Question

As you recall, Dry Supply has requested a loan for $60,000 to purchase three new vans. On December 31, 20xz, Dry Supply had borrowed $67,000 from owner Kaitlyn Nielson. To provide support to the loan request, in addition to the personal guarantees of the owners, State Bank may ask Ms. Nielson to subordinate to the bank debt owed to her from Dry Supply.

Answer the following questions using Dry Supply's financial information found at the end of Chapter 5 in the textbook. Apply what you have learned about guarantees and subordination agreements.

1. What are two ways that State Bank can ask that the loan from Dry Supply be subordinated?

2. What steps can State Bank take if Ms. Nielson has secured her debt with a lien on a specific piece of equipment?

APPENDIX A: DRY SUPPLY'S FINANCIAL INFORMATION Income Statement Spread: Dry Supply Income Statement Review ($ in S000) 12/31/20xx Amount % Review 12/31/20xy Amount % Review 12/31/20xz Amount % 100.0 100.0 $895 $918 100.0 $937 667 72.1 71.2 631 645 68.7 250 27.9 270 28.8 287 31.3 173 17.5 18.5 180 157 19.6 36 4.0 31 3.3 28 3.1 15 1.7 18 20 2.2. Net sales Cost of goods sold Gross profit Selling, gen and admin. expense Officer's compensation Rent expenses Bad debt expense Profit-sharing expense Depreciation expense Total operating expenses Operating income Other income 2 1 0 0.0 0.2 0.8 7 7 0 0.0 12 1.3 12 13 1.4 229 25.6 242 25.8 241 26.3 21 2.3 28 3.0 46 5.0 0 0.0 0 0.0 0 0.0 Interest income 2 0.2 2 2 0.2 3 0.3 3 3 0.3 Rental income Interest expense Net profit before tax 0.3 0.7 6 0.7 7 11 20 2.2 26 40 Income tax expenses 11 1.2 12 1.3 17 1.9 Net profit after tax $ 9 1.0 $ 14 1.5 $ 23 2.5 Balance Sheet Spread: Dry Supply Common size report (s in $000) Review 12/31/20xx Review 12/31/20xy Amount % Review 12/31/20xz Assets Amount % Amount % Cash $ 3 1.2 $ 12 4.6 $ 22 8.1 Accounts receivable 114 46.9 118 45.4 117 43.3 Less' allowance for doubtful accounts 5 2.1 5 1.9 5 1.9 Net accounts receivable 109 44.9 113 43.5 112 41.5 73 30.0 72 Inventory Total current assets 67 24.8 186 27.7 75.8 76.1 197 201 74.4 76 31.3 75 28.8 78 28.9 1 0.4 1 0 0.0 53 21.8 70 85 31.5 Furniture and fixtures Leasehold mprovements Transportation equipment Gross fixed assets Less: Accum. depreciation Net fixed assets Cash-value life insurance 130 0.4 26.9 56 2 373 146 163 60.4 53.5 35.0 85 97 110 40.7 45 18.5 49 18.8 53 19.6 5.3 14 5.4 13 $243 16 5.9 Total assets 1000 $260 100.0 $270 100.0

Answer 1

1) The following two ways by eich State Bank can ask the loan of Dry Supply be subordinated :-

a) As there is already subordinate debt- officers standing in the liabilities side of Balance Sheet because anyone who believes in the story of a company supports the borrower in two ways via a subordinated loan. In addition to a direct financial incentive for the borrower, other lenders also become warmed by a subordinated loan. After all, the position of the ordinary lender is strengthened, as a result of which banks will suddenly be inclined to allow credit.

b) Because of higher yield, the increase trend can be seen from in the yield in this case as because anyone who compares the interest rate of the personal loan and the subordinated loan interest notes that the interest rate of the subordinated loan is several times higher. The increased risk for the lender of the subordinated loan is therefore compensated by a higher yield.

2) If Mrs. Neilson has secured her debt with a lien on the specific piece of equipment, then the State Bank can , in case of default of repayment of the debt, can call an auction for that piece of equipment to recover the Prinicipal and Interest of the Debt proceedings.