Question

It is the end of 2017 and you are attending a meeting at the headquarters offices to share with the central management your sales forecasts for the year 2018 and any resources you may need, if any. Your sales forecasts for 2018 are 10% higher than this year’s sales. Explain to other members your financing needs for the coming year given the following information:

Additional information:

Your company is currently operating at full capacity. Your company doesn’t intend to pay any dividends.

Explain to other members why the increase in sales requires extra financing?

Say they didn’t approve the extra financing, is there any possible way to achieve the new level of sales without the extra financing? Assume that you’re a large store and you most of the time set the terms.

INCOME STATEMENT	2017
Sales	$3,000
COGS	1,800
Gross Margin	1,200
Operating Expenses	$900
EBIT	$300
Less Interest on Debt (10%)	$100
Earnings before taxes	$200
Taxes (30%)	$630
Net income for common	$140

BALANCE SHEET	2017
ASSETS Current Assets L.T. Assets	$1,200 $2,300
Liabilities and equity
Account payables	$600
Notes payables Paid in Capital	$1,000 $1,900
Retained earnings	$0
Total	$3,500

Answer 1

Based on the given data, pls find below certain calcuations and ratios to assess the financial health of the company.

Also, since it is mentioend that the company is currently working at full capacity, the below are the options for increase in the sales:

- Capacity Expansion: Investment in to capital assets (New Plant and Machinery, Equipment etc) to increase the capacity of the overall company: Depending on the size and intensity, this is a time taking process, however after checking on the feasibilty study of the capital budgeting, one can choose this option. This shall have the continuous flow of additional revenue based on the additional capacity; However, since this is a Capital budgeting decision, the funding requirement shall be a bit on higher side and looking at the Debt Equity ratio, it is feasible to get additional debt on the books; However, a challenge is that the current interest cost is on higher side and is almost consuming 3% (of total sales) margin; Also, looking at the Net income generated, the Debt service coverage ratio is on higher side and this could be a challenge interms of getting approval from Central Management as well as from the Financing institutions. However, if the arguement is supported with the clear Capital Budgeting Feasibility study (NPV, IRR, Payback period) etc, this is more beneficial.

- Outsourcing / Subcontracting: The other option for increase in sales, is through Outsourcing /Subcontracting (assuking the said product can be oursourced). In this case, technically there is no capacity constraints, however, the Gross margins (currently 40%) shall decrease as compared to the current situation. To cover this, the scale of sales (qyt) throught outsourcing should be on a massive scale and should be guided by proper contractual agreements with the outsourcing teams / subcontractors etc on supply mechanism, pricing etc. This proposal can be easily accepted by the Central Management, subject to proper study on the mechanism and to substantiate with the potential to meet sales targets.