excessive levels of
working capital and cash (M.A.Eljelly,
2004).
However, when the working capital keep increasing, it might shows that the
company has face some financial issues. This is because the assets that owned
by the company does not contribute to ROE  (M.A.Eljelly,
2004).
Moreover, it also represents that the company do not utilize the assets and
liabilities to generate more profit to the company.

 

Working
Capital Management versus Liquidity and Profitability Issue

As we can see the working capital of Kuantan Flour Mills
berhad, its working capital is keep increasing from 2014 which is around RM1.5
million to RM2 million in 2016 and profit is declined drastically for
consecutive 8 years. It proves that even the company has enough of working
capital but if they do not utilize it, it could be a risk to lead the company
experience a loss profit and even worse condition. The working capital
management play an important role in the successful of a company. When the
working capital management is no in an ideal level, the company would face high
risk to bankruptcy. Therefore, the company should have a proper balance between
the current assets and current liabilities in order to let the company operate
their business well and also maintain their image among the industry as they
have an ideal profit.

 

Merger
and Acquisition Issue

Merger and Acquisition activities involve a variety of
complexities and risks. It not only involves the target company but also
involve the stakeholder of both company. There are many reasons that company
decided to merger and acquisition. For example, the company wants to expand
their business so they merge with others company to conquer the industry. Some
of the company which face the financial distress, they decided to get help from
others to achieve the company growths. Therefore, it is very important that the
corporate executives understand the motives of merger and acquisition and the
consequences after merger and acquisition.

Kuantan Flour Mills berhad are facing merger and
acquisition issue. This is because the company has experienced 8 years of
profit loss and the corporate executives decided to restructure the company so
that the financial performance will be improved. Felcra berhad is looking to
buy a stake in Kuantan Flour Mills berhad which under a reverse takeover. This
news has been spread through to all of the investors. It leads to the share
price of the company goes up dramatically from four cents to eight cents and
the share price goes up until twenty four cents. However, Felcra berhad has
retracted interest to Kuantan Flour Mills berhad without any official reply
from Felcra. After the retraction of interest of Felcra berhad, Lotus Essential
Sdn. Bhd. has become the white knight of Kuantan Flour Mills berhad. This is
because shareholder of Lotus Essential Sdn Bhd has become the placement
investor of Kuantan Flour Mills. Kuantan Flour Mills signed a memorandum of
understanding with Lotus Essential Sdn Bhd which related with the manufacturing
and provision of flour milling activities.

 

Corporate
Restructuring Theory

According to Edward and Harbir, restructuring can
encompass a broad range of transactions including selling lines of business or
making significant acquisitions, changing capital structure through infusion of
high levels of debt and changing the internal organization of the firm. As we
know most of the time the company decided to get mergers and acquisition
because they want to expand their business. However, corporate restructuring is
usually used in reference to ways that companies get smaller by selling
splitting off or shedding operating assets (Clayman, et al., 2012). Divestiture
occurred when the company decided to sell, liquidate or spin off its subsidiary
(Clayman, et al., 2012). Corporate
restructure causes radical changes in company business operation and also the
financial structure.  

When the company use financial restructuring strategy,
it means that they will makes changes on the capital structure. It actually
will increase the firm value by taking cash out of manager’s hands and
returning it to shareholders (Bethel & Liebeskind, 1993). According to
Jensen, financial restructuring not only reduce the ability of manager to over
expand and over diversify the firm but also force the manager to increase their
operating efficiency and also sell off all the unprofitable business. As we
know, the excessive cash is not good for the company. Therefore, when the
company sell off the unprofitable business and get the excess amount of cash,
the manager can use the cash to pay dividends and also issue more new debt to
the company so that the company has more funds to generate the company profit.

Another restructuring is portfolio restructuring,
which involves changes in the size and the mix of business of diversified
firms. It allows the company to focus the core business and raise more fund
needed from the business. According to Bowman and Singh, most of the large
firms in United States restructured their portfolio in some way because they
want to reduce the unrelated diversification and focus on their firm’s business
portfolios around core capabilities (Bethel & Liebeskind, 1993). When the
diversification is reversed, it actually will increase the company value. This
is because when the company down size within the line of business, it actually
cut down the unnecessary cost for example the company is cut back the labor
cost and also the operating cost of the diversified business.

