Aurora.xls

Copyright (C) 2007, by the University of Virginia Darden School Foundation.

This spreadsheet supports STUDENT analysis of the case, "Aurora Textile Company" (UVA -F- 1536)

Consolidated Statement of Operations for the Fiscal YearsEnding December, 31 1999-2002

($ thousands)

1999 2000 2001Pounds shipped (000's) 187,673 190,473 151,893% growth 1% -20%

Average selling price / lb $ 1.31 $ 1.21 $ 1.20 % growth -8% 0%

Conversion Cost / lb $ 0.44 $ 0.44 $ 0.45 -1% 1%

Average Raw Material Cost / lb $ 0.71 $ 0.64 $ 0.65 -9% 1%

Net Sales $ 245,908 $ 229,787 $ 182,955 Raw Material Cost $ 132,812 $ 122,461 $ 98,536 Cost of Conversion $ 83,454 $ 84,212 $ 67,822 Gross Profit $ 29,641 $ 23,114 $ 16,597 SG&A Expenses $ 14,603 $ 14,218 $ 11,635 Depreciation & Amortization $ 15,241 $ 13,005 $ 11,196 Operating Profit $ (203) $ (4,109) $ (6,234)Interest Expense $ 6,777 $ 6,773 $ 5,130 Other Income (Expense) $ 1,143 $ (1,232)Asset Impairments* $ 4,758 Earnings Before Income Tax Provision $ (6,980) $ (9,739) $ (17,354)Income Tax Provision (Benefit) @ 36% tax rate $ (2,513) $ (3,506) $ (6,247)Net Earnings $ (4,467) $ (6,233) $ (11,106)

* Costs associated with the shut down of plants1999 2000 2001

Gross Profit Margin 12% 10% 9%

Consolidated Statement of Operations for the Fiscal Years

2002144,116

-5%

$ 1.02 -15%

$ 0.43 -4%

$ 0.45 -30%

$ 147,503 $ 64,982 $ 61,912 $ 20,609 $ 10,305 $ 9,859 $ 445 $ 3,440 $ (409) $ 7,564 $ (10,968) $ (3,949) $ (7,020)

2002 AVG14% 11%

Consolidated Balance Sheets for the Fiscal YearsEnding December, 31 1999-2002

($ thousands)

1999 2000 2001 2002AssetsCash and cash equivalents $1,144 $5,508 $2,192 $1,973 Accounts receivable, net 17,322 11,663 20,390 26,068 Inventories 34,778 33,155 31,313 33,278 Other current assets 2,774 1,922 712 2,378 Total Current Assets $56,018 $52,247 $54,608 $63,697

Property and Equipment Land 2,654 2,594 2,516 2,505 Buildings 32,729 31,859 30,308 30,427 Machinery and equipment 230,759 220,615 197,889 190,410 Gross PP&E 266,142 255,068 230,713 223,342 Less accumulated depreciation (147,891) (147,104) (146,302) (154,658)Net PP&E 118,250 107,964 84,411 68,684 Goodwill 1,180 1,180 1,180 1,180 Other non-current assets 3,516 3,499 2,824 2,430 Total Assets $178,965 $164,890 $143,023 $135,991

LiabilitiesAccounts payable 12,236 7,693 9,667 10,835 Accrued compensation and benefits 4,148 3,712 4,176 4,730 Accrued interest 1,830 1,090 961 929 Other accrued expenses 4,083 3,914 3,881 3,657 Current portion of long-term debt 1,009 1,730 0 0 Total Current Liabilities $23,306 $18,139 $18,685 $20,151Long-term debt 66,991 66,991 58,000 58,000 Other long-term liabilities 16,566 14,081 11,776 10,297 Total Liabilities $106,863 $99,211 $88,461 $88,448

Shareholder's equity

Common stock, par $0.01 50 50 50 50Capital surplus 15,868 15,678 15,668 15,668Retained earnings 56,184 49,951 38,845 31,825 Total Shareholders' Equity $72,102 $65,679 $54,563 $47,543Total Liabilities and Shareholders' Equity $178,965 $164,890 $143,023 $135,991

