AFN equation

Broussard Skateboard’s sales are expected to increase by 25% from $7.2 million in 2019 to $9.00 million in 2020. Its assets totaled $3 million at the end of 2019.

Broussard is already at full capacity, so its assets must grow at the same rate as projected sales. At the end of 2019, current liabilities were $1.4 million, consisting of $450,000 of accounts payable, $500,000 of notes payable, and $450,000 of accruals. The after-tax profit margin is forecasted to be 5%, and the forecasted payout ratio is 55%. Use the AFN equation to forecast Broussard’s additional funds needed for the coming year. Enter your answer in dollars. For example, an answer of $1.2 million should be entered as $1,200,000. Do not round intermediate calculations. Round your answer to the nearest dollar.

Projected Operating Assets

Berman & Jaccor Corporation’s current sales and partial balance sheet are shown below.

This year
Sales$1,000
Balance Sheet: Assets
Cash$200
Short-term investments$135
Accounts receivable$150
Inventories$200
Total current assets$685
Net fixed assets$600
Total assets$1,285

Sales are expected to grow by 14% next year. Assuming no change in operations from this year to next year, what are the projected total operating assets? Do not round intermediate calculations. Round your answer to the nearest dollar.

Projected Spontaneous Liabilities

Smiley Corporation’s current sales and partial balance sheet are shown below.

This year
Sales$10,000
Balance Sheet: Liabilities
Accounts payable$1,500
Notes payable$2,000
Accruals$1,600
Total current liabilities$5,100
Long-term bonds$2,000
Total liabilities$7,100
Common stock$1,500
Retained earnings$3,000
Total common equity$4,500
Total liabilities & equity$11,600

Sales are expected to grow by 12% next year. Assuming no change in operations from this year to next year, what are the projected spontaneous liabilities? Do not round intermediate calculations. Round your answer to the nearest dollar.

$

Forecasted Statements and Ratios

Upton Computers makes bulk purchases of small computers, stocks them in conveniently located warehouses, ships them to its chain of retail stores, and has a staff to advise customers and help them set up their new computers. Upton’s balance sheet as of December 31, 2019, is shown here (millions of dollars):

Cash$ 3.5Accounts payable$ 9.0
Receivables26.0Notes payable18.0
Inventories58.0Line of credit0
Total current assets$ 87.5Accruals8.5
Net fixed assets35.0Total current liabilities$ 35.5
Mortgage loan6.0
Common stock15.0
Retained earnings66.0
Total assets$122.5Total liabilities and equity$122.5

Sales for 2019 were $450 million and net income for the year was $13.5 million, so the firm’s profit margin was 3.0%. Upton paid dividends of $5.4 million to common stockholders, so its payout ratio was 40%. Its tax rate was 25%, and it operated at full capacity. Assume that all assets/sales ratios, (spontaneous liabilities)/sales ratios, the profit margin, and the payout ratio remain constant in 2020. Do not round intermediate calculations.

· If sales are projected to increase by $112.5 million, or 25%, during 2020, use the AFN equation to determine Upton’s projected external capital requirements. Enter your answers in millions. For example, an answer of $10,550,000 should be entered as 10.55. Round your answer to two decimal places. $ million

· Using the AFN equation, determine Upton’s self-supporting growth rate. That is, what is the maximum growth rate the firm can achieve without having to employ nonspontaneous external funds? Round your answer to two decimal places. %

· Use the forecasted financial statement method to forecast Upton’s balance sheet for December 31, 2020. Assume that all additional external capital is raised as a line of credit at the end of the year and is reflected (because the debt is added at the end of the year, there will be no additional interest expense due to the new debt). Assume Upton’s profit margin and dividend payout ratio will be the same in 2020 as they were in 2019. What is the amount of the line of credit reported on the 2020 forecasted balance sheets? (Hint: You don’t need to forecast the income statements because the line of credit is taken out on the last day of the year and you are given the projected sales, profit margin, and dividend payout ratio; these figures allow you to calculate the 2020 addition to retained earnings for the balance sheet without actually constructing a full income statement.) Enter your answers in millions. For example, an answer of $10,550,000 should be entered as 10.55. Round your answers to two decimal places.

