Leverage Ratio

Total Liabilities
Networth
Total Liabilities +
Net Worth
Debt Ratio
Debt Equity Ratio

1993
415
504

1994
785
372

1995
1188
449

919

1157

1637

Clarkson Lumber Company

2. How company met its financial needs during 1993-95?

Has company's financial condition improved/deteriorated?

0.451578 0.678479 0.725718

0.823413 2.110215 2.64588

A. The company has met its financial needs through huge

notes payable and credits from banks and trades. The change in current liabilities over 1993-1995 clearly show this.

Year
Change in Current Liabilities
% Change in Current Liabilities

1993-1994
1994-1995
290
523
105.45455
92.566372

leverage Ratio
3
2
1
0
1993

1994
Debt Ratio

Liquidity ratio
Current Assets
Cash
Current Liabilities
Current Ratio
Quick Ratio

1995
Debt Equity Ratio

1993
1994
1995
686
895
1249
43
52
56
275
565
1088
2.494545 1.584071 1.147978
2.338182 1.492035 1.096507

Liquidity Ratio
6
4
2
0
1993

1994
Current Ratio

1995
Quick Ratio

The debt ratio has considerably increased over a period of time. This signifies that the owners stake has decreased over time. This
would mean a lesser margin of safety from the point of creditors(Lenders). If We look at the current ratio and quick ratio, Both have
decreased over the years. This signifies that the capacity of firm to pay back its current obligations.
3. Do you suggest to avail trade discount?

A. Yes. Mr. Clarkson should avail trade discounts of 2% for payments made within 10 days of the invoice date as his purchase
amounts are huge and mere 2% would also account to a considerable amount of discount. Also, calculating his Implicit Interest
Rate,
Implicit Interest Rate = (%Discount)*360/((100-%Discount)(Credit Period-Discount Period))
= 2*360/((100-2)(30-10))
= 36.73%
Since the annual opportunity cost of foregoing cash discount is very high (36.73%), therefore the firm should avail trade discount as
the implicit interest rate is much higher than other sources of credits.
4. Do you agree with the co's estimation of loan requirement during 1996? If not , estimate the same assuming company avails all
trade discounts.
A. No. The company's estimation is wrong. As per our estimation, the loan requirement of the company should be $1,010,000
instead of $750,000.

Balance Sheet

1996
-

Cash
Accounts receivable, net
Inventory

77
654.5
676.5
-

Current assets
Property, net

1408
440
-

Total assets
Notes payable, bank
Notes payable, Mr. Holtz
Notes Payable, trade
Accounts payable

1848
1010
0
123
117.1881

Accrued expenses
Long-term debt, current portion

20
-

Current liabilities
Long-term debt (term loan)

1270.58
80
-

Total liabilities
Net worth

497

5. As a banker would you approve company's loan proposal, if so what conditions would you put on loan?

A. Yes, But under following conditions:

Reduce the salary of the CEO

The maximum % of loan should be long term loan
Restrict the company from taking further short term loan from any other sources
Monitor the operating expense

1. Why Clarkson Lumber co is required to borrow more in spite of its profitable business?
A. Clarkson Lumber co is required to borrow more in spite of its profitable business because they experienced a shortage of cash.
The reasons for this are as follows:

Buying out Mr. Holtz's interest for $200,000. Due to this decision, the company was repayable a semi-annual installment
of $50,000 from June 1995 which was more than the profits made by the company in that period.
As given in Exhibit 1, the cash salary of Mr. Clarkson of $75,000 in 1993; $80,000 in 1994; $85,000 in 1995 is even more
than the Net Profit gained by the company in the respective years. This is another reason for the shortage of cash.
Investment in Property (Fixed Assets) through Short-Term Loans instead of Long-Term Loans.

Change in fixed assets

Change in Long Term
Loans

1993-1994
1994-1995
29
126
-20

-20

Although the Sales have increased and profits have increased, the profitability has decreased over the years.

Year
Net Sales
COGS:
Beginning Inventory
Purchases
Ending Inventory
Total COGS
Gross Profit
Operating Expenses
PBIT
Interest
PBT
Provision for taxes
Net Income
Profitability (%)

1993
2921

1994
3477

1995
4519

330
337
432
2209
2729
3579
2539
3066
4011
337
432
587
2202
2634
3424
719
843
1095
622
717
940
97
126
155
23
42
56
74
84
99
14
16
22
60
68
77
2.054091 1.955709 1.703917