Plant Production Capability

Plant Technology Product Mix Count Range Capacity

Hunter Ring 100% Cotton 5/1 to 22/1 600,000Rome Rotor 100% Cotton 5/1 to 22/1 1,200,000Barton Rotor Heather and Poly/Cotton Blends 8/1 to 30/1 800,000Butler Rotor 100% Cotton 5/1 to 30/1 1,000,000

Cost of Customer Returns

CalculationPrice of Yarn Sold $5.0

Reimbursement cost $25.0 Liability multiplier 5.0 (25/5)

Returns as % of Volume 1.50%Returns as % of Revenue 7.50% (5 x 1.5%)

Returns as cost/lb $0.077 (7.5% x $1.0235/lb)

Zinser CalculationPrice of Yarn Sold $10.0

Reimbursement cost $75.0 Liability multiplier 7.5 (75/10)

Returns as % of Volume 1.00%Returns as % of Revenue 7.50% (7.5 x 1.0%)

Returns as cost/lb $0.084 (7.5% x $1.0235/lb x 110%)

Existing machine

Monthly Spot Price $ (contract size 50,000lbs)2 / 97 74.053 / 97 73.275 / 97 70.016 / 97 73.587 / 97 71.819 / 97 72.05

10 / 97 68.7512 / 97 67.41

2 / 98 63.903 / 98 65.644 / 98 63.675 / 98 63.006 / 98 81.607 / 98 81.939 / 98 71.52

10 / 98 72.3211 / 98 61.0012 / 98 60.74

2 / 99 63.393 / 99 64.794 / 99 59.425 / 99 58.726 / 99 49.907 / 99 48.209 / 99 51.18

10 / 99 49.4411 / 99 49.8012 / 99 48.53

2 / 00 57.193 / 00 59.314 / 00 56.305 / 00 56.646 / 00 51.607 / 00 50.459 / 00 62.45

10 / 00 63.6011 / 00 64.7212 / 00 64.32

1 / 01 59.302 / 01 52.383 / 01 53.544 / 01 43.835 / 01 44.336 / 01 42.657 / 01 40.619 / 01 34.00

10 / 01 32.1911 / 01 36.2312 / 01 34.94

Aurora Textile CompanyCotton Spot Prices, 1997-2002

2 / 02 34.653 / 02 34.534 / 02 33.805 / 02 32.046 / 02 43.777 / 02 45.238 / 02 45.109 / 02 42.30

10 / 02 41.7911 / 02 47.5012 / 02 45.98

Aurora Textile CompanyCotton Spot Prices, 1997-2002

Aurora Textile CompanyCotton Spot Prices, 1997-2002

Interest Rate Yields: January 2003

U.S. Government (% yield)

Treasury bill (1-year) 1.24%Treasury note (10-year) 3.98%Treasury bond (30-year) 4.83%

Industrials (% yield)

4.25%AAA (10-year) 4.60%AA (10-year) 4.66%A (10-year) 4.87%BBB (10-year) 5.60%BB (10-year) 6.90%

Prime rate1

1The prime rate was the short-term interest rate charged by large U.S. banks for corporate clients with strong credit ratings.

DELIVERABLES- Estimate the WACC of the 7E7 project(Does not apply to our case)

- Make a PowerPoint of our resents for presentation

INTROJanuary 2003, CFO Michael Pogonowski deciding wheather company should install new ring-spinning machine, the Zinser 351, in the Hunter production facility.Produces finer-quality yarn for higher-quality and higher-margin products. Would command 10% increase in selling price of yarn (in niche market).

Current price = $1.0235/poundImplied new price = $1.12585/pound

Increased efficiency and reliability (lower power and maintenance costs) Sales volume would be 5% lower, however; = 0.95*(Current volume).Cost of customer returns higher.Cost of installing = $8.25mm.

Textile industry undergoing difficulties; Aurora however, competing in a few select markets that were likely to survive (at lower margins).Zinser price increasing 5% per year.

THE COMPANYYarn manufacturer established in early 1900s to service both domestic and international textile industry.Products: Cotton and synthetic/cotton blend yarns sold to a variety of apparel and industrial goods manufacturers that sold their products mainly in the U.S. retail markets.

