Gainesboro Machine Tools Corporation Case Solution

1. Fact Pattern

• The Gainesboro stock had fallen 18%, reaching the price of $22.15 following Hurricane Katrina, which had caused the stock market to collapse. 

• The company was faced with a problem of whether to pay dividends or buy back stocks as a move to boost shareholder’s confidence.

• Both the restructuring programs that were implemented in the company resulted in losses.

• Several initiatives were taken to improve the perception of the investors regarding the community, which included decisions on the dividend payout policy and even redefining the company name to communicate a strong brand impression.

• The company continually updated itself with innovative technological trends by employing CAD and CAM technology into its operations.

• Most of the competition in the industry comprised of small players with limited clientele base, causing Gainesboro to stand out and establish itself as the industry leader due to the large scale of operations.

• In recent years, however, there has been increased competition from foreign players. This, together with the rise in the dollar, reduced the overall sales revenue for the company.

• As part of its restructuring strategy, the company sold its unprofitable business line and redirected its strategy towards improving the marketing and sales approach and cutting administrative expenses.

• High investment in Research and Development allowed the company to come up with new software- Artificial Workforce- that was believed to redefine the industry in terms of manufacturing of the parts for various industries

• The introduction of Artificial Workforce Series is expected to increase the revenue substantially which would further increase through its international operations

• The new strategy concerned with making investments in international arenas through the opening of sales offices, which would allow the revenue and profits to increase on an exponential basis and also engaging in joint ventures and acquisitions to increase the product portfolio

• The focus of the company was to have a lower level of debt in the total capital structure due to high associated risk despite the fact that debt financing was cheaper than that done through the equity

• The company was faced with selecting three dividend choices – zero dividend payout, 40% dividend payout, and residual dividend payout

2. Diagnostics

As highlighted above, the Gainesboro Machine Tools Corporation was facing immense competition from other CAD/CAM software firms and was in the midst of restructuring changes that negatively impacted the firm's financial position during the last few years. The following table shows a summary of the vital financial ratios of the company in the last 2 years and its projections for the year 2005:

The current ratio and profitability ratios follow a similar trend where they decreased in 2004 and then slightly recover according to the predicted values of 2005. The cash ratio has consistently recovered in 2004 as the company sold part of its operations and laid off many of its employees. The positive effects of the new software and restructuring can be seen in 2005's ratios as the profit margin, basic earning power, and return on assets move from the negative to positive territory. Despite the company paying a handsome dividend of 40% of its earnings, it is still left with a decent profit of approximately $5,569,200.

Even though the recent investment in CAD/CAM software could justify a zero-dividend policy, most stockholders would be disappointed by the move and might consider selling shares temporarily, which would further reduce the stock price of the company, which is already falling steadily. Since 2003 despite facing losses, the company has given some dividends to its investors, which has kept their faith in the company and its stock. In the first 2 quarters, no dividend was given, and this has already brought concern among the stockholders.