Upton ComputersPro Forma Balance SheetDecember 31, 2020 (Millions of Dollars)
Cash$
Receivables$
Inventories$
Total current assets$
Net fixed assets$
Total assets$
Accounts payable$
Notes payable$
Line of credit$
Accruals$
Total current liabilities$
Mortgage loan$
Common stock$
Retained earnings$
Total liabilities and equity$

Financing Deficit

Garlington Technologies Inc.’s 2019 financial statements are shown below:

Income Statement for December 31, 2019

Sales$4,000,000
Operating costs3,200,000
EBIT$ 800,000
Interest120,000
Pre-tax earnings$ 680,000
Taxes (25%)170,000
Net income510,000
Dividends$ 190,000

Balance Sheet as of December 31, 2019

Cash$ 160,000Accounts payable$ 360,000
Receivables360,000Line of credit0
Inventories720,000Accruals200,000
Total CA$1,240,000Total CL$ 560,000
Fixed assets4,000,000Long-term bonds1,000,000
Total Assets$5,240,000Common stock1,100,000
RE2,580,000
Total L&E$5,240,000

Suppose that in 2020 sales increase to $4.8 million and that 2020 dividends will increase to $164,000. Forecast the financial statements using the forecasted financial statement method. Assume the firm operated at full capacity in 2019. The long-term bonds have an interest rate of 8%. New financing will be with a line of credit. Assume it will be added at the end of the year. Cash does not earn any interest income. Enter your answers as positive values. Do not round intermediate calculations. Round your answers to the nearest dollar.

Garlington Technologies Inc.Pro Forma Income StatementDecember 31, 2020
Sales$
Operating costs$
EBIT$
Interest$
Pre-tax earnings$
Taxes (25%)$
Net income$
Dividends:$
Addition to RE:$
Garlington Technologies Inc.Pro Forma Balance StatementDecember 31, 2020
Cash$
Receivables$
Inventories$
Total current assets$
Fixed assets$
Total assets$
Accounts payable$
Line of credit$
Accruals$
Total current liabilities$
LT bonds$
Common stock$
Retained earnings$
Total L&E$

Agency Conflicts

Firms must provide the right incentives if they are to get select a.shareholders b.creditors c.managers to focus on long-run value maximization. Conflicts exist between managers and stockholders and between stockholders (represented by managers) and -Select a.employees b.debtholders c.customers 2 . Managers’ personal goals may compete with shareholder wealth maximization. However, managers can be motivated to act in their stockholders’ best interests through (1) reasonable -Select a. Vacation b.compensation c.perquisite packages, (2) firing of underperforming managers, and (3) the threat of hostile takeovers. If a firm’s stock is undervalued, corporate raiders will see it as a bargain and will attempt to capture the firm in a hostile takeover.

Select a. Stockholders b. Bondholders generally receive fixed payments regardless of how well the firm does, while -Select a. Stockholders b. Bondholders earn higher returns when the firm’s earnings are higher. Investments in -Select a.risky b.safe ventures, that have great payoffs to stockholders if successful but threaten bankruptcy if they fail, create conflicts. In addition, the use of additional -Select a. Equity b.debt c.assets increases stockholder/debtholder conflicts. Consequently, bondholders attempt to protect themselves by including Select a.ethics b.covenants c. compensation in bond agreements that limit firms’ use of additional -Select-equitydebtassetsItem 9 and constrain -Select a.customers b.employees c.managers actions.

Judd Enterprises
These are the simplified financial statements for Judd Enterprises.
Income statementCurrentProjected
Salesna1,000
Costsna720
Profit before taxna280
Taxes (25%)na70
Net incomena210
Dividendsna63
Balance sheetsCurrentProjectedCurrentProjected
Current assets100115Current liabilities7081
Net fixed assets9001,080Long-term debt400
Common stock300
Retained earnings230

Refer to the Judd Enterprises financial statements. What is Judd’s projected retained earnings under this plan?

a. $339

b. $377

c. $415

d. $440

e. $396

The term “additional funds needed (AFN)” is generally defined as follows:

a. The amount of assets required per dollar of sales.

b. A forecasting approach in which the forecasted percentage of sales for each balance sheet account is held constant.

c. The amount of internally generated cash in a given year minus the amount of cash needed to acquire the new assets needed to support growth.

d. Funds that a firm must raise externally from non-spontaneous sources, i.e., by borrowing or by selling new stock to support operations.

e. Funds that are obtained automatically from routine business transactions.

