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Microsoft Power Point   Report To Client Template April 2008
 

Microsoft Power Point Report To Client Template April 2008

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Typical financial diagnostic and client deliverable I render as part of my work.

Typical financial diagnostic and client deliverable I render as part of my work.

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    Microsoft Power Point   Report To Client Template April 2008 Microsoft Power Point Report To Client Template April 2008 Presentation Transcript

    • ABC Inc. Initial findings and restructuring plan April XX, 2008
    • Contents Overview 3 Executive summary 4 Performance analysis (Financial) 7 Performance analysis (Operations) 19 Restructuring plan 24 Appendix A 27 © Samson Bélair/Deloitte & Touche s.e.n.c.r.l. and affiliated entities. ABC Inc. 2
    • Overview • ABC Inc. (“ABC” or the “Company”) has experienced a rapid downturn in its sales volume and has, for the first time, missed the expected financing covenants with its financial partners. These events have put pressure on the Company’s finances and caused management to question the present financial and operational structure. • As such, Samson Bélair/Deloitte & Touche s.e.n.c.r.l. (“Deloitte”) has been hired by the Company to analyze its current financial situation and to recommend ways to improve cash flow and thus return the Company to the desired level of profitability. • The following report outlines initial findings. The majority of findings are supported by a series of analyses. Other findings and recommendations presented are based on interviews with management and other on-site observations. • Management has requested that portions of this report be communicated to the principal financial stakeholders and that Deloitte assist management in the preparation and the implementation of a communication strategy. Management of the Company has prepared the prospective financial information referred to herein to present the revised forecast for 2007-2008, the cash flow and borrowing base. Therefore management is solely responsible for representations about its plans and expectations and for disclosure of significant information that might affect the ultimate realization of the prospective financial information. Deloitte has not expressed any opinion or other form or assurance on this information or its feasibility or its achievability and assumes no responsibility for, and disclaims any association with the prospective financial information. This information is not fact and should not be relied upon as being necessarily indicative of future results, and readers of this report are cautioned not to place reliance on the prospective financial information. The assumptions and estimates underlying management’s prospective financial information are inherently uncertain and, though considered reasonable by management as of the date of its preparation, are subject to a wide variety of significant business, economic and competitive risks and uncertainties that could cause actual results to differ materially from those contained in the prospective financial information. © Samson Bélair/Deloitte & Touche s.e.n.c.r.l. and affiliated entities. ABC Inc. 3
    • Executive Summary The following serves as a summary of key issues identified to date: General overview • The US economy’s downturn began around August 2007 and, as financial markets became unstable, consumer spending tightened such that retail sales slumped. This decline became most evident to ABC when it observed disappointing peak season results (Oct-Dec 2007) relative to initial forecasts. • The Company has experienced financial problems over the past months related to the following: – Rapidly declining sales levels; – Lower accounts receivable turnover yielding higher balances due to slower payments from customers; – Increasing levels of returns. • The Company’s sales have been adversely affected from the rise of the Canadian dollar, and though measures were taken in 2007 with its main supplier to naturally hedge its risk, a significant loss ($14.5M) was incurred between 2005 and 2007. Immediate issues Managing financial stakeholders’ expectations and concerns For the first time, the Company finds itself in a negative borrowing base position; • Short-term liquidity concerns may impair the Company’s ability to develop certain projects; • Pressure from a key supplier, XYZ Inc. (“XYZ”), may add to the Company’s financial challenges; • At present, the Company needs to review contractual obligations with key financial stakeholders. Understanding and addressing declining sales and increased returns • The Company’s traditional sales channels are tightening up. The Company must turn to alternative channels to liquidate excess inventory and generate cash flow; • Inventory management and clients order management have had a significant impact on the Company’s cash flow. © Samson Bélair/Deloitte & Touche s.e.n.c.r.l. and affiliated entities. ABC Inc. 4
