Clarkson Lumber

Hardwoods, Hard Times BBUS 505a Cavelero, Engstrom, Tobey & Zadah

Overview
Case Summary Problem Identification Findings Methodology Metrics Insights

Case Summary
Clarkson Lumber Company [CLC], is a small PNW lumber concern experiencing rapid, questionably financed growth. Keith Clarkson [Clarkson], sole owner of CLC, has maxed out ($399K of $400K) his line of credit [LOC] at Suburban National. CLC relies heavily on trade credit and short term debt. Clarkson wants to move to Northrup National Bank a larger bank with a a $750K short-term LOC. George Dodge, Northrup officer, is cautiously receptive. Hes asked a team of intelligent, attractive analysts to investigate the current state of CLC.

Problem Identification
Clarkson wants to move to Northrup National Bank a larger bank offering a $750K LOC.

CLC overuses expensive short-term debt to finance growth and buyout his former partner. It is our opinion that receiving a larger LOC from our bank will result in negative future growth and exacerbate current cash flow problems. There are other problems with cash-flow, including inventory purchasing, A/R and a 2% A/P discount (opportunity). PPE depreciation is an unkown; for our analysis, we factored it out.

Findings
CLC can be a profitable investment for Northrup, but not with the stated credit terms. Debt restructuring is needed to maximize CLCs profitability. According to our research, CLC is in danger of growing at a unsustainable pace: a. Most metrics are highly positive b. DuPont shows consistent gains c. However, CLCs sustainable growth rate is 20.7%; his current projected growth is 21.7% Greatest challenge is cash flow a. Poor financing, capital structure b. Growth overly reliant on expensive short- term debt c. Increasing inventory

Findings
1. 2. 3. Short-term LOC of $750k will put CLC in bankruptcy by the end of 1998 CLCs projected growth creates a forecasted EFN of ~$975K. By maintaining the projected growth rate, Northrup can facilitate CLCs maximum profitability by offering balanced financing of 35% short-term (~$340k) and 65% long-term (~$635 k).

Findings
Operating Income
$180 $160 $140 $120 $100 $80 $60 $40 $20 $0 1996 1997 1998 $8 Balanced Short Term $14 $20

Methodology
1. 2. Financial Statements Analysis Common-Size Income Statement (% Sales) Common-Size Balance Sheet (%Assets) Ratio Analysis Short-Term Solvency (Liquidity) Long-Term Solvency (Financial Leverage) Assets Management (Turnover) Profitability The Du Pont Identity (Current, Forecasted) Financial Planning Estimated sales growth Forecasted growth using % of sales approach Estimated amount, type of EFN Estimated sustainable growth

3. 4.

1996: Q1

Clarkson vs. Industry

Low-Profit Outlets Percent of Total Sales: Cost of goods Operating expense Cash Accounts receivable Inventory Fixed assets, net Total Assets Percent of Total Assets: Current liabilities Long-term liabilities Equity Total Assets High-Profit Outlets CLC 3YR 1995 76.90% 22.00% 1.30% 13.70% 12.00% 12.10% 39.10% 75.10% 20.60% 1.10% 12.40% 11.60% 9.20% 34.30% 75.60% 20.90% 1.40% 11.90% 12.30% 8.00% 33.70% 75.80% 20.80% 1.20% 13.40% 13.00% 8.60% 36.20%

52.70% 34.80% 12.50% 100.00%

29.20% 16.00% 54.80% 100.00%

48.41% 13.45% 38.14 100.00%

66.50% 6.10% 27.40% 100.00%

Metrics: Short Term Solvency

QUICK RATIO
2.49 2.5 2.5

CURRENT RATIO

2.0 1.27 1.5 0.82 1.0 0.61

2.0

1.58 1.15

1.5

1.0

0.5

0.5

0.0 1993 1994 1995

0.0 1993 1994 1995

Metrics: Leverage
4.06 4.50 4.00 3.50 3.00 2.50 2.00 1.50 1.00 0.50 0.00 0.68 0.80 2.59 1993 1994 0.86 1995 0.70 0.60 0.50 0.40 0.30 0.20 0.10 0.00 DEBT-EQUITY RATIO TOTAL DEBT RATIO 0.45

0.73

1993 1994 1995

66.46% 70.00% 60.00% 50.00% 40.00% 30.00% 20.00% 10.00% 0.00% Current liabilities CLC 1993 CLC 1994 CLC 1995 29.92% 48.83% 70.00% 60.00% 50.00% 40.00% 30.00% 20.00% 10.00% 0.00% 29.20% 52.70%