A company expects sales to increase during the coming year, and it is using the AFN equation to forecast the additional capital that it must raise. Which of the following conditions would cause the AFN to increase?

a. The company’s profit margin increases.

b. The company begins to pay employees monthly rather than weekly.

c. The company increases its dividend payout ratio.

d. The company decides to stop taking discounts on purchased materials.

e. The company previously thought its fixed assets were being operated at full capacity, but now it learns that it actually has excess capacity.

Daniel Sawyer, the CEO of the Sawyer Group, is initiating planning for the company’s operations next year, and he wants you to forecast the firm’s additional funds needed (AFN). The firm is operating at full capacity. Data for use in your forecast are shown below. Based on the AFN equation, what is the AFN for the coming year? Dollars are in millions.

Last year’s sales = S0$350Last year’s accounts payable$40
Sales growth rate = g30%Last year’s notes payable$50
Last year’s total assets = A0*$790Last year’s accruals$30
Last year’s profit margin = PM5%Target payout ratio60%

Select the correct answer.

a. $206.9

b. $211.7

c. $204.5

d. $209.3

e. $202.1

In your internship with Lewis, Lee, & Taylor Inc. you have been asked to forecast the firm’s additional funds needed (AFN) for next year. The firm is operating at full capacity. Data for use in your forecast are shown below. Based on the AFN equation, what is the AFN for the coming year?

Last year’s sales = S0$200,000Last year’s accounts payable$50,000
Sales growth rate = g40%Last year’s notes payable$15,000
Last year’s total assets = A0*$162,500Last year’s accruals$20,000
Last year’s profit margin = PM20.0%Target payout ratio25.0%

Select the correct answer.

a. – $5,120

b. – $5,080

c. – $5,040

d. – $4,960

e. – $5,000

You have been asked to forecast the additional funds needed (AFN) for Houston, Hargrove, & Worthington (HHW), which is planning its operation for the coming year. The firm is operating at full capacity. Data for use in the forecast are shown below. However, the CEO is concerned about the impact of a change in the payout ratio from the 10% that was used in the past to 90%, which the firm’s investment bankers have recommended. Based on the AFN equation, by how much would the AFN for the coming year change if HHW increased the payout from 10% to the new and higher level? All dollars are in millions.

Last year’s sales = S0$300.0Last year’s accounts payable$50.0
Sales growth rate = g40%Last year’s notes payable$15.0
Last year’s total assets = A0*$500Last year’s accruals$20.0
Last year’s profit margin = PM20.0%Initial payout ratio10.0%

Select the correct answer.

a. $73.2

b. $67.2

c. $65.2

d. $69.2

e. $71.2

Last year Baron Enterprises had $575 million of sales, and it had $270 million of fixed assets that were used at 65% of capacity last year. In millions, by how much could Baron’s sales increase before it is required to increase its fixed assets?

Select the correct answer.

a. $303.7

b. $309.6

c. $321.4

d. $327.3

e. $315.5

Weber Interstate Paving Co. had $450 million of sales and $225 million of fixed assets last year, so its FA/Sales ratio was 50%. However, its fixed assets were used at only 50% of capacity. If the company had been able to sell off enough of its fixed assets at book value so that it was operating at full capacity, with sales held constant at $450 million, how much cash (in millions) would it have generated?

Select the correct answer.

a. $107.70

b. $112.50

c. $109.30

d. $110.90

e. $114.10

Which of the following is NOT normally regarded as being a barrier to hostile takeovers?

a. Poison pills.

b. Targeted share repurchases.

c. Restricted voting rights.

d. Shareholder rights provisions.

e. Abnormally high executive compensation.

Which of the following is NOT normally regarded as being a good reason to establish an ESOP?

a. To help retain valued employees.

b. To increase worker productivity.

c. To enable the firm to borrow at a below-market interest rate.

d. To help prevent a hostile takeover.

e. To make it easier to grant stock options to employees.