    • Executive Summary (continued) The following serves as a summary of key issues identified to date: Immediate issues Optimizing the cost structure and concerns • Though management recognized the advantages of outsourcing part of its operations to XYZ, this (continued) transition should be completed to reduce fixed costs and optimize the Company’s financial structure to give it additional flexibility; • Initial calculations indicate that significant savings could be generated by completing the transition to outsourcing; • Though management proactively implemented cost-cutting measures to date, it may become necessary to consider additional initiatives to right-size operations if sales continue to decline. © Samson Bélair/Deloitte & Touche s.e.n.c.r.l. and affiliated entities. ABC Inc. 5
    • Executive Summary (continued) The following serves as a summary of key issues identified to date: Other issues and Managing and forecasting concerns • The Company does not appear to have the management tools needed to properly review the profitability of sales: – Analysis of profitability by SKU; Operations – Analysis of return rates by SKU and how they affect profit. • The Company does not have the proper financial tools necessary to prepare accurate and useful forecast and to monitor actual results: – Linked P&L, balance sheet and cash flow schedule. • Proper tools will need to be put in place in order to improve financial reporting, monitoring and operational planning. Slow moving inventory • A systematic liquidation of slow moving inventory should be considered as a permanent measure to generate additional liquidities and deal with excess inventory. © Samson Bélair/Deloitte & Touche s.e.n.c.r.l. and affiliated entities. ABC Inc. 6
    • Performance analysis Financial
    • Financial results analysis Actual Quarterly Results Annual Results 18,000 45,000 16,000 40,000 14,000 35,000 12,000 30,000 CAN$000 CAN$000 10,000 25,000 20,000 8,000 15,000 6,000 10,000 4,000 5,000 2,000 - - 2002 2003 2004 2005 2006 2007 2008 (5,000) Q2 - Q3 - Q4 - Q1 - Q2 - Q3 - Q4 - Q1 - Q2 - 2006 2006 2006 2007 2007 2007 2007 2008 2008 Audited Audited Audited Audited Audited Audited Forecast Net sales EBITDA Net sales Gross margin EBITDA Key insights • Since 2002, net sales have steadily risen from $21.4M to $37.9M in 2007 for a compound growth of 77%. The revised sales forecast for 2008 estimates sales will decline to $25.4M of sales for a decrease of 33%. • EBITDA, for the same period, has improved from $1.8M to $3.3M for a compound growth of 83% but forecasted EBITDA for 2008 will decline to negative ($2.15M). • Quarterly results made available since 2006 indicate that Q2 (Oct–Dec) is traditionally the peak sales period. • Sales for Q2 2008 were significantly lower than historical results and off by $2.5M relative to forecasts. • These results have prompted a review of the 2007-2008 forecast presented hereinafter. While the sales have trended upward and Q2 has historically been a peak period for sales, 2007-2008 results will likely reverse that trend. © Samson Bélair/Deloitte & Touche s.e.n.c.r.l. and affiliated entities. ABC Inc. 8
    • Financial results analysis (continued) Actual % of Actual % of Actual % of Actual % of ($000) 20061 Net sales 20071 Net sales Q1 - 20082 Net sales Q2 - 20082 Net sales Net sales 35,910.9 37,915.9 9,481.9 8,625.7 Cost of sales 23,840.4 24,993.9 6,701.2 5,727.4 Gross margin 12,070.5 33.61% 12,922.0 34.08% 2,780.7 29.33% 2,898.3 33.60% Administrative salaries 2,117.4 2,443.0 582.3 643.5 Sales salaries and commissions 2,003.7 1,779.3 362.9 385.5 Warehouse salaries 499.3 667.5 151.8 99.7 Other SG&A expenses 5,814.8 6,575.8 1,382.3 1,464.6 Total SG&A expenses 10,435.2 29.06% 11,465.6 30.24% 2,479.3 26.15% 2,593.3 30.06% Earnings before income taxes 1,635.3 4.55% 1,456.4 3.84% 301.4 3.18% 305.0 3.54% Note 1: Not based on the Company's fiscal year, but based on the calendar year (January 1 to December 31). Note 2: Q1 and Q2 of 2008 Company's fiscal year are included in Actual 2007 as the last 6 months of 2007. Key insights • For 2006 and 2007, SG&A expenses increased by 9.8% from $10.4M to $11.5M while sales increased by 6% for the same period. • As fixed costs growth has outpaced sales growth for the period the Company’s earnings have dropped by 12%. • In reaction to these results, the Company implemented a first round of cost-cutting measures estimated at $1.8M annually, whose benefits will impact cash flow and results positively as of April 2008. The Company initiated cost-cutting measures estimated to yield $1.8M in annual savings when sales growth no longer outpaced fixed costs growth. © Samson Bélair/Deloitte & Touche s.e.n.c.r.l. and affiliated entities. ABC Inc. 9
