Butler Lumber Company Case

Statement of the Problem

Butler Lumber, a small company owned by Mark Butler has shown a significant decrease in cash and an increase in liabilities over the last three years. In an attempt to alleviate the cash flow problems, Mr. Butler is looking to extend his current unsecured bank loan. He has the option of staying with his current lender at a lower lending amount, or using a new lender with a higher lending amount available to individual customers.

Questions To Be Answered

1. Prepare a pro forma income statement and balance sheet for 1991 to determine how much Butler Lumber will need to borrow if it expands as planned.

Based on the attached pro forma income statement and balance sheet, it is determined that Butler Lumber will need to increase their current debt to approximately $350,000 to continue their expansion as planned. This increase would add an additional $116,000 to their already substantial amount of debt.

The calculations on the pro forma income statement and balance sheet appear to be higher than those from previous years. This is due to the expected increase in net sales.

2. Prepare a financial analysis to determine why Butler is so short of funds.

Based on the financials, it appears Butler is short on funds due to their inventory. In 1990, inventory was almost 45% of their total assets. Better inventory management might increase the cash fund as well as free up space in the warehouses.

3. Do you think Butler should continue to expand? Explain why or why not you recommend this to Butler.

It is not recommended that Butler continue with their expansion plans. Although sales are high and are predicted to increase in 1991, the company is still relying heavily on borrowed funds to finance its daily activities. Increasing the loan amount would drive the company closer to bankruptcy, if the funds were used for expansion. Butler could however use the money to pay his account payable, as the interest on the loan is less than the interest to his individual vendors. By doing so, Butler decreased his A/P and lowers the amount of total interest paid during the year. However, Butler must take advantage of the discounts offered by vendors in future. Butler should make every attempt to lower his current debt before taking