Reference no: EM133183392

Question - ABC is an electronic manufacturing company based in Singapore. It sells a wide range of products to markets in the Asian region. Currently, it has a sizeable IT division with the following characteristics: value of computers and hardware of $20 million and annual IT operating cost of $2 million. The average life span of the computers and hardware is 5 years. You have analyzed the IT needs of ABC and felt that a outsourcing contract can meet ABC's IT needs for $5.5 million p.a. You also noticed that the company is not very efficient in its management of inventories and accounts receivable. You are of the view that if ABC can reduce its inventory days by 5 to 40 and accounts receivables by 10 to 90.

With a bond rating of BBB, ABC is charged Prime + 4% for loans taken to finance its purchase of computers and hardware. IBM on the other hand has a AAA bond rating and commands a finance cost of Prime + 0.5%. Other details of ABC's financials are:

Cost of equity= 14%; Prime rate = 5%; tax rate is 20%, Debt ratio = 0.4

Sales = $500 million; Cost of goods sold = $400.

1. How can ABC to create value for shareholders?

a) How much value is created through outsourcing?

b) Compute the value created from more efficient management of inventories and accounts receivables.

c) If ABC is unwilling to outsource its IT division and wishes to purchase its computer hardware of $20 million, how can it create value for shareholders through an innovative financing scheme offered by IBM. The scheme must be a win-win proposition for both ABC and IBM.