    • Foreign exchange impact Audited Audited Audited YTD Total 1 ($000) 2008 2005 2006 2007 Net sales 32,653 32,660 37,916 18,108 USA sales (80% of net sales) ($CAN) 26,122 26,128 30,333 14,486 Average foreign exchange 1.2494 1.1629 1.1327 1.0134 USA sales (US$) 20,908 22,468 26,779 14,295 2 USA sales (CAN$) without foreign exchange fluctuation 27,638 29,700 35,399 18,896 Loss (Gain) of sales due to foreign exchange fluctuation 1,516 3,572 5,067 4,410 14,565 Note 1: 6 month-period ended as of December 31, 2007. Note 2: Calculated with a foreign exchange rate of 1.3219 as of July 2004. Key insights • The US dollar dropped by 23% from CAN$1.3219 in July 2004 to CAN$1.0134 by December 31, 2007. • The graph on the right illustrates the foreign exchange fluctuations of this period, starting with July 2004 (fiscal 2005) and trending downwards to December 2007(6 months of fiscal 2008). • The cumulative impact of these foreign exchange fluctuations on net sales from 2005 to this year is estimated to represent a loss of $14.6M in net sales. © Samson Bélair/Deloitte & Touche s.e.n.c.r.l. and affiliated entities. ABC Inc. 10
    • Balance sheet analysis Quarterly evolution of receivables and inventory vs net sales Annual evolution of receivables and inventory vs evolution of net sales 25,000 40,000 20,000 35,000 (CAN$000) 30,000 (CAN$000) 15,000 25,000 20,000 10,000 15,000 10,000 5,000 5,000 - - 2006 2006 2006 2007 2007 2007 2007 2008 2008 2002 2003 2004 2005 2006 2007 2008 Jan Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Audited Audited Audited Audited Audited Audited Forecast Net sales Receivables Inventory Net sales Receivables Inventory 2002 2003 2004 2005 2006 2007 Key insights ($000) Net sales 21,416 27,133 29,894 32,652 32,660 37,916 COGS 14,548 17,796 20,714 21,025 21,385 24,967 • From 2002 to 2006, accounts receivable steadily grew from $8M to $13.7M (compound growth of 71%) while AR (% of net sales) 37.4% 20.2% 23.7% 35.1% 42.0% 49.7% sales volume grew from $21.4M to $32.7M (compound Turnover (days) 137 74 86 128 153 182 growth of 53%). • In 2007, however, sales grew by $5.3M (16%) while Inventory (% of COGS) 38.3% 33.9% 32.6% 38.9% 32.7% 33.2% accounts receivable grew by $5.1M (37%). Turnover (days) 140 124 119 142 119 121 • More notably, sales decreased steadily from $11.1M in Note: Based on fiscal year - July 1 to June 30. Q2 2007 to $8.6M in Q2 2008 (compound decline of 23%). • Accounts receivable for the same period grew from Accounts receivable turnover has been out of step $20.8M to $21.6M (compound growth of 4%). with the evolution of sales, turning over more slowly thus putting additional pressure on cash flow. • Accounts receivable turnover slowed by 108 days (compound growth of 146%) from 74 days in 2003 to The Company would have generated $3M 182 days in 2007. of additional cash flow if its 2007 accounts receivable turnover had matched its 2006 statistics of 153 days. • Inventory turnover stayed stable for the same period. © Samson Bélair/Deloitte & Touche s.e.n.c.r.l. and affiliated entities. ABC Inc. 11
    • Cash flow analysis Audited Audited Audited Audited Internal Total ($000) FY 2004 FY 2005 FY 2006 FY 2007 YTD 20081 Operating activities (459.7) (2,351.0) (2,636.3) (1,751.3) (942.6) (8,140.9) Investing activities (882.2) (801.6) (859.8) (512.0) (72.2) (3,127.8) Financing activities Increase in bank indebtedness 1,640.0 2,600.9 (2,822.3) 2,649.3 1,263.2 5,331.1 Issuance of LT debt - - 5,000.0 - - 5,000.0 Issuance of share capital - - 1,000.0 - - 1,000.0 Repayment of LT debt (71.6) (69.7) (227.2) (299.3) (208.3) (876.1) Loan from parent company - 500.0 (86.7) (86.7) (40.1) 286.5 1,568.4 3,031.2 2,863.8 2,263.3 1,014.8 10,741.5 Net cash (Outflow) inflow 226.5 (121.4) (632.3) - - (527.2) Note 1: YTD 2008 is for the 6-month period ended on December 31, 2007. Key insights • For the past 4½ years, the Company has generated $8.1M in negative cash flow from operating activities. This outflow generally results from an increase in accounts receivable of $9.5M over the past 2 years which has allowed the Company to generate a positive net income for the period. • The $3.1M outflow from investing activities represents the acquisitions of masters, licenses and capital assets. • The Company financed its $11.3M negative cash flow from operating and investing activities by securing additional external financing. This was achieved by an increase of $5.3M of its operating line of credit, an additional $5M in long-term financing from the other financial institution and a $1M investment by the principal shareholder stemming from a sale-leaseback transaction of the Company’s head office property. • In addition, the Company also sold $2.8M of packaging inventory to a supplier in 2007, in a non-cash transaction which resulted in a reduction of the inventory and payables. The Company’s negative cash flow has been entirely financed through debt issuance ($10.3M), sale of assets ($1M) or has been borne by suppliers ($2.8M). © Samson Bélair/Deloitte & Touche s.e.n.c.r.l. and affiliated entities. ABC Inc. 12