Four major segments serviced by Aurora:Hosiery (yarn for athletic and dress socks) (competitive advantage; hgihly automated in U.S. and very costly to transport making it less attractive for foreign producers).Knitted outerwear (yarn for dress shirts) (used yarns that were easily produced by competitors, so constand price pressure limiting profits).Wovens (yarn for denim for jeans) (competitive advantage; little supply risk when manufactured in U.S., also since they were very coarse yearns, more cost efficient to produce in U.S.) (management believed excellent growth opportunity in this market).Industrial and specialty products (yarns for medical supplies, industrial adhesives, rubber- and vinyl-coated fabrics and protective clothing) (highest margins, thus attractive opportunity/segment for growth).

90% of company's revenue came from the domestic textile market.43% of revenue from hoisery market.35% of revenue from knitted-outerware market.13% of revenue from wovens.9% of revenue from industrial and specialty products.By Jan 2003, due to stead declines in sales, company only had 4 operating plants (after recently closing four): Hunter, Rome, Barton and Butler.

THE TEXTILE-MILL INDUSTRYDramatic changes in industry due to globalization, U.S. government trade policies, cheaper production costs overseas and customer preferences and fads.Moved from New England, to South, to Asia due to cheaper production costs.Apparel makers and yarn producers moved to Asia and finished products shipped back to U.S.Companies that remained in U.S., like Aurora, forced to cut costs and modernize their operations to remain competitive.Industry went from mass production to flexible manufacturing as textile mills aimed to supply customized markets.IT advancements allowed retailers to assess their merchandise needs rapidly and to communicate those needs through apparel manufacturersto textile firms.In 2002, 1.5% of Hunter's plant's sales volume had been returned by its retailers.Aurora's production engineers were confident that the Zinser would yield such high-quality yarn that the volume returned would drop to 1%.Analysts believed the U.S. textile industry would grow around 2% in real terms, with prices and costs increasing at a 1% inflation rate for the foreseeable future.

PRODUCTION TECHNOLOGY

FINANCIAL CLIMATEAurora having trouble maintaining sufficient working capital.150 textile plants closed in U.S. since 1999; loss of 200,000 industry jobs. Aurora closed four plants/operations, evaluating performance of remaining four.Aurora cut SG&A costs by $3.9mm since 2000, but financial environment continuing to pose challenges.

- Identify major issues existed in the case and provide a solution to each issue- Estimate cash flows (year 0–10) of the Zinser 351 machine

THE ZINSER 351Would replace older machine in Hunter.Existing machine installed in 1997, book value of $2mm.

Could be sold for $500,000 for use in Mexico.Would have no market value by the time it was fully depreciated in four years.With proper maintenance, could continue to operate for 10 more years at which point the plant was expected to have grown from a production level of 500,000 pounds/week to its capacity of 600,000 pounds/week.

To match the current production capacity of the Hunter plant would require the purchase of a (Zinser) machine with 35,000 spindles at a cost of $8.05mm + $200,000 installation cost = $8.25mm total.New spinning machine would be straight-line depreciated in 10 years; zero salvage value but expected to be sold for $100,000 in the open market.Already spent $15,000 on marketing research to gauge customer interest in yarn as well as $5000 on engineering tests to test suitability of Hunter location for machine (ventilation systems, etc…)In 2002, coversion cost (labor, dyes, power, overhead, etc…) $0.43/lb, which wouldn't change except for reduced power and maintenance costs.In Zinser used, one time $50,000 training cost during installation year. Power and maintenance savings of $0.03/lb. Cost of customer returns constituted $0.077/lb of the conversion costs for 2002. Cost of customer returns expected to rise to $0.084/lb for Zinser (calculation shown in Exhibit 5).SG&A expected to remain at 7% of revenues for both the existing machine and the Zinser.Zinser allows manufacturers to reduce their cotton inventories to 20 days from 30 days.

