Analysis & Conclusions
Based on the analysis on Butler Lumber’s financial statements (Exhibit 1), we conclude that, for sole trader companies like this, it has been growing fast for the past years, as shown in an increase of Sales from 19% in 1989 to 34% in 1990. There is also a slow and steady growth in net income.
Butler Lumber uses most of its cashin inventory, occupying 179,000 out of 475,000. Also, stocks’ SAF is positive for 1988-1990 and 1990-1991, indicating that the company has too much inventory. Accounts receivable’s SAF of 1988-1990 and 1990-1991 show a considerable increase, therefore we conclude that the company is giving out a significant amount of credit to its customers.
We consider BLC a healthy company with increasingcurrent assets, but due to the fact that it is giving out too much credit to customers, plus too much inventory, Butler Lumber has bad liquidity and turnover. Cash’s SAF shows a negative number brought by decrease in liquidity that avoids its use against contingencies and debt repayment.
BLC desires to keep a good relationship with its suppliers. However, right now they have given the company aconsiderable credit for delayed payment. In order to maintain a solid relationship with its partners, BLC is in great urgency to find other financing sources to pay the credit. This is one of the reasons for Mr. Butler’s desire to borrow money, both to expand his business and to pay the liabilities that are maturing very soon.
The forecast infers a very optimistic result that BLC would have cashsurplus in the coming few years and it is feasible for NNB to provide a loan, but the financing institution will most likely consider the whole amount of the requested loan as very risky. Then financing institution will most likely lend an amount lower than 465,000.
However, if we look into the financial statements more scrupulously, we can see there is more than meets the eye, as several problemsare found if analyzed carefully. First, the company, despite a steady growth of sales, is suffering from cash deficiency. Furthermore, by comparing the growth rate of net income and debt, it has been noted that debt has incremented in a much faster pace – it almost doubled while NI grows at an average of 20% annually. This is a worrying signal, and if the trend remains unchanged, soon thecompany could fall into bankruptcy.
Several factors can explain for the real crisis behind prosperity. The annual days of collection have augmented from 36 to 43 days, while days of payment fluctuates around 35 to 45. Since 1989, the collection time had finally exceeded payment time, which means BCL has to pay suppliers before collecting money from customers. On the other side, the actual net creditterm that BCL has provided to customers is solely 30 days, which is far less than the 43 days. It indicates that BCL cannot efficiently receive cash punctually, with as long as 30% more time in delay. Therefore, BCL is paying suppliers within the same time limit, but is having more and more difficulty collecting cash.
Moreover, the average days of stocks has increased considerably, from 60 in1988 to 76 days in 1991, inferring that merchandises are stored in the warehouse for longer period. It is a signal of overstocking, and by looking at the operational expense; we can see a notable growth from 412,000 in 1988 to 642,000 in 1990, a 56% increase throughout the period. These jointly indicate that BCL is hiring too many staff but operating too inefficiently, unable to sell out itsmerchandises thus resulting in hoarding.
The balance summary supports our hypothesis. From 1988 to 1991, NFO (need for fund in operation) increases from 157,000 to 465,000, almost tripled, while working capital (WC) remains steady from 215,000 to 249,000. BLC has invested heavily into accounts receivables with little investment in operation. It has gone through a structurally disproportionate growth,...