    • Eight-month actual results for 2007-2008 8 months - July 2007 to February 2008 % of net % of net Detail of other expenses ($000) Initial budget sales Actual sales Variance Interest expense 573 ($000) ($000) ($000) Advertising & promotion 481 Revenues Rent & utilities 427 Sales 35,309 28,136 7,173 Interest on long-term debt 393 Returns (8,121) 23% (7,640) 27% (481) Car, travel & entertainment 389 Net sales Professional fees 332 27,188 20,496 6,692 Warehouse salaries 312 Commissions 248 Cost of sales 17,988 66% 15,436 75% 2,552 Amortization - licenses and masters 182 Office & computer expenses 160 Gross profit 9,200 34% 5,060 25% 4,140 Amortization - capital assets 156 Insurance and taxes 123 Operating and administrative expenses Provision for FX losses 94 Administrative salaries 1,824 7% 1,679 8% 145 Bad debts 93 Sales salaries Telecommunications 78 1,082 4% 740 4% 342 Capital tax expense 60 Others 4,943 18% 4,220 21% 723 Bank charges 34 Total operating SG&A 7,849 6,639 1,210 Repairs & maintenance 32 Amortization - deferred expenses 32 Earnings (Loss) before income taxes 1,351 (1,579) (2,930) Miscellaneous 21 4,220 Note 1: This budget was submitted to the bank in May 2007. Key insights • Actual net sales were $6.7M (24.6%) less than budgeted for the period with Q2 having been 21% off the initial forecast. • Cost of sales declined by $2.55M (14.2%), though not as quickly as sales over the same period. • The decline in sales, and consequently in gross profits, has resulted in a decline of the earnings before income taxes of $2.9M. • SG&A expenses have decreased by 15% as gross sales decreased by over 20%. Year-to-date sales are $7.2M lower than forecasts for the same period. Management reacted positively by implementing cost-cutting measures, but the lag in timing has not insulated the Company from losses. © Samson Bélair/Deloitte & Touche s.e.n.c.r.l. and affiliated entities. ABC Inc. 13
    • Revised forecast for the remainder of 2007-2008 4 months - March to June 2008 % of net % of net Initial forecast1 sales Revised forecast sales Variance ($000) ($000) ($000) Revenues Sales 16,693 11,544 (5,149) Returns (3,839) 23% (7,551) 65% (3,712) Net sales 12,854 3,994 (8,860) Cost of sales 8,524 66% 3,950 99% (4,574) Gross profit 4,330 34% 44 1% (4,286) Operating and administrative expenses Administrative salaries 908 7% 519 13% (389) Sales salaries 541 4% 233 6% (308) Others 2,423 19% 1,732 43% (691) Total operating SG&A 3,872 2,484 (1,388) Earnings (Loss) before income taxes 458 (2,441) (2,899) Note 1: This budget was submitted to the bank in May 2007. Key insights • Prevailing market conditions have led management to review its sales forecast downwards by $5.2M (30%) for the remainder of the 2007-2008 year (four months). • Expected returns for the balance of the year (from March to June 2008) have been increased significantly by $3,7M (97%) to reflect the Company’s plan to demand that unsold inventory be reprocessed and sold through existing or alternative channels. • Forecasted SG&A expenses have been reduced to reflect implemented cost-cutting measures. However, due to the rapid decline of net sales, SG&A expenses have not been able to be adjusted as quickly, consequently, these expenses have not matched the sales decline. • The Company now forecasts a loss before income taxes for the final 4 months of the fiscal year in excess of $2.4M. The combination of rapid sales decline and high returns will have made a significant impact from March to June 2008 yielding an expected loss of $2.4M. © Samson Bélair/Deloitte & Touche s.e.n.c.r.l. and affiliated entities. ABC Inc. 14
    • Revised forecast Revised Actual Actual Budget Actual Forecast July 07 to March 08 to Revised Initial 2006 2007 2008 February 08 June 08 forecast forecast1 (8 months) (4 months) (12 months) ($000) (In thousand $) Revenues Sales 52,000 28,136 11,544 39,680 Returns (11,960) (7,640) (7,551) (15,191) Net sales 40,040 20,496 3,994 24,489 Net sales 35,911 37,916 24,489 - - Cost of sales 26,509 15,436 3,950 19,386 - - Gross profit 13,531 5,060 44 5,103 Cost of sales 23,840 24,994 19,386 Operating and administrative expenses Administrative salaries 2,732 1,679 519 2,198 Sales salaries 2,271 740 233 973 Gross Profit 12,071 12,922 5,103 Others 6,719 4,220 1,732 5,952 33.6% 34.1% 20.8% Total operating SG&A 11,722 6,639 2,484 9,123 - - Operating and administrative expenses 10,435 11,466 9,123 Earnings (Loss) before income taxes 1,809 (1,579) (2,441) (4,020) 29.1% 30.2% 37.3% Begining retained earnings 4,030 4,030 Ending retained earnings 5,839 10 Earnings (Loss) before income taxes 1,636 1,456 (4,020) Note 1: This budget was submitted to the bank in May 2007. Key insights • Revised forecasts for fiscal year 2007-2008 now show a loss before income taxes of approximately $4M as opposed to forecasted earnings of $1.8M. • Net sales are expected to decline by $13M (35%) for 2008 and gross profit will be significantly lower at $5M. • Retained earnings as at June 2007 were $4M, expected losses will eliminate retained earnings by fiscal year-end. Earnings forecasts for 2008 have been revised downwards significantly due to a rapid sales slowdown thus yielding an estimated $4M loss for the year. © Samson Bélair/Deloitte & Touche s.e.n.c.r.l. and affiliated entities. ABC Inc. 15
