In 1985, the company decreased its SG&A and R&D expenses substantially. However, not only did the sales drop, but the absence of control over accounts receivables resulted in a low turnover ratio and increased collection period. AMT needs to re-evaluate its credit policies in order to guarantee the timely collection of credit. One of the ways to improve this problem is to complete background checks on all new customers. Customers with poor credit history must pay for the products before they are shipped to reduce the risk of default. Also, collection of unpaid accounts needs to be pursued more aggressively.
Sensitivity analysis reveals that the growth rate and EFN are positively correlated. As the growth rate increases through the years, external financing needed to fund operations also increases significantly. Although growth is a concern for the company, no matter how low or even zero growth, CATO remains negative given existing costs the company incurs. Current v-factor is extremely high at 1.039 and is a key factor contributing to the negative earnings. It implies that the cost to produce each product is higher than the actual sale proceeds from that product.
In 1986, Pharmaceutical Manufacturers Association conducted a survey of sixteen medical equipment companies. The study showed that research and development to sales ratio averaged 5.5 percent in 1986. Even though the survey concluded that smaller companies are spending almost double the industry average, AMT’s current R&D expense as a percentage of sales is almost triple the industry average at 14 percent (Pharmaceutical Manufacturers Association, 1986).
Research and development activities symbolize the livelihood of future innovation and are essential costs to businesses such as AMT. Although this expense should not and cannot be eliminated, reducing it to the industry’s average of around 9.5 percent for a few years will help AMT to manage its cash flows more efficiently.
The rise of the medical equipment industry relies heavily on the emergence of medical technology. Instruments of a lower technology grade such as needles are critical for the general practice of medicine around the world. Strong demand for these products created a strong competition among manufacturers and forced down the prices. Since AMT is at its infancy and cannot afford to lower the prices any further, the company should concentrate on manufacturing more high-tech instruments.
The selling price of high-tech instruments is very high; however, the manufacturing cost associated with the product is high as well. AMT is constantly developing new medical devices with the latest discoveries in medical technology. The production of new devices requires extensive testing in order to receive approval from the FDA. The costs of prototyping and testing can get extremely high; however, AMT may benefit by using lower cost techniques such as the use of plastic injection molding machines. The operation of this equipment enables the user to make parts from low cost molds. By removing many of the high cost tooling features, overall costs of development will be reduced significantly.
According to J.S. Taub, San Francisco Business Journal Analyst, the medical device and supplies sector is one of the fastest growing industries in the country. However, due to cuts in medical financing, the growth is expected to slow down to about 5.5 percent annually for the next 9 years. While hospital cost-control regulations may put pressure on medical device industry, demand for the equipment is expected to rise significantly as a result of an increase in an aging population of 35 percent. People of 65 and older use health care services two and half times more than the rest of the population (San Francisco Business Journal, article A4173548).
At the moment, AMT is concentrating on its market share and not taking advantage of the premiums it can add on to its product which would help to increase profits. Technologies that create strong patient demand and can substitute for expensive procedures or treatments may charge higher price. Since AMT produces products that represent an alternative to traditional surgical procedures at a lower cost, the company must raise its prices in order to improve its revenue.
Recommendation
AMT’s current operations are unprofitable and must be corrected immediately. It is recommended to keep inventory levels low to ensure the firm’s money is used wisely. Also, the requirements for extending open lines of credit to customers must be stricter. Background checks and ongoing reviews of accounts receivables are necessary.
Mr. Haskins’ attitude towards the company’s market position is unfavorable to the company in the long-run. Instead of heavy expenditures on R&D and lowering prices to maintain its market share, he should add a premium to the high-tech instruments and reduce R&D to sales ratio to the industry’s average of 9.5 percent. AMT may lower its expenses by employing lower cost developing techniques such as the use of plastic injection molding machines.
According to a study published by Medical Device Association, within the medical device manufacturing industry, smaller firms are more than twice as innovative as large firms. The study revealed that smaller companies are less inhibited by the organizational structures of large corporations which tend to delay innovation. Merging with Biological Labs at this time is not advantageous and unnecessary. Making changes based on recommendations will give AMT the ability to generate enough positive cash flow to pay off its debt and eventually increase its R&D expenditures.
Works Cited
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