LEVEL 8

Inventory Management

Williams & Sons last year reported sales of $51 million, cost of goods sold (COGS) of $40 million, and an inventory turnover ratio of 4. The company is now adopting a new inventory system. If the new system is able to reduce the firm’s inventory level and increase the firm’s inventory turnover ratio to 5 while maintaining the same level of sales and COGS, how much cash will be freed up? Do not round intermediate calculations. Enter your answer in dollars. For example, an answer of $1.23 million should be entered as 1,230,000,000. Round your answer to the nearest dollar.

Medwig Corporation has a DSO of 25 days. The company averages $6,750 in sales each day (all customers take credit). What is the company’s average accounts receivable? Assume a 365-day year. Round your answer to the nearest dollar.

Cost of Trade Credit

What are the nominal and effective costs of trade credit under the credit terms of 2/15, net 30? Assume a 365-day year. Do not round intermediate calculations. Round your answers to two decimal places.

Nominal cost of trade credit: %

Effective cost of trade credit: %

Cost of Trade Credit

A large retailer obtains merchandise under the credit terms of 3/10, net 35, but routinely takes 60 days to pay its bills. (Because the retailer is an important customer, suppliers allow the firm to stretch its credit terms.) What is the retailer’s effective cost of trade credit? Assume a 365-day year. Do not round intermediate calculations. Round your answer to two decimal places.

%

Accounts Payable

A chain of appliance stores, APP Corporation, purchases inventory with a net price of $650,000 each day. The company purchases the inventory under the credit terms of 2/15, net 35. APP always takes the discount but takes the full 15 days to pay its bills. What is the average accounts payable for APP? Round your answer to the nearest dollar.

Receivables Investment

Snider Industries sells on terms of 2/10, net 25. Total sales for the year are $1,800,000. Thirty percent of customers pay on the 10th day and take discounts; the other 70% pay, on average, 30 days after their purchases. Assume a 365-day year.

Cost of Trade Credit

Calculate the nominal annual cost of trade credit under each of the following terms. Assume a 365-day year. Do not round intermediate calculations. Round your answers to two decimal places.

· 1/15, net 30. %

· 2/10, net 55. %

· 3/10, net 45. %

· 2/10, net 45. %

· 2/15, net 35. %

· What is the days sales outstanding? Do not round intermediate calculations. Round your answer to the nearest whole number. days

· What is the average amount of receivables? Do not round intermediate calculations. Round your answer to the nearest dollar. $

· What would happen to average receivables if Snider toughened its collection policy with the result that all nondiscount customers paid on the 25th day? Do not round intermediate calculations. Round your answer to the nearest dollar. $

Cash Budgeting

Dorothy Koehl recently leased space in the Southside Mall and opened a new business, Koehl’s Doll Shop. Business has been good, but Koehl frequently runs out of cash. This has necessitated late payment on certain orders, which is beginning to cause a problem with suppliers. Koehl plans to borrow from the bank to have cash ready as needed, but first she needs a forecast of how much she should borrow. Accordingly, she has asked you to prepare a cash budget for the critical period around Christmas, when needs will be especially high.

Sales are made on a cash basis only. Koehl’s purchases must be paid for during the following month. Koehl pays herself a salary of $4,600 per month, and the rent is $2,100 per month. In addition, she must make a tax payment of $14,000 in December. The current cash on hand (on December 1) is $350, but Koehl has agreed to maintain an average bank balance of $7,000 – this is her target cash balance. (Disregard the amount in the cash register, which is insignificant because Koehl keeps only a small amount on hand in order to lessen the chances of robbery.)

The estimated sales and purchases for December, January, and February are shown below. Purchases during November amounted to $150,000.

SalesPurchases
December$130,000$45,000
January32,00045,000
February66,00045,000

· Prepare a cash budget for December, January, and February. Do not round intermediate calculations. Round your answers to the nearest dollar. Negative values, if any, should be indicated by a minus sign.