THE DECISIONAurora's current credit rating, BB.If customer returns remained at current level of 1.5%, it would compromise Aurora's ability to realize premium margins that attracted them in the first place. Over past 4 years, share price from $30 to $12 per share.Hurdle rate of 10% for this type of replacement decision.CFO Pogonowski felt that Zinser would return more than 10% over its expected 10 year life, but less confident that Aurora would remain in operation over that same time span.In 2005, quota's (on how much foreign goods can be shipped into U.S.) would no longer be allowed, thus increasing competition.

January 2003, CFO Michael Pogonowski deciding wheather company should install new ring-spinning machine, the Zinser 351, in the Hunter production facility.

Textile industry undergoing difficulties; Aurora however, competing in a few select markets that were likely to survive (at lower margins).

Products: Cotton and synthetic/cotton blend yarns sold to a variety of apparel and industrial goods manufacturers that sold their products mainly in the U.S. retail markets.

Hosiery (yarn for athletic and dress socks) (competitive advantage; hgihly automated in U.S. and very costly to transport making it less attractive for foreign producers).Knitted outerwear (yarn for dress shirts) (used yarns that were easily produced by competitors, so constand price pressure limiting profits).Wovens (yarn for denim for jeans) (competitive advantage; little supply risk when manufactured in U.S., also since they were very coarse yearns, more cost efficient to produce in U.S.) (management believed excellent growth opportunity in this market).Industrial and specialty products (yarns for medical supplies, industrial adhesives, rubber- and vinyl-coated fabrics and protective clothing) (highest margins, thus attractive opportunity/segment for growth).

By Jan 2003, due to stead declines in sales, company only had 4 operating plants (after recently closing four): Hunter, Rome, Barton and Butler.

Dramatic changes in industry due to globalization, U.S. government trade policies, cheaper production costs overseas and customer preferences and fads.

Companies that remained in U.S., like Aurora, forced to cut costs and modernize their operations to remain competitive.Industry went from mass production to flexible manufacturing as textile mills aimed to supply customized markets.IT advancements allowed retailers to assess their merchandise needs rapidly and to communicate those needs through apparel manufacturersto textile firms.

Aurora's production engineers were confident that the Zinser would yield such high-quality yarn that the volume returned would drop to 1%.Analysts believed the U.S. textile industry would grow around 2% in real terms, with prices and costs increasing at a 1% inflation rate for the foreseeable future.

With proper maintenance, could continue to operate for 10 more years at which point the plant was expected to have grown from a production level of 500,000 pounds/week to its capacity of 600,000 pounds/week.To match the current production capacity of the Hunter plant would require the purchase of a (Zinser) machine with 35,000 spindles at a cost of $8.05mm + $200,000 installation cost = $8.25mm total.New spinning machine would be straight-line depreciated in 10 years; zero salvage value but expected to be sold for $100,000 in the open market.Already spent $15,000 on marketing research to gauge customer interest in yarn as well as $5000 on engineering tests to test suitability of Hunter location for machine (ventilation systems, etc…)In 2002, coversion cost (labor, dyes, power, overhead, etc…) $0.43/lb, which wouldn't change except for reduced power and maintenance costs.In Zinser used, one time $50,000 training cost during installation year. Power and maintenance savings of $0.03/lb.

If customer returns remained at current level of 1.5%, it would compromise Aurora's ability to realize premium margins that attracted them in the first place.

CFO Pogonowski felt that Zinser would return more than 10% over its expected 10 year life, but less confident that Aurora would remain in operation over that same time span.In 2005, quota's (on how much foreign goods can be shipped into U.S.) would no longer be allowed, thus increasing competition.

Wovens (yarn for denim for jeans) (competitive advantage; little supply risk when manufactured in U.S., also since they were very coarse yearns, more cost efficient to produce in U.S.) (management believed excellent growth opportunity in this market).Industrial and specialty products (yarns for medical supplies, industrial adhesives, rubber- and vinyl-coated fabrics and protective clothing) (highest margins, thus attractive opportunity/segment for growth).

With proper maintenance, could continue to operate for 10 more years at which point the plant was expected to have grown from a production level of 500,000 pounds/week to its capacity of 600,000 pounds/week.