    • Estimated borrowing base calculation as at March 31, 2008 At At ($000) February 29 March 31 Key insights Accounts receivable 20,576 18,954 Less: Account over 150 days 8,299 7,113 • Between February 29 and March 31, the borrowing base deficit has Total admissible accounts receivable 12,277 11,841 increased to over $870k, a deterioration of almost $500k. Applicable financing ratio: 68% 68% • The borrowing base has remained stable, however the bank loan has Lending value on accounts receivable 8,348 8,052 increased by $500k between February 29 and March 31, 2008. Lending value on inventory 2,716 3,000 • Ineligible accounts receivable have decreased by over $1M, in part 11,064 11,052 because of the high level of returns. • Lending value on inventory is capped Total claims to be deducted (1) 792 792 at $3M due to the high levels of returns in February. These returns caused inventory levels to increase Borrowing base 10,272 10,260 significantly. Estimated loan balance 10,662 11,131 Surplus (Deficit) (390) (871) Note 1: Prior claims as at March 31 were estimated to be the same as the previous month. Borrowing base deficit has deteriorated by $500k in the month of March as the bank loan has increased by the same amount. © Samson Bélair/Deloitte & Touche s.e.n.c.r.l. and affiliated entities. ABC Inc. 16
    • Forecasted 13-week cash flow and borrowing base March 31 May 5 June 2 Critical success factors to to to May 2 May 30 June 27 Total Estimated loan balance - Opening 11,131 11,331 10,174 11,131 • The Company will liquidate finished goods inventory for $1M; Total receipts 2,128 3,018 2,120 7,266 • The other financial institution will agree to a Total disbursements 2,328 1,862 1,769 5,958 moratorium on the repayment of interest and capital on its long-term debt for 6 months. Net source (Use) of funds from operations (200) 1,157 351 1,308 • The Company’s accelerated accounts receivable objectives will be met. Net loan balance - Closing 11,331 10,174 9,823 9,823 Borrowing base 10,792 9,949 10,251 Surplus (Deficit) (539) (225) 428 Key insights • Management estimates that its short-term liquidity measures will yield improvements for the bank’s position. • The loan balance is estimated to drop from $11.1M to $9.8M, while the borrowing base reverts from a deficit of $539k to a surplus of $428k over the same period. • However, the weekly cash flow and borrowing base prepared by the Company (see Appendix A) show a loan balance that rises as high as $12.5M before decreasing to $9.8M. • Since accounts receivable collections are traditionally month-end loaded, this explains the borrowing base deficits in the interim periods. • The borrowing base deficit reaches a high of $1.4M before reverting to a surplus position of $428k by the end of June. • Cash receipts include $1M in receipts from the liquidation of excess inventory. Management’s short-term liquidity measures can lower the outstanding bank balance and improve the borrowing base. © Samson Bélair/Deloitte & Touche s.e.n.c.r.l. and affiliated entities. ABC Inc. 17
    • Estimated liquidation value as at March 31, 2008 Book Estimated Estimated Value Realization Liquidation ($000) March 31 Value Key insights Accounts receivable Accounts under 150 days 11,841.0 Expected returns 30% (3,552.3) Net receivables 8,288.7 60% 4,973.2 Accounts over 150 days 7,113.0 • The bank loan as at March 31, 2008 is $11.1M. Expected returns 75% (5,334.8) Net receivables 1,778.3 60% 1,067.0 • The liquidation value of the assets subject to the Other receivables 537.6 0% - bank’s security as at March 31, 2008 is estimated at Total 6,040.2 $10M before liquidation costs. Inventory Raw materials at XYZ Inc. 791.7 5% 39.6 • The estimated deficit for the bank if operations ceased Other raw materials 588.2 5% 29.4 at March 31, 2008 would have been $1.1M before Inventory at XYZ Inc. 2,139.6 liquidation costs. Best-seller products 47% 1,005.6 50% 502.8 Regular products 19% 406.5 50% 203.3 • Accounts receivable are significantly discounted to Slow-moving products 26% 556.3 20% 111.3 Non-moving products 8% 171.2 15% 25.7 reflect expected discounts to customers. 100% • Challenges related to the liquidation of inventory: Inventory in LaVille and on consignment 6135.8 Best-seller products 17% 1,043.1 50% 521.5 – Limited to North American market (licensing rights); Regular products 29% 1,779.4 50% 889.7 Slow-moving products 24% 1,472.6 20% 294.5 – Purchasers need retail outlets which would compete with Non-moving products 30% 1,840.7 15% 276.1 existing clients; 100% – Accounts receivable and inventory realization values Returns from clients (A/R) 8,887.1 Returns at cost 50% 4,443.5 20% 888.7 could be negatively impacted if there was a flood of 3,782.6 product on the market. Intellectual property • Intellectual property includes licenses, masters and (book value as at January 30, 2008) 800.0 25% 200.0 pre-paid royalties. Liquidation value of the assets subject to the security of the bank 10,022.7 Estimated loan balance as at March 31, 2008 11,100.0 Surplus (Deficit) (1,077.3) In a liquidation scenario, the bank’s estimated position at March 31, 2008 would have been deficient by $1.1M. © Samson Bélair/Deloitte & Touche s.e.n.c.r.l. and affiliated entities. ABC Inc. 18
    • Performance analysis Operations
