J&H Lumber Incorporated

The staff at J&H Lumber Incorporated has been asked to prepare the annual financial plans for presentation to the management team. There are major uncertainties facing the company. Increases in the mortgage interest rate could have a substantial effect on home construction and, hence, on the demand for and price of plywood. The economic outlook is for cost increases in raw materials and supplies which would substantially affect profitability. Finally, negotiations with the union are underway, and the wage agreement reached will have a big effect on costs.

The planning staff is to develop a model to study the effects of these and other uncertainties on the plywood mill operations and profitability.

Plywood Mill Operations

The operations of plywood manufacturing starts when logs are peeled into thin strips of veneer, which are then passed through an oven and dried. Different varieties of trees are used, different thickness' of veneer are required, and veneer of differing quality results from the various tree varieties. The veneer is cut, sorted, and upgraded by patching. Finally, a mix of different thickness' and types of plywood is produced by gluing together veneer of like grades and thickness. A glue press is used in this stage of production. Finally, the plywood is trimmed, sanded, and shipped to market.

Certain by-products result from the plywood manufacturing process. Wood that is unsatisfactory for veneer is converted into wood chips and sold to the company's paper making division.

A log can be peeled down only to a certain diameter. The center part, or core, is shipped to a beam mill and cut up into 2 X 4's and other lumber products.

In addition, veneer can be purchased from outside vendors and used to make plywood.

Plywood Demand

The plywood estimated demand, which is seasonal is shown below. Actual sales, however, are limited by the company's pressing capacity. The plywood sales price is $192/MSF (thousand square feet).

Quarter                        Plywood Demand (MSF)

                 1                                         298,000

                 2                                         304,000

                 3                                         286,000

                 4                                         202,000

It is industry practice not to inventory plywood at the mill. Thus, in any quarter the mill produces either at the demand level for the quarter, if it has sufficient capacity, or at maximum capacity if demand exceeds capacity. The orders are lost if not meet in the quarter ordered.

By-product

As stated earlier, lumber cores are left from logs after peeling. These are shipped to the company's lumber mill for conversion into various types of lumber. On average, 0.03 MBF (thousand board feet) of lumber cores result from every MSF of veneer peeled.
Similarly, chips are produced as a by-product of the peeling operation. This results in 0.14 units of chips for every MSF of veneer. The chips are shipped to the company's paper mill for conversion into paper products.

The price the plywood mill receives for these by-products is based on the outside market price for comparable products. For the next year, these prices are expected to be $21/unit for chips and $69/MBF for lumber cores.

Financial Factors

Sales revenue is simply the amount of plywood, chips, and cores sold times the sales or transfer of prices. The company's sales term are 2/10, n/30 for plywood sales, virtually all the customers take advantage of this discount. In addition, the company pays its brokers a 4 percent commission on plywood sales. There are no discounts or commissions on sales of chips or cores. Plywood is shipped by truck, and J&H Lumber, Inc. bears this cost. Freight costs are expected to average $.98 per MSF of plywood sold. Other fixed selling expenses are expected to be $825,500 each quarter.

Operating costs:

For each thousand square feet (MSF) of veneer peeled, the cost of operating materials and supplies is expected to be $3.86. For plywood, this cost is estimated at $7.08/MSF.

Labor hours required are 1.40 hours/MSF for veneer peeled and .75 hours/MSF for plywood. The labor cost per hour is currently being negotiated with the union, and an average cost of $16 per hour is expected under the new contract.

The fixed costs associated with operating the mill are expected to be $1,350,000 per quarter. General and administrative expenses allocated to the mill are estimated at $825,000 per quarter; miscellaneous expenses are estimated at $112,000 per quarter.

A major decision problem for J&H Lumber Inc. is to match the plywood products manufactured with the market demand on the one hand and with the mix of logs and purchased veneer on the other.

For planning purposes, the mill's operation can be somewhat simplified. Logs to be peeled come from the company's own timber lands. Logs are considered as a whole and are not classified by varietiesor quality. Currently the company is anticipating a cost of $65 per MBF for its logs.

Veneer
The logs are peeled into veneer and dried. On average, each board foot of log results in 7.72 square feet of usable veneer. A major limitation is the peeling capacity available. Currently the company has the peeling capacity to produce 730,000 MSF of veneer per quarter. If J&H Lumber Inc. does not have enough peeling capacity to meet requirements, it can purchase veneer on the outside market. The estimated purchase price is $37 per MSF.

Veneer, both internally produced and purchased, is glued into plywood sheets on the glue press. On average it takes 3 ¼ square feet of veneer to make one square foot of plywood sheet (at standard 3/8 inch width). The company currently has pressing capacity of 275,000 MSF of plywood per quarter.

Inflation appears to be under control, since the latest figures show that the inflation rate is zero. However, if the company "heats up," certain costs will be affected. The cost of logs, veneer, veneer supplies, and plywood supplies will increase with inflation, starting with the first quarter. Therefore, this factor must be built into the model in case of an inflation change.

The demand for plywood has been estimated. A factor must be built into the model (cell B4) so that a change in demand (increase or decrease) can be entered here. An increase in this cell - say, 10 percent - should be reflected in an increase in cells B9 to E9 of 10 percent. The plywood market is such that the drop in price is roughly half of the drop in demand. For example, if the demand change is down 10 percent, the price the plywood sells for will drop 5 percent. Also, the price the chips and cores sell for will also drop 5 percent. Similarly, an increase in demand of 10 percent will cause a price increase of 5 percent for these products.

J&H Lumber Inc. pays income taxes quarterly. The quarterly tax table (thousands of dollars) is:

     Profit (M$)                                     Taxes

     Less than $4,000                $0 + .2 of all over $0

     $4,000 to $6,000                $800 + .3 of all over $4,000

     $6,000 to $7,000                $1,800 + .35 of all over $6,000

     over $7,000                                    $4,000 + .48 of all over $7,000

REQUIRED:

Prepare the pro forma income statement for J&H Lumber, Inc. at thecurrent level of production and projected expenses. Print your results. Print a pie graph of the total expense using the following categories: Logs, Veneer, Supplies and Miscellaneous Expenses, Labor, Fixed Costs (inc.G & A), Taxes, and Net Profit.

J&H Lumber, Inc. Is concerned about its gluing equipment and lost sales. The company is considering several options for plant expansion.

Sell $8,000,000 of 7% twenty year bonds. The interest would be paid June 30, and December 31. The current market rate for this type of bond is 8%. This would increase the pressing capacity to meet current demand. Would this be a good investment by the company?

Analyze the effect of the above option would have on J&H Lumber, Inc.

Attachment:- J-H Lumber.rar