Carter Corporation\'s sales are expected to increase from $5 million in 2012 to

Question

Carter Corporation's sales are expected to increase from $5 million in 2012 to $6 million in 2013, or by 20%. Its assets totaled $5 million at the end of 2012. Carter is at full capacity, so its assets must grow in proportion to projected sales. At the end of 2012, current liabilities are $1 million, consisting of $250,000 of accounts payable, $500,000 of notes payable, and $250,000 of accrued liabilities. The after-tax profit margin is forecasted to be 5%, and the forecasted retention ratio is 35%. Use the AFN equation to forecast Carter's additional funds needed for the coming year

Explanation / Answer

AFN = (A/S0) x Increase in Sales - (L/S0)x increase in Sales - MS1 x RR
       = 5.0m x (6.0m - 5.0m) / 5.0m - (0.5 x (6.0m - 5.0m) / 5.0m - [0.05x6m x .35]
       = 1 - 0.1 - (0.3 x 0.35) = 0.795m = 795000

S0 = Sales for 2012 = 5.0m
S1 = Sales for 2013 = 5.0m x 1.20 = 6.0m
MS1 = After tax profit margin rate x S1 = 6.0m x 5% = 0.3
L = payables + accruals. Spontaneous liabilities that will be affected by sales = 0 .5 m

RR = The retention ratio from Net Income

Last year's notes payable. Not spontaneous, so does not enter AFN calculation

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