    • Client analysis Returns in percentage of sales 2006 2007 2006 2007 ($000) Sales Returns % of sales Sales Returns % of sales ($000) Sales Returns % of sales Sales Returns % of sales Superstore A 23,381.9 7,115.3 30.43% 27,023.4 6,007.9 22.23% Superstore D (US) 16,717.6 6,038.1 36.12% 19,531.6 4,952.6 25.36% Superstore B 6,610.7 1,236.8 18.71% 4,620.0 2,230.8 48.29% Superstore E (US) 2,918.6 355.5 12.18% 3,450.1 335.9 9.74% Superstore C 2,352.3 58.2 2.47% 4,434.4 583.2 13.15% Superstore E (CDN) 2,227.0 542.8 24.37% 2,165.6 421.9 19.48% Others (CDN) 3,294.4 741.1 22.50% 2,959.7 669.8 22.63% Superstore A (CDN) 1,518.7 178.9 11.78% 1,876.1 297.5 15.86% Others (US) 7,692.8 299.5 3.89% 6,663.3 595.4 8.94% Total Superstore A 23,381.9 7,115.3 30.43% 27,023.4 6,007.9 22.23% Total 43,332.1 9,450.9 21.81% 45,700.8 10,087.1 22.07% Key insights Key insights • Return rates with Superstore B increased significantly from • Superstore D return rates are significantly higher than other 18.71% in 2006 to 48.29% in 2007. Management believes that intermediaries who cater to Superstore A, though the rate has this was exceptionally due to a communication breakdown on a dropped measurably from 2006 to 2007. promotion item which was improperly marketed by the client. • Management’s challenge will be to improve communication with • Notwithstanding the preceding, sales to Superstore B dropped Superstore D so as to better coordinate production with expected by 30% from 2006 to 2007. A review of the client approach is returns to optimize inventory management. warranted to identify means to recapture lost sales. • If Management had better controlled Superstore D returns and • Superstore C represents a potential avenue to grow sales all the yielded an average return rate equivalent to the other while limiting returns due to the promotion package in place. intermediaries (14%), returns for 2007 would have been 2.2M units lower. • Overall, return sales have remained stable relative to sales. © Samson Bélair/Deloitte & Touche s.e.n.c.r.l. and affiliated entities. ABC Inc. 20
    • Warehouse analysis Impacts of outsourcing warehousing of LaVille Warehouse in LaVille Actual Warehouse ($000) ($000) 2007 2007 Warehouse salaries (100%) 668 668 Estimated costs of implementing this strategy Cost to disclaim lease1 Rent (70%) 655 459 (330) Insurance and taxes (70%) 184 129 Moving costs (15) Employees2 Repairs and maint. (100%) 74 74 (40) Warehouse equipment liquidation3 Cost of returns ($0.205/unit) - Supplier 128 140 Processing cost of units sent to XYZ Inc.4 1,581 1,458 (300) Liquidation of LaVille's inventory5 1,000 455 Shipped quantity from LaVille (000 units) 6,416 Returned quantity to LaVille (000 units) 623 Note 1: Cost to disclaim the lease is estimated to be 6 months of the actual rent which is about $55k per month. XYZ Inc. fulfillment (per unit) 0.10 XYZ Inc. return processing (per unit) 0.17 Note 2: Company would keep two employees with an annual salary of $40k each for 6 months to manage the inventory liquidation and transition. Cost to outsource to XYZ Inc. Note 3: Warehouse equipment realization is estimated at 50% of its book value of $285k. Shipping cost ($0.10/unit) 642 Processing cost ($0.17/unit) 106 Note 4: Company would liquidate all its $3.2M of non-moving and slow-moving products at a net value of $1M. Total 748 Note : Company would send the balance of $2.8M of its inventory in LaVille to XYZ Inc. and will assume a processing cost of $0.17 per unit. Estimated loss (Benefit) to outsource (710) Key insights • Outsourcing its warehousing to XYZ would have represented savings of approximately $700k for the fiscal year ended December 31, 2007. This excludes other potential savings which we were not able to evaluate such as transport fees and duplicated fulfillment fees related to orders for inventory coming from the three warehouses, other potential production and IT savings, costs of some special pallets, depreciation of fixed assets, potential volume rebates from XYZ, etc. The outsourcing of its Canadian warehouse management to XYZ would represent significant annual savings. The Company must find a way to leave its current premises, to move its administration into smaller offices and to outsource its Canadian warehousing to XYZ. © Samson Bélair/Deloitte & Touche s.e.n.c.r.l. and affiliated entities. ABC Inc. 21
    • Unit margin by client and products Superstore D Superstore B Superstore E Superstore E Superstore D Superstore B Superstore E Superstore E USA USA USA Canada USA USA USA Canada CD Multipack CD Single Unit price 7.14 17.28 5.03 3.52 Unit price 3.51 N/A 3.57 1.96 Unit cost (2.41) (5.29) (2.02) (2.42) Unit cost (1.00) (1.07) (0.91) Unit margin 4.73 11.99 3.01 1.10 Unit margin 2.51 2.50 1.05 Royalties1 (0.88) (2.13) (0.62) (0.43) Royalties1 (0.43) (0.44) (0.24) Fulfillment (0.10) (0.10) (0.10) (0.10) Fulfillment (0.10) (0.10) (0.10) Display N/A (0.35) N/A N/A Delivery, freight and duty2 (0.18) (0.18) (0.10) Delivery, freight and duty2 (0.36) (0.86) (0.25) (0.18) Gross margin 1.80 1.78 0.61 Gross margin 3.39 8.55 2.04 0.39 Each return Each return Processing (0.17) (0.17) (0.17) Processing (0.17) (0.17) (0.17) (0.17) Fulfillment (0.10) (0.10) (0.10) Fulfillment (0.10) (0.10) (0.10) (0.10) Delivery, freight and duty2 Delivery, freight and duty2 (0.18) (0.18) (0.10) (0.36) (0.86) (0.25) (0.18) (0.45) (0.45) (0.37) (0.63) (1.13) (0.52) (0.45) Number of profitable returns 4.00 3.96 1.65 Number of profitable returns 5.38 7.57 3.92 0.87 Superstore D Key insights USA DVD Multipack Unit price 3.15 Unit cost (2.21) • Margins vary widely for the same product across clients. Unit margin 0.94 • Generally, for each kind of product, the Company has smaller margins with Superstore E Royalties1 (0.39) than with other clients we evaluated. Fulfillment (0.10) Delivery, freight and duty2 • The unit margin for Superstore E Canada is very small, but we did not test other Canadian (0.16) Gross margin 0.29 clients. If the Company thinks it could be useful, we could do so for their other big clients. • The Company appears to have very good margins with Superstore B, but sales to Each return Superstore B are decreasing and returns are increasing. Processing (0.17) Fulfillment (0.10) • DVD sales, which represent approximately 18% of sales, have a profitable return rate of 2 Delivery, freight and duty (0.16) less than 1 indicating that such sales are riskier. (0.43) Number of profitable returns 0.67 Note 1: The Company estimated its average royalties payable at 12.35% of selling price because the data on file does not produce a cost analysis which includes this expense. Note 2: Delivery, freight and duty expenses have been evaluated as a percentage of 2007 gross sales. © Samson Bélair/Deloitte & Touche s.e.n.c.r.l. and affiliated entities. ABC Inc. 22
    • Benchmarking 2006 2007 Key insights from Competitor’s Y/E report Competitor DS Variance Competitor DS Variance ($000) USD CAD USD CAD Net sales 77,109 35,911 41,198 93,195 37,916 55,279 • Competitor has liquidated $3M worth of COGS 52,721 23,840 28,881 67,765 24,994 42,771 discontinued, overstock and slow-moving Gross margin 24,388 12,071 12,318 25,430 12,922 12,508 inventory. • Competitor outsources most of its manufacturing Gross Margin 31.6% 33.6% -2.0% 27.3% 34.1% -6.8% and all of its return processing requirements. EBITDA (% of net sales) 7.0% 9.1% -2.1% 5.1% 9.6% -4.6% • Competitor’s declared business strategy : AR (% of net sales) 37.9% 57.9% -20.0% 30.7% 56.8% -26.1% - Expand footprint outside of traditional music Turnover (days) 138 211 -73 112 207 -95 marketplace - Increase the efficiency of its cost structure Inventory (% of net sales) 19.2% 21.7% -2.6% 20.2% 22.4% -2.2% Turnover (days) 70 79 -9 74 82 -8 - Increase market share. • Statistics show that retail unit sales were AP (% of COGS) 34.1% 40.1% -6.0% 29.3% 41.0% -11.7% down 15% for fiscal year-end 2007 from fiscal Turnover (days) 125 146 -22 107 150 -43 year-end 2006. Note: Based on calendar year - Jan 1 to Dec 31. Key insights • ABC gross margin and EBITDA are better than Competitor’s and have progressed in 2007. • Based on December 31 accounts receivable figures, ABC’s turnover is significantly lower than Competitor’s. ABC takes approximately three months more ($9.9M) than Competitor to collect its receivables. • ABC’s payable turnover is approximately two months faster than its receivable turnover, thus financing its customers for 60 days ($6.3M). © Samson Bélair/Deloitte & Touche s.e.n.c.r.l. and affiliated entities. ABC Inc. 23
    • Restructuring plan
    • Restructuring plan Number of Annual Key insights Department Employees ($000) • The Company has contacted liquidators to liquidate slow-moving inventory. Administration 3 77 Management has forecasted receipts of $1M for this initiative. Creative 3 79 • Administrative, sales and warehouse salaries have been reduced by Production 1 44 approximately $150k/month with savings beginning as of April 2008. Product developer 3 231 • The Company had discussions with the other financial institution regarding a IT 1 27 moratorium on the repayment of capital and interest on its long-term debt, which would represent a cash flow saving of approximately $110k/month – Sales 5 381 discussions are still underway. Warehouse 6 128 • The Company plans to negotiate an agreement with its key supplier, XYZ, to Agency personel 370 agree on terms of payment for its account payable and possibly transition Total lay offs 22 1,337 additional distribution operations. • The Company is looking into transferring all of its fulfillment and return General pay cuts 6 443 processing requirements to XYZ in order to gain some additional cash flow by lowering fixed costs. Total savings 28 1,780 Short-term cash inflows Long-term recurring cash flow improvements ($000) ($000) Liquidation of slow-moving inventory 1,000 Salary cuts 1,800 Moratorium on repayment of debt Transfer Canadian processing and 710 (6 months) 660 returns to XYZ Inc. (Projected) 1,660 2,510 Preliminary restructuring plan initiatives could generate recurring annual cash flow improvements of approximately $2.5M. © Samson Bélair/Deloitte & Touche s.e.n.c.r.l. and affiliated entities. ABC Inc. 25
