Question

The following tables contain financial statements for Dynastatics Corporation. Although the company has not been growing, it now plans to expand and will increase net fixed assets (i.e., assets net of depreciation) by $210,000 per year for the next 4 years, and it forecasts that the ratio of revenues to total assets will remain at 1.50. Annual depreciation is 20% of net fixed assets at the beginning of the year. Fixed costs are expected to remain at $58 and variable costs at 70% of revenue. The company’s policy is to pay out one-half of net income as dividends and to maintain a book debt ratio of 20% of total capital.

INCOME STATEMENT, 2019 (Figures in $ thousands)
Revenue				$	1,800
Fixed costs					58
Variable costs (70% of revenue)					1,260
Depreciation					168
Interest (6% of beginning-of-year debt)					18
Taxable income					296
Taxes (at 35%)					104
Net income				$	192
Dividends	$	96
Addition to retained earnings	$	96

BALANCE SHEET, YEAR-END (Figures in $ thousands)
	2019
Assets
Net working capital	$	360
Fixed assets		840
Total assets	$	1,200
Liabilities and shareholders’ equity
Debt	$	300
Equity		900
Total liabilities and shareholders’ equity	$	1,200

Required:

a1. Produce an income statement for 2020. Assume that net working capital will equal 50% of fixed assets.

a2. Produce a balance sheet for 2020. Assume that net working capital will equal 50% of fixed assets.

b. Now assume that the balancing item is debt and that no equity is to be issued. Prepare a completed pro forma balance sheet for 2020.

c. Assume that the balancing item is debt and that no equity is to be issued, what is the projected debt ratio for 2022?

Answer 1

(a1) Income statement for 2020:

Particulars	Amount
Revenue [15,75,000×1.50]	23,62,500
Less: Fixed cost	58,000
Less: Variable cost @70% of Revenue	16,53,750
Less: Depreciation @20% of Net Fixed Assets at the beginning of the year	1,68,000
Less: Interest@6% of Beginning of year debt	18,000
Taxable income	4,64,750
Less: Tax@35%	1,62,662.5
Net Income	3,02,087.5
Dividend@50% of Net income	1,51,043.75
Additions to Retained Earnings	1,51,043.75

(a2) Balance sheet for 2020:

Particulars	Amount
Assets
Net working capital@50% of Net Fixed Assets	5,25,000
Fixed Assets[8,40,000+2,10,000]	10,50,000
Total Assets	15,75,000
Liabilities and Shareholder's Equity
Debt@20% of Total capital[15,75,000×20%]	3,15,000
Equity	12,60,000
Total liabilities and Shareholder's Equity	15,75,000

(b) Pro-forma Balance sheet for 2020:

Particulars	Amount
Total Assets	15,75,000
Liabilities and Equity
Debt( Balancing Figure)	6,75,000
Equity( if remains same)	9,00,000
Total liabilities and Equity	15,75,000

(c) Projected Debt Equity Ratio 2022:

Balance sheet for 2021:

Particulars	Amount
Assets
Net working capital	6,30,000
Fixed assets[10,50,000+2,10,000]	12,60,000
Total Assets	18,90,000
Liabilities and Equity
Debt	9,90,000
Equity	9,00,000
Total liabilities and Equity	18,90,000

Balance sheet for 2022:

Particulars	Amount
Assets
Net working capital	7,35,000
Fixed Assets[12,60,000+2,10,000]	14,70,000
Total Assets	22,05,000
Liabilities and Equity
Debt	13,05,000
Equity	9,00,000
Total liabilities and Equity	22,05,000

Debt Equity Ratio for 2022:

= Debt÷ Equity

= 13,05,000÷9,00,000

= 1.45