FNCE229: Corporate Banking

Butler Lumber Case Discussion

Questions for Case Discussion in Class in Seminar 4
1. Is Butler Lumber Case just a bank lending/finance case?
No. It is more than just a bank lending/ finance case.
There are other factors such as establishing long-term relationship
between the bank and the company. By fostering a long-term
relationship, the bank is able to capitalize on Butler Lumbers growth
and cross sell the services to Butler Lumber Company.
Additionally, the bank should consider other qualitative factors such as
in the case, Butler Lumber has just been incorporated and it is located
in a growing suburb of a large city. This represents a growth potential in
which the Northrup National Bank could cross sell products. Other
qualitative factors may affect the main revenue drivers for the Butler
Lumber Company. For example, general economic slowdown may
slowdown the rate of increase in sales but it may be protected to some
extent from the fluctuations in new housing construction because of
relatively high proportion of its repair business. As such, Butler Lumber
Case is not just a bank lending/ finance case.
2. Who is the borrower in the Butler Lumber case?
Butler Lumber Company.
3. How does Butler Lumber Company make money?
BLC make money through retail distribution of lumber products in the
local area. These include Plywood, moldings and sash and door
products.
4. How is Butler Lumber Company doing financially? Is the
business profitable? (You are required to provide all the
financial trend analysis and historical financial ratios to
support your answer.)
Butler Lumber Company is well in general financially. By looking at the
sales and asset growth, the company is able to gain more in terms of
sales especially since the company is run with few employees. With
additional employees, it is able to improve its sales growth.

Net Sales
Sales Growth

1988
$1,697
-

1989
$2,013
18.6%

1990
$2,694
33.8%

Total Asset
Asset Growth

$594
-

$736
23.91%

$933
26.77%

Taking into account of its the profitability, Butler Lumber Company has
increasing ROE.
Net Income
Shareholders Equity
ROE

$31
$270
0.115

$34
$304
0.112

$44
$348
0.126

Its credit terms also enable the business to increase it days in payables
and its management of its inventory as a proportion of sales indicates a
better management of inventory over years.
Sales
Inventory
Inventory Turnover

$1,697
$239
7.10

$2,013
$326
6.17

$2,694
$418
6.44

On the flip side of the coin, there might some ratios that might indicate
otherwise such as ROA and profit margin. However, given its strategy,
the profit margin decrease is largely justified.
Net Income
Net Sales
Profit Margin

$31
$1,697
0.018

$34
$2,013
0.017

$44
$2,694
0.016

Net Income
Total Assets
ROA

$31
$594
0.052

$34
$736
0.046

$44
$933
0.047

In terms of liquidity, both Butlers current and quick ratios along with
time interest earned have been the decreasing over the years.
However, the numbers still indicates good ability to pay off debt in case
of liquidation and still remains healthy.
Total Asset
Total Liabilities
Current Ratio
Current Assets
Inventories
Current Liabilities
Quick Ratio

$594
$324
1.83
$468
$239
$260
0.88

$736
$432
1.70
$596
$326
$375
0.72

$933
$585
1.59
$776
$418
$535
0.67

Similarly, in terms of gearing and leverage, its numbers had been

increasing however, given that Butler Lumber is in a growing business,
it largely reasonable for Butler Lumber to increase its debt asa
proportion of its assets. In a nutshell, based on the financial ratios
alone, Butler Lumbers remains financially sound.

Total Liabilities
Shareholders Equity

$324
$270

$432
$304

$585
$348

DE Ratio

1.20

1.42

1.68

Total Debt
Total Asset
Debt Ratio

$71
$594
0.12

$64
$736
0.09

$57
$933
0.06

5. It seems like Butler Lumber Company is a profitable business

with reasonably efficient operations So then why has Mr
Butler/ the company had to borrow so much money?
Butler can meet its expected sales without additional funding. If the
goal is to eliminate the trade debt, while maintaining the current bank
note at $247000, Mr. Butler would need an additional $124,000, the
remaining balance after subtracting $33,000 from the trade credit of
$157,000. But the bank will not offer this additional funding, which
would then come to $371,000 resulting in the discussions with
Northrup.
6. Given your understanding of the asset conversion lending
rationale and its application in this case, is Butler Lumber
Company is losing controlover its short-term assets?
Asset conversion is about financing short-term seasonal build-ups of
working assets or financing other temporary, transactional build-ups of
current assets. Inthis case, Butler is facing issues due to growth of
sales along with increasing average collection period. In 1988, the
days in payables turnover had increased from 35.41 to 45.76.
Additionally, the increased from payables is due to increase in slower
payment and increased purchases. This is followed by increased
ininventory due to reduced inventory turnover and increased sales.
7. Is trade credit a good source of financing for Butler Lumber
Company?
Trade credit is a good source of financing for Butler Lumber Company,
given the high proportion of account receivables on its balance sheet.
Additionally, the growth in its account receivables over the years, it is
imperative to consider trade financing as a source of financing.
However, it should note that while itmay seems like a good option, it
may not be optimal as Butler Lumber have togive substantial discounts
at expense of growing sales. Being in the market asone which been
successful through price competition, it may not be wise toconsider
trade credit as a first option. Alternatively, Butler Lumber can look at
getting trade credit with its suppliers instead. As Butler Lumber is
getting bigger, it would enable Butler to have abetter bargaining power
and at the same time, reduce the expense needed to service the loans.
8. As a banker, would you lend to Butler Lumber Company? How
would youtry to control risks?

Fundamentally, Butler Lumber is a growing company and it seems wise

to look at getting a bigger line of credit in order to support it growth
story. This will require additional working capital to meet its current
obligations to his lenders and suppliers. Current liabilities total
$404,000, so the credit line under consideration will provide additional
financial flexibility, which is needed considering the downward trend of
the current ratio. Furthermore, the debt would be carried at a more
favourable rate. Finally, based on the financial projections, Butler
would have an additional $33,000 available to begin paying down this
debt by the end of 1991. Hence, considering this and the other
financial of Butler, loan should be given out. The cash shortage is
short-term problem and that the underlying business is sound and his
references and credit history are favorable. However, there aresome
areas of concern that should be monitored as a condition of the
loan. First,the Days Sales A/R ratio is trending in the wrong direction,
and more effort needs to be spent on collecting receivables in a timely
manner. Additionally, the inventory turnover is decreasing, tying up
too much cash, and exacerbating the shortage of working capital. More
effort needs to be spent on inventory management, making sure there
is not a growing amount of stagnant inventory, and that the mix is
correct for the intended market. In addition, to the condition,the bank
should require 2 important ratios (Days Sales A/R and inventory
turnover) return to their 1988 levels, and that Mark Butlers
compensation to be tied to these objectives.
9. Is there anything Butler Lumber Company can do to come up
with more cash? What should Mr Butler do?
Mr. Butler should consider improving its cash flow by both offering
trade credits to its customers and the same time negotiate with its
suppliers to offer trade credits in order to improve both its account
receivables and payables. By doing so, it is able to utilize amount of
loan for other purposes such as financing for long-term assets.
However, caution should be exercised when extending trade credit
since the cost of such trade credits may exceed the cost of borrowing.