Explain how changes in forecast assumptions will affect a firm’s external financing requirements.

Expert Solution

Changes in forecasting assumption will be affecting the external financing requirement of the company as follows-

A.forecasting about growth rate of the company is highly important in determination of the overall Capital requirement because when the company will be having a high rate of growth then it will mean that company will be having high return on investment and it will mean that if the high return investment is greater than the overall cost of capital then,it will mean that the company will be taking more of the external debt financing because it will help the company in order to maximize the overall rate of return.

when it is forecasted that the company's growth rate will not be higher it will mean that the return on investment of the company will not be higher and hence because of the capital of the company will be higher, and the company will be refraining from taking any kind of debt financing from the external sources because it will lead to increased financial distress on the company and the company will be prefering equity financing and internal financing in this case.

Changes in forecasting exemptions like adverse economic cycles and impending recession or high uncertainty into the cash flow realisation will be meaning that the company will be refraining from taking any kind of fixed obligation financing from external sources because that will lead to increased risk of insolvency of the company as the company will not be able to finance with the fixed cost.

External financing will be highly preferred when there will be a smooth economic recovery and increased demand as well as increased pricing power so company will be trying to increase its external financing in order to boost its growth, so it can maximize profits in the long run.

So, it can be said that forecasting of the financial position of the company can be leading to better estimation of the need of the financing of the company and it will be leading to exposure of the company to the external financing in an appropriate way.

jeff jeffy answered 2 years ago

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