Questions

Wilson Lumber Company - First control work

Questions

1. Why has WIlson Lumber borrowed increasing amounts despite its consistent
profitability ? (Table SN A-B-C)

2. How has Mr. Wilson met the financing needs of the company during the period 2003 through 2005 ?
Has the financial strength of Wilson Lumber improved or deteriorated ? Evaluate Wilson Lumber financial hea

3 . To estimate the sustainable growth rate (SGR) that WLC can sustain without further weakening the balanc
a) no change in the ratio of sales to total assets,
b) no change in the ratio of total liabilities to owners' equity
c) no equity issues or repurchases
d) a return on beginning equity of 20 % ( the 2005 level), and
e) a continuation of the policy of paying no dividends.

4.. How attractive is to take the trade discounts ?

a) If Mr. Wilson is offered a discount od 2% for a payment made in 10 days and does not in fact
what interest rate is he paying by forgoing his discount ?
b) If Mr. Wilson offers his customers terms of 2 % discount for payment in 10 days what would co
at annual rate ?

5.. Do you agree with Mr. Wilson's estimate of the company's loan requirements?
How much will he need to finance the expected expansion in sales to $ 5.5 million in 2006
and to take all trade discounts?
Prepare complete pro forma forecast of Wilson Lumber 2006 income statements and year-end balance sheets

6.. As Mr. Wilson's financial adviser, would you urge him to go ahead with, or to reconsider,
his anticipated expansion and his plans for additional debt financing ? (Table SN-G)

7.. As the banker, would you approve Mr. Wilson's loan request, and , if so, what conditions
would you put on the loan ? What about working capital management would you recommend him?

Page 1
 Questions

2003 through 2005 ?

Wilson Lumber financial health (Table SN D)

urther weakening the balance sheet assuming:

?

0 days and does not in fact 50 days,

ent in 10 days what would cost

and year-end balance sheets. (Table SN-E; Table SN-F)

recommend him?

Page 2
 Exh 1

EXHIBIT 1 Operating Statements for Years Ending

December 31, 2003-2005, and for First
Quarter 2006 (thousands of dollars)

1st Qtr.
2003 2004 2005(a) 2006
Net sales $2,921 $3,477 $4,519 $1,062
Cost of goods sold
Beginning inventory 330 337 432 587
Purchases 2,209 2,729 3,579 819
$2,539 $3,066 $4,011 $1,406
Ending inventory 337 432 587 607
Total cost of goods sold $2,202 $2,634 $3,424 $799

GROSS PROFIT 719 843 1095 263

Operating expense (b) 622 717 940 244

Earning before interest and taxes 97 126 155 19
Interest expense 23 42 56 13
Net income before taxes $74 $84 $99 $6
Provision for income taxes ( c ) 14 16 22 1
Net income $60 $68 $77 $5

(a) In the first quarter of 2005 sales were $903,000 and net income
was $7,000.
(b) Operating expenses include a cash salary for Mr. Wilson of
$75,000 in 2003, $80,000 in 2004, $85,000 in 2005, and $22,500 in
the 1st quarter of 2006.
( c ) Wilson Lumber was required to estimate its income tax liability for the current tax year pay four quarterly
estimated tax installments during that year. The first $50 000 of pretax profits were taxed at a rate 15%; next
$ 25 000 were taxed at a 25 % rate; next $ 25 000 were taxed at a 34 % rate; and profits in excess of $ 100 000
but less than $ 335 000 were taxed at a 39% rate.

Page 3
 Exh 2

EXHIBIT 2 Balance Sheets at December 31, 2003-2005,

and March 31, 2006 (thousands of dollars)

1st Qtr.
2003 2004 2005(a) 2006
Cash 43 52 56 53
Accounts receivable, net 306 411 606 583
Inventory 337 432 587 607
Current assets 686 895 1,249 1,243
Property, net 233 262 388 384
Total assets 919 1,157 1,637 1,627

Notes payable, bank (a) 60 390 399

Notes payable to Mr. Holtz, current portion (b) 100 100 100
Notes Payable, trade 127 123
Accounts payable 213 340 376 364
Accrued expenses 42 45 75 67
Term loan, current portion ( c ) 20 20 20 20
Current liabilities 275 565 1,088 1,073
Term loan ( c ) 140 120 100 100
Notes payable to Mr. Holtz 100 0 0
Total liabilities 415 785 1,188 1,173
Net worth 504 372 449 454
Total liabilities and Net worth 919 1,157 1,637 1,627

(a) Interest is computed on the average outstanding loan balance at the rate of prime plus 2 %

(b) Interest is fixed at 11% times the outstanding balance

( c ) Interest is fixed at 10.0 % times the outstanding balance: the term loan is secured by the fixed assets and is
repayable in semiannual installments of $ 10 000.