Cash flow of Zinser 351 machine

If Zinser machine is purchased:

Year2002 2003 2004

0 1 2

CostsPurchase of Zinser $ 8,050,000 Installation $ 200,000 Training cost for Zinser $ 50,000 Returns cost increase (1) $ 169,575 $ 174,629 Total costs $ 8,300,000 $ 169,575 $ 174,629 Total costs, net of tax (t = 36%) $ 8,282,000 $ 108,528 $ 111,763 PV of total cost (r = 10%) $ 8,282,000 $ 98,662 $ 92,366 Total PV of Costs $ 9,025,955

Year2002 2003 2004

0 1 2

BenefitsSale of old machine $ 500,000 Sale of ZinserPower and maintenance savings (2) $ 726,750 $ 741,000 Increase in gross profit (3) $ 279,903 $ 288,245 Increase in depreciation tax benefit (4) $ 126,000 $ 126,000 Total cash benefits $ 1,632,653 $ 1,155,245 Total cash benefits, net of tax (t = 36%) $ 1,090,258 $ 784,717 PV of benefits $ 991,144 $ 648,526 Total PV of Benefits $ 5,919,959

Net Present Value $ (3,105,996)

Zinser machine for Hunter PlantOver 10 years, expected production for old machine from 500,000 pounds/week to 600,000 pounds/week50 weeks of operation per year (52 weeks per year - 2 weeks worth of federal holidays)If Zinser is used, sales volume (by pound) expected to decrease by 5%

2002 2003 2004Pounds per week, old machine 500,000 510,000 520,000Pounds per year (50 weeks), old machine 25,000,000 25,500,000 26,000,000 Pounds per year, Zinser (5% decrease) 23,750,000 24,225,000 24,700,000

Sales price expected to increase at 1% inflation rate each year for foreseeable futureCosts expected to increase at 1% inflation rate each year for foreseeable future

(1) Returns cost increaseCost per pound (Old machine) $ 0.077 $ 0.078 Cost per pound (Zinser) $ 0.084 $ 0.085 Increased cost per pound $ 0.007 $ 0.007

Pounds processed 24,225,000 24,700,000Total increased costs $ 169,575 $ 174,629

(2) Power and maintenance savingsSavings per pound $ 0.03 ###Pounds processed (000's) 24,225,000 24,700,000Total savings (000's) $ 726,750 $ 741,000

(3) Increase in gross profitsCurrent price per pound $ 1.0235 $ 1.0337 Implied new price per pound $ 1.12585 $ 1.1371 Revenue increase per pound $ 0.10235 $ 0.10337 Pounds processed 24,225,000 24,700,000Total increase in revenues $ 2,479,429 $ 2,553,325 Gross profit margin (from Exhibit 1) 11% 11%Increase in cash flow from Zinser $ 279,903 $ 288,245

(4) Increase in depreciation tax benefit

Old Machine10 year life$0 salvage valueHalfway through life, had book value of $2,000,000$2,000,000/5 years remaining life = $400,000 annual depreciation expense (up to 2006).

New machine10 year life$0 salvage value$8.5m purchase price$8.5m/10 years = $850,000 annual depreciation expense (From 2002 to 2012)

2002 2003 2004Old machine depreciation $ 500,000 ###New machine depreciation $ 850,000 ###Net increase $ 350,000 $ 350,000 Tax savings $ 126,000 $ 126,000

2005 2006 2007 2008 2009 20103 4 5 6 7 8

$ 179,767 $ 184,991 $ 190,300 $ 195,698 $ 201,185 $ 206,761 $ 179,767 $ 184,991 $ 190,300 $ 195,698 $ 201,185 $ 206,761 $ 115,051 $ 118,394 $ 121,792 $ 125,247 $ 128,758 $ 132,327 $ 86,439 $ 80,865 $ 75,623 $ 70,699 $ 66,073 $ 61,732

