Question

The management of Kiboko Ltd. want to establish the amount of financial needs for the next two years. The balance sheet of the firm as at 31 December 2001 is as follows:

	Sh.’000’
Net fixed assets Stock Debtors Cash Total assets	124,800 38,400 28,800     7,200 199,200
Financed by: Ordinary share capital Retained earnings 12% long-term debt Trade creditors Accrued expenses	84,000 35,200 20,000 36,000 24,000 199,200

For the year ended 31 December 2001, sales amounted to Sh.240, 000,000. The firm projects that the sales will increase by 15% in year 2002 and 20% in year 2003.

The after tax profit on sales has been 11% but the management is pessimistic about future operating costs and intends to use an after-tax profit on sales rate of 8% per annum.

The firm intends to maintain its dividend payout ratio of 80%. Assets are expected to vary directly with sales while trade creditors and accrued expenses form the spontaneous sources of financing. Any external financing will be affected through the use of commercial paper.

(a)        Determine the amount of external financial requirements for the next two years.   

(b)        (i)         A proforma balance sheet as at 31 December 2003.

(ii)        State the fundamental assumption made in your computations in (a) and b(i) above.

Answer 1

S0 = 240,000,000

g1 = 15%; S1 = S0 x (1 + g1) = 240,000,000 x (1 + 15%) =  276,000,000

g2 = 20%; S2 = S1 x (1 + g2) = 276,000,000 x (1 + 20%) =  331,200,000

Retained earnings (RE) in 2002 = S1 x PM x (1 - DPR) = 276,000,000 x 8% x (1 - 80%) =  4,416,000

Retained earnings (RE) in 2003 = S2 x PM x (1 - DPR) = 331,200,000 x 8% x (1 - 80%) =  5,299,200

A0 = 199,200,000; L0 = Trade creditors + Accrued expenses = 36,000,000 + 24,000,000 = 60,000,000

EFN for the year 2002 = A0 x g1 - L0 x g1 - S1 x PM x (1 - DPR) = 199,200,000 x 15% - 60,000,000 x 15% - 276,000,000 x 8% x (1 - 80%) =  16,464,000

-------------------------

A1 = A0 x (1 + g1) = 199,200,000 x (1 + 15%) =  229,080,000

L1 = L0 x (1 + g1) = 60,000,000 x (1 + 15%) =  69,000,000

EFN for the year 2003 = A1 x g2 - L1 x g2 - S1 x PM x (1 - DPR) = 229,080,000 x 20% - 69,000,000 x 20% - 331,200,000 x 8% x (1 - 80%) = 26,716,800

Part (b)

Sub part (i)

Sh.’000’	2001	2003	How it has been calculated?
Net fixed assets	124,800	172,224	124800 x (1 + 15%) x (1 + 20%)
Stock	38,400	52,992	38400 x (1 + 15%) x (1 + 20%)
Debtors	28,800	39,744	28800 x (1 + 15%) x (1 + 20%)
Cash	7,200	9,936	7200 x (1 + 15%) x (1 + 20%)
Total assets	199,200	274,896	Sum of all the items above
Financed by:
Ordinary share capital	84,000	84,000	Same as 2001
Retained earnings	35,200	44,915	35,200 + RE of 2002 + RE of 2003
12% long-term debt	20,000	20,000	Same as 2001
Trade creditors	36,000	49,680	36000 x (1 + 15%) x (1 + 20%)
Accrued expenses	24,000	33,120	24000 x (1 + 15%) x (1 + 20%)
Commercial paper	-	43,181	EFN of 2002 + EFN of 2003
Total	199,200	274,896

Sub part (ii)

Fundamental assumptions:

1. All the costs of the firm move in line with sales

2. All the assets are spontaneous and they move in line woth sales

3. Profit margin will be 8%

4. DPR will be 80%

3. Only spontaneous liabilities are trade payables and accrued expenses