Question

The 2017 financial statements for Growth Industries are presented below.

INCOME STATEMENT, 2017
Sales				$	350,000
Costs					225,000
EBIT				$	125,000
Interest expense					25,000
Taxable income				$	100,000
Taxes (at 35%)					35,000
Net income				$	65,000
Dividends	$	26,000
Addition to retained earnings		39,000

  

BALANCE SHEET, YEAR-END, 2017
Assets					Liabilities
Current assets					Current liabilities
Cash	$	4,000			Accounts payable	$	11,000
Accounts receivable		9,000			Total current liabilities	$	11,000
Inventories		27,000			Long-term debt		250,000
Total current assets	$	40,000			Stockholders’ equity
Net plant and equipment		290,000			Common stock plus additional paid-in capital		15,000
					Retained earnings		54,000
Total assets	$	330,000			Total liabilities and stockholders' equity	$	330,000

  

Sales and costs are projected to grow at 20% a year for at least the next 4 years. Both current assets and accounts payable are projected to rise in proportion to sales. The firm is currently operating at 75% capacity, so it plans to increase fixed assets in proportion to sales. Interest expense will equal 10% of long-term debt outstanding at the start of the year. The firm will maintain a dividend payout ratio of 0.40.

What is the required external financing over the next year? (Enter excess cash as a negative number with a minus sign.)

Answer 1

	2017	Basis for projections	Projections 2018
INCOME STATEMENT
Sales	350000	+20%	420000
Costs	225000	79% of sales	270000
EBIT	125000		150000
Interest	25000		25000
Taxable income	100000		125000
Taxes at 35%	35000		62500
Net income	65000		62500
Dividends (40%)	26000		25000
Addition to retained earnings	39,000		37,500
BALANCE SHEET
Cash	4,000	11.53% of sales	4800
Accounts Receivable	9,000	2.57% of sales	10800
Inventories	27,000	7.71% of sales	32400
Total current assets	40,000		48000
Net plant and equipment	2,90,000	8.29% of sales	348000
Total assets	3,30,000		396000
Accounts payable	11,000	3.14% of sales	13200
Total current liabilities	11,000		13200
Long term debt	2,50,000		250000
Common stock	15,000		15000
Retained earnings	54,000	+37500	91500
Total liabilities and Equity	3,30,000		369700
		EFN	26300
REQUIRED EXTERNAL FINANCING =	$       26,300

NOTE:

It has been said that the plant is operating at 75% capacity. If so, strictly speaking, no addition to fixed assets is required as 20% of 75% will be 15% and the overall capacity achievement planned would be only 90% for the first year.

But, it is said that the firm plans to increase FA in proportion to sales. Hence, 20% increase in fixed assets has also been considered.

IF THE FA ARE NOT TO INCREASE:

EFN would be negative to the extent of increase in assets not needed of $58000 minus the EFN noted above of $26300. The EFN would be -$31,700 meaning surplus cash.