Gander Gloves has created a special synthetic that is used to line the inside of
ID: 2716345 • Letter: G
Question
Gander Gloves has created a special synthetic that is used to line the inside of baseball gloves and remove the “sting” of catching balls. Several universities and three Major League Baseball teams have already ordered gloves with the special lining, at $600 per glove. In 2013, the company has $8 million in revenue, and $800,000 in net income. Gander Gloves began the year with $1 million in book equity on January 1. Complete the following, and show all your calculations for each: a) Forecast the firm’s 2018 sales, assuming a 60% sales growth rate per year starting in 2014. b) Assuming Gander Gloves pays out no dividends in 2013, what is the firm’s maximum sustainable growth rate? c) Compare Gander Glove’s anticipated sales growth rate with the firm’s maximum sustainable growth rate (which you just calculated in (b). Will the firm be able to support its growth through internally generated funds? If so, discuss the financial reasons why this is so using the textbook’s concept of maximum sustainable growth rate. If you believe the firm will not be able to support its growth, explain why and discuss what action management must take. d) Part 1: If the firm pays out $300,000 in dividends, what is the firm’s retention rate? Part 2: Assuming the firm pays out $300,000 in 2013 dividends, what is Gander Glove’s sustainable growth rate? e) After paying $300,000 in 2013 dividends on December 31, what will be Gander Glove’s new book equity balance? f) Use your final answer for (e) to answer the following: if Gander Glove’s balance sheet shows liabilities with a book value of $800,000, what is book value of the firm’s assets?
Explanation / Answer
Answer to Part a:
Sales in 2013 = $8million
Sales Growth rate = 60%
Sales in 2014
= $8 million + 60% ($8 million)
=$12.8 million
Sales in 2015
= $12.8 million + 60% ($12.8 million)
=$20.48 million
Sales in 2016
= $20.48 million + 60% ($20.48 million)
=$32.768 million
Sales in 2017
= $32.768 million + 60% ($32.768 million)
=$52.4288 million
Sales in 2018
= $52.4288 million + 60% ($52.4288 million)
=$83.886 million
Forecast of firm’s 2018 sales = $83.886 million
Answer to Part b:
Given data,
Net Income = $800000
Book Equity = $1000000
Return on equity
=Net Income / Book Equity
=$800000 / $1000000
=0.8
=80%
Dividend = 0%
This implies Retention Rate = 100%
Firm’s maximum sustainable growth rate
=Retention rate * return on equity
= 100% (80%)
=80%
Firm’s Maximum sustainable growth rate = 80%
Answer to Part c:
Sales growth rate is 60%, whereas maximum sustainable growth rate = 80%
Growth rate based on reinvestment made is higher when compared to growth rate based on sales.
Internally generated funds are not sufficient to support its growth since the growth rate is very high. The management can issue capital to raise the funds in order to support the growth.
Answer to Part d:
Answer to sub part 1:
Net Income = $800000
Dividend =$300000
Retained Amount
=Net Income - Dividend
= $800000 - $300000
=$500000
Firm’s Retention Rate
=Retained Amount / Net Income
=$500000 / $800000
=0.625
=62.5%
Firm’s Retention Rate = 62.5%
Answer to sub part 2:
Dividend = $300000
Hence, Retention Rate = 62.5%
Maximum Sustainable Growth Rate
=Retention rate * return on equity
=62.5% * 80%
=0.5
=50%
Maximum sustainable growth rate = 50%
Answer to Part e:
When the dividend is paid, book equity balance doesn’t change because equity should be recognized at paid up value and dividend is paid out of retained earnings but not from capital.
Answer to part f:
Liabilities value = $800000
Retained Earnings = $500000
Equity = $1000000
Liabilities & Equity = $800000 + $500000 + $1000000 = $2300000
Since, Assets = Liabilities & Equity, Assets = $2300000
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