Sunset Boards. Sunset Boards is a small company that manufactures and sells surfboards in Malibu.

Tad Marks, the founder of the company, is in charge of the design and sale of the surfboards, but his background is in surfing, not business. As a result, the company's financial records are not well maintained. The initial investment in Sunset Boards was provided by Tad and his friends and family. Because the initial investment was relatively small, and the company has made surfboards only for its own store, the investors haven't required detailed financial statements from Tad. But thanks to word of mouth among professional surfers, sales have picked up recently, and Tad is considering a major expansion. His plans include opening another surfboard store in Hawaii, as well as supplying his "sticks" (surfer lingo for boards) to other sellers. Tad's expansion plans require a significant investment, which he plans to finance with a combination of additional funds from outsiders plus some money borrowed from banks. Naturally, the new investors and creditors require more organized and detailed financial statements than Tad has previously prepared. At the urging of his investors, Tad has hired financial analyst Paula Wolfe to evaluate the performance of the company over the past year. After rooting through old bank statements, sales receipts, tax returns, and other records, Paula has assembled the following information: Sunset Boards currently pays out 50 percent of net income as dividends to Tad and the other original investors, and has a 20 percent tax rate. You are Paula's assistant, and she has asked you to prepare the following: 1. An income statement for 2007 and 2008. 2. A balance sheet for 2007 and 2008. 3. Operating cash flow for each year. 4. Cash flow from assets for 2008. 5. Cash flow to creditors for 2008. 6. Cash flow to stockholders for 2008.

Information 2007 Cost of goods sold Cash Depreciation Interest expense SGA Expenses $96,952 13,990 27,370 5,950 19,067 2008 $122,418 21,137 30,936 6,820 24,886

Accounts payable Fixed assets Sales

24,725 120,750 190,199

28,003 147,115 231,840 12,859 12,305 70,150 28,628 12,000

Accounts receivable 9,913 Notes payable Long-term debt Inventory New equity 11,270 60,950 20,861 0

7. How would you describe Sunset Boards' cash flows for 20087 Write a brief discussion 8. In light of your discussion in the previous question what do you think about Tad's expansion plans?

Analysis 1. An income statement for 2007 and 2008.

Income Statement

2007

2008

Sales COGS Gross Profit SGA Depreciation EBIT/Operating Income Interest EBT Taxes NI (rRE) Dividends (RE)

190,199 96,952 $93,247 19,067 27,370 $46,810 5,950 $40,860 8,172 $32,688 $16,344 $16,344

231,840 122,418 $109,422 24,886 30,936 $53,600 6,820 $46,780 9,356 $37,424 $18,712 $18,712

2. A balance sheet for 2007 and 2008. Balance Sheet for 2007

Cash Accounts Receivable Inventory Current Assets Net Fixed Assets

Gross Fixed Assets

$13,990 $9,913 $20,861 $44,764 $120,750

$148,120

Accounts Payable Notes Payable Current Liabilities Long Term Debt

$24,725 $11,270 $35,995 $60,950

Total Debt Owners Equity

$96,945 $68,569

Depreciation

$27,370

Original Equity Retained Earnings

$52,225 $16,344

Total Assets

$165,514

Total Liabilities and Net Worth $165,514

Balance Sheet for 2008 Cash Accounts Receivable Inventory Current Assets Net Fixed Assets
Gross Fixed Assets Depreciation

$21,137 $12,859 $28,628 $62,624 $147,115

$205,421 $58,306

Accounts Payable Notes Payable Current Liabilities Long Term Debt Total Debt Owners Equity
Original Equity New Equity

$28,003 $12,305 $40,308 $70,150 $110,458 $99,281

$52,225 $12,000

Total Assets

$209,739

Retained Earnings Total Liabilities and Net Worth $209,739

$35,056

3. Operating cash flow for each year. 4. Cash flow from assets for 2008.

The answers to questions 3 and 4 are displayed below in the Cash Flow Statements for 07 and 08.

Cash Flow Statement

2,007

2,008

Cash Flow From Operations NI Depreciation 32,688 27,370

54,009 37,424 30,936

60,925

s in Current Accounts AR(9,913) I(20,861) AP24,725

(2,946) (7,767) 3,278

Cash Flow from Financing Activities 108,101 1,035 9,200 12,000 (16,344) (18,712) 3,523

NP11,270 LTD60,950 OE52,225

Div

Cash Flow from Investing Activities (148,120) (57,301) (57,301)

FA(148,120)

Net Cash Flow

13,990

7,147

5. Cash flow to creditors for 2008. The cash flow to creditors consisted of the payment of interest on long-term debt in the amount of $6,820, which comes from the income statement.

6. Cash flow to stockholders for 2008. The cash flow to stockholders for 2008 consisted of the payment of dividends in the amount of $18,712, which comes from the income statement and from the cash flow statement.

7. How would you describe Sunset Boards' cash flows for 2007 and 2008? Write a brief discussion. An analysis of Sunsets cash flows for 2007 and 2008 reveal the following items of significance. Sunset generated significant cash flows from operations, so one must assume that the core of the business (building and selling surfboards) is a viable ongoing enterprise. Nevertheless, without the infusion of additional equity in 2008, the overall cash flow for Sunset would have been negative and they would have been forced to either obtain additional debt financing or reduce the dividend payout ratio. Sunset has invested significantly in fixed assets in both years of its history. If the forecast for the future includes additional fixed assets, additional sources of funding will have to be obtained.

8. In light of your discussion in the previous question what do you think about Tad's expansion plans? Sunset would be entering a uncertain new market with new competitive dynamic relationship with competitors. Based on the cash flow statements, significant external funding would be required regardless of the decision to change the dividend payout ratio. At this early stage of the companys history, expansion (in terms of a new location) might well be delayed for new location. With respect to the idea of wholesaling his boards to other vendors, there are several considerations. First, he would have to reduce his profit margin on each board distributed through this channel. Therefore, he will be trading off margin for additional volume. We do not have sufficient information to determine the impact of such changes. Further, there is a question as to whether or not Sunset can produce the additional boards required to enter the wholesale market without the addition of significant amount of fixed assets since additional assets were required in the second year of operations to sustain current sales volume. So without additional information, I would be hesitant to support this idea. There are additional considerations. Sunset has established a brand name and apparently, consumers are willing to pay the

asking price for such. By wholesaling the boards to others, this exclusive product will become one of many available in surfboard shops thus diluting the value of the brand.