Caldor's bankruptcy was due to a combination of all 3 factors such as shortage of working capital, banks and other creditors being excessively concerned or uncooperative and lack of profitability.
Shortage of Working Capital
Definition: Working Capital = Current Asset – Current Liability. Working capital as at end 1Q1995 = US$15m and Current ratio = 683/668 = 1.022.
Long cash conversion cycle of 94 days also attributed to poor working capital and it is mainly due to slow inventory turnover.
As you can see from the above, Caldor’s working capital is marginally positive. The implied current ratio of 1.022 was alarmingly low. As at end Jan 1995, quick ratio was a mere 0.05 as bulk of current assets was inventory being held on its books.
With such a low quick ratio, it implies that Caldor might run into risk of not being able to fund their short-term debt using short-term assets if they are due.
Under the credit agreement signed, the Co. must maintain a period of at least 30 consecutive days during which no revolving credit borrowings are outstanding from period Dec 1 to Apr 15. The credit agreement also restricted Caldor in incurring additional indebtedness or sales of assets. This effectively restricts Caldor from using non-current assets or raising additional short/long term debt to fund their outstanding short term revolving debt in the space of a one year period. No doubt long term liquidity ratios look healthy at below 1, short term liquidity needs will play an important factor of consideration for Caldor due to restrictions imposed by the credit agreement signed.
To meet Caldor’s short-term liquidity needs, positive free cash flows are much needed to ensure sufficient funding for its short term ...