Page 4
Exhibit 3 Selected Statistics on Lumber Outlets

Low-Profit Outlets (a) High-Profit Outlets (a)

Percnet of sales:
Cost of goods 76.9% 75.10%
Operating expenses 22.0% 20.60%
Cash 1.3 1.1
Accounts receivable 13.7 12.4
Inventory 12.0 11.6
Fixed assets, net 12.1 9.2
Total Assets 39.1 34.3
Percent of Total Assets
Current liabilities 52.7% 29.2%
Long-term liabilities 34.8% 16.0%
Equity 12.5% 54.8%
Current ration 1.31% 2.52%
Return on sales -0.7% 4.3%
Return on assets -1.80% 12.20%
Return on equity -14.30% 22.10%

(a) Defined as the bottom 25 % and as the top 25 % of all contributors, based on
return on sales.
Table -A
2003 2004 2005 1st Quarter 2006
Receivables % sales 10.48% 11.82% 13.41% 13.72%
Inventory turn
Average inventory 6.60 6.85 6.72 5.35
Year-end inventory 6.53 6.10 5.83 5.27

Table -B
2003 2004 2005 2006 (a)
Net property % sales
(a) Based on forecast sales of 5,5 million in 2006
7.98% 7.54% 8.59% 6.98%

Table - C
2003 2004 2005 1st Quarter 2006
Total liabilities % total assets 45% 68% 73% 72%
Table SN-D Financial Ratio Analyses of Wilson Lumber Company

2003 2004 2005 1st Quarter 2006

Profitability
Return on sales 2.05% 1.96% 1.70% 1.79%
Return on capital 15.06% 21.28% 28.23% 3.43%
Return on equity 11.90% 18.28% 17.15% 4.19%

Liquidity
Current ratio 2.5 1.6 1.1 1.2
Quick ratio 1.27 0.82 0.61 0.59

Leverage
Assets/Equity 1.8 3.1 3.6 3.6
Debt/total capital 82.34% 211.02% 264.59% 258.37%
Long-term debt/Capitalisation 21.08% 23.44% 17.57% 17.42%
Interest coverage 3.61 2.62 2.38 1.38

Activity Ratios
Sales/assets 3.18 3.01 2.76 2.61
Days receivable 38.24 43.14 48.95 50.09
Days inventory 55.86 59.86 62.57 69.32
Days payble 35.19 45.47 38.35 40.56
Table -E Projected Income Statement for Year Ending
December 31, 2006 (thousand of dollars)
USD mill.
Net sales 5500
Cost of goods sold
Beginning inventory 587
Purchases (77% as 1st quarter) 4,235

Ending inventory (a) 607

Total cost of goods sold (75,7 % of sales) 4163.5

GROSS PROFIT 1337

Operating expense (20,9 % of sales) 1150

Operating income 187
Purchase discounts (2% of ($4234 - $819) 68
Interest expense
Bank loan (0,11 * avarage loan) (b) 85
Existing fixed rate debt 21
Profit before taxes 149
Provision for income taxes ( c ) 41.36
Net income 108

( a ) Based on an average inventory turn of 6,7

( b ) The Bank loan average $ 400 000 in the first quarter and then increased
in a step-function as Wilson adopted a policy to pay suppliers in 10 days.
( c ) See case Exhibit 1 for the relevant tax information
Table -F Projected Balance Sheet for Year Ending
December 31, 2006 (thousand of dollars)

Assets
Cash (1,4 % of sales) 77
Accounts receivable, net (11,9 % of sales) 654.5
Inventory (average inventory turn of 6,7) 607
Current assets
Property, net (8,0 % of sales) 440
Total assets 1779

Liabilities and Net Worth

Notes payable, bank (plug) 923
Accounts payable ( 10 days/365 *purchases) 116
Accrued expenses (1,5 % of sales) 82.5
Current portion, long term debt 20
Current liabilities 1,142
Term loan ( c ) 80
Total liabilities 1,222
Net worth ( increased by earning retained in 2006) 557
Total liabilities and Net worth 1,779
 Table SN-G

2003 2004 2005 Pro forma 2006

1 EBIT 97 126 155 255
2 Provision for taxes 14 16 22 41.36
3 EBIAT (1.-2.) 83 110 133 214
4 Total loan 160 140 120 923
5 Net worth 504 372 449 557
6 Total capital (4.+5.) 664 512 569 1,480
7 Return on invested capital (3./6.%) 12.50% 21.48% 23.37% 14.46%
8 Cost of capital (WACC) 11.00% 11.00% 11.00% 11.00%
9 EVA = (7.-8.)*6. 9.96 53.68 70.41 51.14301
10 EVA = 3.- 8.*6. 9.96 53.68 70.41 51.1430