    • Management tools Key tools A review of the Company’s operational management systems has revealed the absence of key management tools which hampered the Company’s ability to react to market factors in a timely manner. • A complete monthly budgeting tool including a linked P&L, balance sheet and cash flow This would allow the Company to forecast results and bank position in advance, track inventory needs and asset utilization. • A monthly budget control tool which would allow the monthly comparison of actual results to the forecast This tool is essential to identify trends and to quickly flag problems during an operational cycle. • A unit cost system which will permit the Company to evaluate the cost and margin for each of its products This would allow the Company to adjust its selling price as necessary and to determine which products should be produced or not. • A tracking system of licenses, masters and prepaid royalties This would enable the Company to determine the profitability of each of its masters license and royalty in order to evaluate the individual profitability and determine a break-even point based on the forecasted sales. • A tracking system of returns by client and by product • A tracking system of margins by product by client • A tracking system linked with the major customers to forecast estimated returns by product This would allow the Company to plan future production by product based on estimated returns. • A systematic liquidation process for slow-moving products To keep inventory levels at a minimum and generate cash flow. With the proper tools in place, the Company would be in a better position to improve its financial and operational planning, track its performance and identify challenges to better react. © Samson Bélair/Deloitte & Touche s.e.n.c.r.l. and affiliated entities. ABC Inc. 26
    • Appendix A
    • Appendix A Detailed cash flow projection ($000) BUDGET BUDGET BUDGET BUDGET BUDGET BUDGET BUDGET BUDGET BUDGET BUDGET BUDGET BUDGET BUDGET TOTAL Week 1 Week 2 Week 3 Week 4 Week 5 Week 6 Week 7 Week 8 Week 9 Week 10 Week 11 Week 12 Week 13 Week beginning 31-Mar 7-Apr 14-Apr 21-Apr 28-Apr 5-May 12-May 19-May 26-May 2-Jun 9-Jun 16-Jun 23-Jun Total 11,131 11,537 11,802 12,278 12,508 11,331 11,740 12,122 12,445 10,174 10,718 11,211 11,552 11,131 Estimated loan balance net & term Loan - Opening Receipts Receipts from opening accounts receivable 11 250 15 90 1,762 83 220 13 2,202 5 10 5 1,600 6,266 Receipts from new accounts receivable - - - - - - - - - - - - - - Sale of obsolete inventory - - - - - - - - 500 - - - 500 1,000 Total receipts 11 250 15 90 1,762 83 220 13 2,702 5 10 5 2,100 7,266 Disbursements Payroll and payroll deductions - - 110 - 110 - 110 - 110 - 90 - 90 620 Commissions - 25 - - - 15 - - - 53 - - - 93 Suppliers 313 315 271 246 406 262 412 262 252 362 262 262 212 3,837 Royalties, licenses and masters 23 23 23 23 23 23 23 23 23 23 23 23 23 299 Rent - - - - - 56 - - - 56 - - - 112 Utilities - 7 - - - 7 - - - - 7 - - 20 Insurances - - 10 - - - 10 - - - - 10 - 30 Corporate taxes 20 20 20 20 20 20 20 20 20 20 20 20 20 260 Professional fees 40 20 35 10 5 5 5 10 5 5 5 10 5 160 Long term debt (capital and interests) - - - - - - - - - - - - - - Interests on the credit line - 75 - - - 75 - - - - 75 - - 225 Other 21 30 22 21 21 30 22 21 21 30 22 21 21 303 Foreign exchange effect - - - - - - - - - - - - - - Total disbursements 417 515 491 320 585 493 602 336 431 549 504 346 371 5,958 (406) (265) (476) (230) 1,177 (410) (382) (323) 2,271 (544) (494) (341) 1,729 1,308 Net source (Use) of funds from operations 11,537 11,802 12,278 12,508 11,331 11,740 12,122 12,445 10,174 10,718 11,211 11,552 9,823 9,823 Net loan balance - Closing Borrowing base 10,401 10,627 11,013 11,347 10,792 10,282 10,687 11,232 9,949 9,856 10,596 11,339 10,251 Surplus (Deficit) (1,136) (1,174) (1,265) (1,160) (538) (1,458) (1,435) (1,213) (225) (862) (616) (213) 428 © Samson Bélair/Deloitte & Touche s.e.n.c.r.l. and affiliated entities. ABC Inc. 28
    • © Samson Bélair/Deloitte & Touche s.e.n.c.r.l. and affiliated entities. Deloitte, known in Québec as Samson Bélair/Deloitte & Touche s.e.n.c.r.l., is one of the leading professional services firms in Québec and Canada, providing audit, tax, financial advisory and consulting services. In Québec, approximately 1,900 people regularly draw on their expertise for clients from every sector of the economy. With over 7,600 people working in 56 offices across the country, Deloitte is dedicated to helping its clients and its people excel. Deloitte refers to one or more of Deloitte Touche Tohmatsu, a Swiss Verein, its member firms, and their respective subsidiaries and affiliates. As a Swiss Verein (association), neither Deloitte Touche Tohmatsu nor any of its member firms has any liability for each other's acts or omissions. Each of the member firms is a separate and independent legal entity operating under the names “Deloitte,” “Deloitte & Touche,” “Deloitte Touche Tohmatsu,” or other related names. Services are provided by the member firms or their subsidiaries or affiliates and not by the Deloitte Touche Tohmatsu Verein. 29 AbitibiBowater © Samson Bélair/Deloitte & Touche s.e.n.c.r.l. and affiliated entities.