 

Merger
and Acquisition Issue versus Corporate Restructuring Theory

Kuantan Flour Mills berhad is facing merger and
acquisition problem therefore they want to restructure their company since the
company experienced a very long period of profit loss. It really takes time to
propose a restructuring plan. Kuantan Flour Mills berhad use a lot of time to
prepare the restructuring plan because it has a lot of issues that need to
discuss and have a mutual agreement with both company. As we know Lotus
Essential Sdn Bhd become the placement investor of Kuantan Flour Mills berhad.
In this matter, Lotus Essential Sdn Bhd cannot make the decision by itself but
it needs to go through all the shareholder of the company so do the Kuantan
Flour Mills berhad. From the theory, we know that restructuring is related with
the financial restructuring. It this case, it has been proved the theory. When
the Lotus Essential Sdn Bhd become one of the owner of Kuantan Flour Mills
berhad, the financial structure and operating structure has been changed. It
started to get equity fund raising exercise with a right issue and special
issue of its share and also collaborate with Lotus to carry the business
operation. From this case, we understand that corporate restructuring is not
only downsize or sell off the company but also give a chance to the company to
survive by changing the financial structure and also the operating structure of
the company in order to get more profit and also increase the value of the
company.

 

Leverage
Issue

Leverage is the use of fixed costs in a company’s cost
structure (Clayman, et al., 2012). The fixed operating
costs create operating leverage while the fixed financial costs create
financial leverage. It also can be defined as the mixed between the fixed cost
as variable cost. It is very important because it will help a company to drive
up the profit and also maximize the firm value. Other than that, it also very
helpful in forecasting the cash flow. However, leverage will increase the
volatility of the company’s earnings and the cash flow at the same time it will
increase the risk of the company, which include credit risk, business risk and
so on. There are two types of leverage which are operating leverage and
financial leverage. We can measure the degree of operating leverage by using
the percentage change of operating profit divided by the percentage change in
unit sold. The financial leverage is related with the financial cost. According
to Brigham and Ehrhardt (2008), financial leverage is the portion of a firm’s
assets financed with debt instead of equity. From the article, we also know that
the use of debt or financial leverage concentrates the firm’s business risk on
its stockholders because the debt holders who received fixed interest payments,
bear none of the business risk (Cekrezi, 2013).

Kuantan Flour Mills berhad has an issue which related
with imbalance of debt and equity. From the financial statement, we know that
there are too much of current liability to the company and the total equity
declined drastically until have a negative value of total equity. Due to the
company facing the negative value of equity, the company have to use debt to
operate the business. In this condition, the company almost facing bankruptcy
because it has too much of debt and unable to repay it. The negative value of
total equity is due to the poor financial performance and also the resignation
of director.

 

Trade-off
Theory

In this imperfect market, companies try to get the
best, the optimal and value-maximizing debt to equity ratio by traded off the
advantages of debt to the disadvantages of debt. It is normal to a firm to set
a target debt-to equity ratio so that they have a motivation to move forwards
and achieve the target.

According to Anila Cekrezi, the trade-off theory is a
development of Modigliani and Miller theorem but taking consideration the
effects of taxes and bankruptcy costs (Cekrezi, 2013). As we know, there are two components
to form a capital structure which are debt and equity. This theory is focus on
the advantages of debt which in an optimal level to maximize the value of the
firm. In other words, this theory stated that companies have an incentive to
turn to debt as the generation of annual profits allows benefiting from the
debt tax shields (Serrasquiero & Ana, 2012). The most important
goal of this theory is the company choose the suitable funding method which
fund by using combination of debt and equity without depends on single source.
Based on the theory, there is an advantage when the company choose the debt
financing because of the tax shield. However, it is the cost which the company
have to pay is the interest payment. According to Brealey and Myers, financial
managers often think of the firm’s debt-equity decision as a trade-off between
interest tax shield and the costs of financial distress (Cekrezi, 2013). In other words, when the company
unable to repay the obligation, it would be the cost of financial distress and
it could be a possibility of bankruptcy to the company.

Therefore, the companies which are stable on handling
debt, have tangible assets and plenty of taxable income should use the debt
financing to shield out the tax and get a high target debt ratio. On the other
hand, the companies which have less profit or have a loss profit, they should
rely on the equity financing so that they can minimize the possibility of
bankruptcy which due to unable to pay back the debt.

 

Leverage
Issue versus Trade-off Theory

Kuantan Flour Mills berhad is listed in pn17 since
2015. This is due to the shareholders’ equity of the company is less than 25%
or less of the paid-up capital. Apparently, the company has facing leverage
issue which having the high debt and negative value of equity. From the theory,
we know that the company should use the optimal capital structure so that the
company can maximize the value of the company. However, Kuantan Flour Mills
berhad seems like imbalance in the capital structure. As we know, it has facing
the eight years of loss profit. We can said that the company is unprofitable.
Based on the theory, the firm which is unprofitable should use the equity
financing to operate their business so that it can minimize the risk of
bankruptcy. To overcome and minimize the possibility of bankruptcy, the firm
should balance up the capital structure. The company should lower down the debt
level so that the company no need to pay more interest of the debt. On the
other hand, they need to raise fund from the shareholders so that it can
balance up the capital structure at the same time it also can increase the firm
value. Therefore, in order to maximize the value and minimize the risk of
Kuantan Flour Mills berhad, the company should get an optimal capital structure
so that they have a target to move towards until they get the desired debt to
equity ratio.

 

 

 

 

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