Question

5.  Problem 16.09 (Sales Increase)

eBook Paladin Furnishings generated $4 million in sales during 2019, and its year-end total assets were $2.4 million. Also, at year-end 2019, current liabilities were $500,000, consisting of $200,000 of notes payable, $200,000 of accounts payable, and $100,000 of accrued liabilities. Looking ahead to 2020, the company estimates that its assets must increase by $0.60 for every $1.00 increase in sales. Paladin's profit margin is 3%, and its retention ratio is 30%. How large of a sales increase can the company achieve without having to raise funds externally? Write out your answer completely. For example, 25 million should be entered as 25,000,000. Do not round intermediate calculations. Round your answer to the nearest cent. $

Answer 1

2019:

Sales = $4,000,000
Total Assets = $2,400,000
Profit Margin = 3.00%

Retention Ratio = 1 - Payout Ratio
Retention Ratio = 1 - 0.30
Retention Ratio = 0.70

Spontaneous Current Liabilities = Accounts Payable + Accruals
Spontaneous Current Liabilities = $200,000 + $100,000
Spontaneous Current Liabilities = $300,000

2020:

Let Increase in Sales be $x

Sales = $4,000,000 + $x

Addition to Retained Earnings = Sales * Profit Margin * Retention Ratio
Addition to Retained Earnings = ($4,000,000 + $x) * 0.03 * 0.70
Addition to Retained Earnings = $84,000 + 0.021 * $x

Increase in Total Assets = 0.60 * $x

Increase in Spontaneous Current Liabilities = $300,000 * ($x / $4,000,000)
Increase in Spontaneous Current Liabilities = 0.075 * $x

Additional Fund Needed = Increase in Total Assets - Increase in Spontaneous Current Liabilities - Addition to Retained Earnings
$0 = 0.60 * $x - 0.075 * $x - ($84,000 + 0.021 * $x)
$0 = 0.60 * $x - 0.075 * $x - $84,000 - 0.021 * $x
$84,000 = 0.504 * $x
$x = $166,666.67

Increase in Sales = $166,666.67