2005 2006 2007 2008 2009 20103 4 5 6 7 8

$ 755,250 $ 769,500 $ 783,750 $ 798,000 $ 812,250 $ 826,500 $ 296,726 $ 305,348 $ 314,113 $ 323,022 $ 332,078 $ 341,283 $ 126,000 $ 126,000 $ 306,000 $ 306,000 $ 306,000 $ 306,000 $ 1,177,976 $ 1,200,848 $ 1,403,863 $ 1,427,022 $ 1,450,328 $ 1,473,783 $ 799,265 $ 813,903 $ 1,008,632 $ 1,023,454 $ 1,038,370 $ 1,053,381 $ 600,500 $ 555,907 $ 626,281 $ 577,713 $ 532,848 $ 491,410

Over 10 years, expected production for old machine from 500,000 pounds/week to 600,000 pounds/week

2005 2006 2007 2008 2009 2010530,000 540,000 550,000 560,000 570,000 580,000

26,500,000 27,000,000 27,500,000 28,000,000 28,500,000 29,000,000 25,175,000 25,650,000 26,125,000 26,600,000 27,075,000 27,550,000

$ 0.079 $ 0.079 $ 0.080 $ 0.081 $ 0.082 $ 0.083 $ 0.086 $ 0.087 $ 0.087 $ 0.088 $ 0.089 $ 0.090 $ 0.007 $ 0.007 $ 0.007 $ 0.007 $ 0.007 $ 0.008

25,175,000 25,650,000 26,125,000 26,600,000 27,075,000 27,550,000 $ 179,767 $ 184,991 $ 190,300 $ 195,698 $ 201,185 $ 206,761

$ 0.03 $ 0.03 $ 0.03 $ 0.03 $ 0.03 $ 0.03 25,175,000 25,650,000 26,125,000 26,600,000 27,075,000 27,550,000

$ 755,250 $ 769,500 $ 783,750 $ 798,000 $ 812,250 $ 826,500

$ 1.0441 $ 1.0545 $ 1.0651 $ 1.0757 $ 1.0865 $ 1.0973 $ 1.1485 $ 1.1600 $ 1.1716 $ 1.1833 $ 1.1951 $ 1.2071 $ 0.10441 $ 0.10545 $ 0.10651 $ 0.10757 $ 0.10865 $ 0.10973

25,175,000 25,650,000 26,125,000 26,600,000 27,075,000 27,550,000 $ 2,628,452 $ 2,704,826 $ 2,782,465 $ 2,861,385 $ 2,941,606 $ 3,023,146

11% 11% 11% 11% 11% 11% $ 296,726 $ 305,348 $ 314,113 $ 323,022 $ 332,078 $ 341,283

2005 2006 2007 2008 2009 2010 $ 500,000 $ 500,000 $ - $ - $ - $ - $ 850,000 $ 850,000 $ 850,000 $ 850,000 $ 850,000 $ 850,000 $ 350,000 $ 350,000 $ 850,000 $ 850,000 $ 850,000 $ 850,000 $ 126,000 $ 126,000 $ 306,000 $ 306,000 $ 306,000 $ 306,000

2011 20129 10

$ 212,429 $ 218,190 $ 212,429 $ 218,190 $ 135,955 $ 139,642 $ 57,658 $ 53,838

2011 20129 10

$ 100,000 $ 840,750 $ 855,000 $ 350,639 $ 360,148 $ 306,000 $ 306,000 $ 1,497,389 $ 1,621,148 $ 1,068,489 $ 1,147,695 $ 453,144 $ 442,486

2011 2012590,000 600,000

29,500,000 30,000,000 28,025,000 28,500,000

$ 0.083 $ 0.084 $ 0.091 $ 0.092 $ 0.008 $ 0.008

28,025,000 28,500,000 $ 212,429 $ 218,190

$ 0.03 $ 0.03 28,025,000 28,500,000

$ 840,750 $ 855,000

$ 1.1083 $ 1.1194 $ 1.2191 $ 1.2313 $ 0.11083 $ 0.11194

28,025,000 28,500,000 $ 3,106,022 $ 3,190,253

11% 11% $ 350,639 $ 360,148

2011 2012 $ - $ - $ 850,000 $ 850,000 $ 850,000 $ 850,000 $ 306,000 $ 306,000