Owner-managers, the bank, the CRA, suppliers, employees, family investors

The public-company answer is the wrong answer here

Ask most textbooks who reads financial statements and the answer is investors, analysts and the stock market. Northlake Nordic Centre Inc. has none of those. Its shares are held by two founders and three relatives; nobody publishes a research note on it. Yet six groups read its statements closely, and the "explain" sub-questions on this paper reward the learner who can name them and say what line each one turns to first.

Worked example — Northlake's six stakeholders and their first line

The bank. Northlake owes a $400,000 term loan and uses a $150,000 operating line. The loan agreement carries covenants — a minimum current ratio, a minimum interest coverage. The bank reads the balance sheet for current assets against current liabilities, and the cash flow statement for whether operations generate the cash to service the debt. A covenant breach lets the bank call the loan; that is why the bank cares about the statements more than anyone.

The CRA. The Canada Revenue Agency starts from accounting net income and adjusts it to taxable income. It reads the income statement and the notes on amortization and policy choices. It does not care about cash flow for its own sake.

The family investors. The three relatives who put in $100,000 between them want to know two things: is their claim growing, and will they see a dividend? They read the statement of retained earnings — net income added, dividends declared deducted — and the equity section of the balance sheet.

The suppliers. The propane company and the groomer's dealer extend 30-day credit. They read accounts payable and cash on the balance sheet: can Northlake pay, and does it pay on time?

The employees. Twenty seasonal staff and four year-round want to know whether there will be a next season — going concern. They read the whole picture: net income, cash, the debt.

The owner-managers. The founders draw a salary and, some years, a dividend. They read net income and the cash position to decide how much to take out, how much to leave in, and whether the bank will still be comfortable afterwards.

Where interests collide

The same set of statements serves all six, and their interests are not aligned. The owners would prefer low taxable income (less tax) but the bank wants high net income and strong working capital for the covenants. The family investors want dividends; the bank would rather see cash retained. Suppliers want to be paid first; the bank has the security. When an exam question asks you to "identify a conflict", name two stakeholders and the line they disagree about — and tie it to the case: the owner wants to expense the trail work to reduce tax; the bank would rather see it capitalised so the current ratio covenant holds.

Try it on a dental practice

Kettle Creek Dental Corp. is owned by two dentists and financed by a bank loan on the equipment. Its stakeholders map the same way: the bank (equipment loan covenants), the CRA (taxable income), the two owners (salary versus dividend), the dental supply company (payables), the hygienists (going concern), and — new — the provincial regulator, which reads the statements when it licences the practice. The list is the same six plus whoever the case names.