Collections and Purchases:
DecemberJanuaryFebruary
Sales (Collections)$$$
Purchases$$$
Payments for purchases$$$
Salaries$$$
Rent$$$
Taxes$
Total payments$$$
Cash at start of forecast$
Net cash flow$$$
Cumulative cash balance$$$
Target cash balance$$$
Surplus cash or loans needed$$$

· Suppose that Koehl starts selling on a credit basis on December 1, giving customers 30 days to pay. All customers accept these terms, and all other facts in the problem are unchanged. What would the company’s loan requirements be at the end of December in this case? (Hint: The calculations required to answer this part are minimal.) Do not round intermediate calculations. Round your answer to the nearest dollar. $

Which of the following actions should Reece Windows take if it wants to reduce its cash conversion cycle?

a. Take steps to reduce the DSO.

b. Start paying its bills sooner, which would reduce the average accounts payable but not affect sales.

c. Sell common stock to retire long-term bonds.

d. Increase average inventory without increasing sales.

e. Sell an issue of long-term bonds and use the proceeds to buy back some of its common stock.

Brothers Breads has the following data. What is the firm’s cash conversion cycle?

Inventory conversion period =50 days
Average collection period =17 days
Payables deferral period =25 days

a. 34 days

b. 42 days

c. 46 days

d. 38 days

e. 31 days

Mark’s Manufacturing’s average age of accounts receivable is 45 days, the average age of accounts payable is 40 days, and the average age of inventory is 69 days. Assuming a 365-day year, what is the length of its cash conversion cycle?

a. 67 days

b. 74 days

c. 78 days

d. 63 days

e. 70 days

Data on Nathan Enterprises for the most recent year are shown below, along with the days sales outstanding of the firms against which it benchmarks. The firm’s new CFO believes that the company could reduce its receivables enough to reduce its DSO to the benchmarks’ average. If this were done, by how much would receivables decline? Use a 365-day year.

Sales $110,000

Accounts receivable $16,000

Days sales outstanding (DSO) 53.09

Benchmark days sales outstanding (DSO) 20.00

a. $8,078

b. $10,970

c. $9,973

d. $12,067

e. $8,975

Thornton Universal Sales’ cost of goods sold (COGS) average $2,000,000 per month, and it keeps inventory equal to 50% of its monthly COGS on hand at all times. Using a 365-day year, what is its inventory conversion period?

a. 14.4 days

b. 13.0 days

c. 15.2 days

d. 16.7 days

e. 11.7 days

Shulman Inc. has the following data, in thousands. Assuming a 365-day year, what is the firm’s cash conversion cycle?

Annual sales = $45,000

Annual cost of goods sold = $30,000

Inventory = $4,500

Accounts receivable = $1,800

Accounts payable = $2,500

a. 39 days

b. 32 days

c. 43 days

d. 35 days

e. 28 days

Kiley Corporation had the following data for the most recent year (in millions). The new CFO believes (1) that an improved inventory management system could lower the average inventory by $4,000, (2) that improvements in the credit department could reduce receivables by $2,000, and (3) that the purchasing department could negotiate better credit terms and thereby increase accounts payable by $2,000. Furthermore, she thinks that these changes would not affect either sales or the costs of goods sold. If these changes were made, by how many days would the cash conversion cycle be lowered?

OriginalRevised
Annual sales: unchanged$110,000$110,000
Cost of goods sold: unchanged$80,000$80,000
Average inventory: lowered by $4,000$20,000$16,000
Average receivables: lowered by $2,000$16,000$14,000
Average payables: increased by $2,000$10,000$12,000
Days in year

a. 37.4

b. 45.3

c. 34.0

d. 49.8

e. 41.2

Newsome Inc. buys on terms of 3/15, net 45. It does not take the discount, and it generally pays after 60 days. What is the nominal annual percentage cost of its non-free trade credit, based on a 365-day year?

a. 33.39%

b. 27.59%

c. 36.73%

d. 25.09%

e. 30.35%

Howes Inc. purchases $4,562,500 in goods per year from its sole supplier on terms of 2/15, net 50. If the firm chooses to pay on time but does not take the discount, what is the effective annual percentage cost of its non-free trade credit? (Assume a 365-day year.)

a. 22.28%

b. 24.63%

c. 21.17%

d. 23.45%

e. 20.11%

A lockbox plan is

a. used to slow down the collection of checks our firm writes.

b. used to speed up the collection of checks received.

c. used to protect cash, i.e., to keep it from being stolen.

d. used to identify inventory safety stocks.

AFN equation
Total:
$8.99