66.46%

Current Liab. - Industry Comparison

Low-Profit High-Profit CLC 1995

Metrics: Asset Utilization

48.95 50.00 45.00 62.00 59.86 40.00 35.00 60.00 1993 1994 58.00 55.86 1995 25.00 20.00 56.00 15.00 10.00 54.00 5.00 52.00 0.00 30.00 1993 1994 1995 38.24 64.00 62.57 43.14

DAYS PER INVENTORY TURNOVER

DAYS ACCOUNTS IN A/R COLLECTION

Metrics: Inventory
% of Sales
12.40% 12.32%

12.20% 12.00% 12.00% Inventory 11.80% 11.60% 11.60%

11.40%

11.20% Low-Profit Outlets High-Profit Outlets Clarkson 3YR

Metrics: Inventory
vs. Current Assets
54.00% 53.00% 52.00% 51.00% 50.00% 49.00% 48.00% 47.00% 46.00% 45.00% 44.00% 43.00% 50.87% 51.73% 53.00%

% of Current

49.13% 48.27%

47.00% Non-inventory

1993 1994 1995 Years

Inventory

0.20 0.15

Metrics: DuPont Analysis

0.18 0.17 0.03 0.02 0.02 0.12 0.01 0.01 0.00 1993 1994 ROE 1995 1993

2.1%

2.0% 1.7%

0.10 0.05 0.00

1994 PROFIT MARGIN

1995

3.18 3.20 3.10 3.00 2.90 2.80 2.70 2.60 2.50 1993 3.01 2.76 4.00 3.50 3.00 2.50 2.00 1.50 1.00 0.50 0.00 3.11

3.65

1.82

1994 TOTAL ASSET TURNOVER

1995

1993

1994 EQUITY MULTIPLIER

1995

Metrics: Forecasted DuPont

0.21 0.20 0.19 0.025 2.2% 0.20 0.020 0.15 0.10 1996 1997 ROE 2.99 3.00 2.75 2.50 2.25 2.00 1996 1997 TOTAL ASSET TURNOVER 1998 2.99 2.99 3.24 4.00 3.00 2.00 1.00 0.00 1996 1998 0.015 1996

2.4% 2.3%

1997 PROFIT MARGIN

1998

2.85 2.56

1997 EQUITY MULTIPLIER

1998

Income Statement
Operating Expenses
1993 Net sales Cost of Goods Sold: Beginning inventory Purchases Total Inventory Ending inventory Total Cost of Goods Sold Gross profit Operating expensesb EBIT 2% AP Discount Interest expense EBT Provision for income taxesc Net income 23 $74 14 $60 42 $84 16 $68 56 $99 22 $77 330 2,209 $2,539 337 $2,202 $719 622 $97 337 2,729 $3,066 432 $2,634 $843 717 $126 432 3,579 $4,011 587 $3,424 $1,095 940 $155 20.9% 12.4% 75.7% 10.1% 78.0% $2,921 1994 $3,477 1995 $4,519 Percent of Sales

Balance Sheet
Net sales Cash Accounts receivable, net Inventory Current Property, net Total Assets Notes payable, banka Note payable to Notes payable, trade Accounts payable Accrued expenses Term loan, current portionc Current liabilities Term loan Note payable, Mr. Holtzb Total Liabilities Net worth Total Liabilities and Net Worth ---$213 $42 $20 $275 $140 -$415 $504 $919 Balance 1993 $2,921 $43 $306 $337 $686 $233 $919 1994 $3,477 $52 $411 $432 $895 $262 $1,157 $60 $100 -$340 $45 $20 $565 $120 $100 $785 $372 $1,157 1995 $4,519 $56 $606 $587 $1,249 $388 $1,637 $390 $100 $127 $376 $75 $20 $1,088 $100 $0 $1,188 $449 $1,637 Percent of Sales 1.4% 12.4% 11.6% 8.1%

8.1% 1.5%

Insights: Long-Term Debt

Exchange a portion of short-term liabilities for long-term debt Will reduce interest payments Long-term debt has smaller payments, lower rates Savings passed to his cash flow; used to manage A/P

Insights: Reduce Inventory

Reduce existing inventory Increase sales? Slow inventory growth; more capital in cash flow Drain inventory by growing with current excess

Insights: Increase A/R Turnover

Increasing A/R turnover primes cash flow More cash in hand Can incentivize quicker collections with cash discount Savings in financing charges greater than 1% rebate

Key Concerns
Key Concerns Will bank accept such a loan? Can CLC collateralize long-term debt? Micromanaging sales within banks core capabilities? High inventory a hedge against price fluctuations? Can CLC profit margin afford 1% hit?