Calculate the external financing needed for next year. (Do not round intermediat

Question

  

  

  

Calculate the external financing needed for next year. (Do not round intermediate calculations and round your answer to the nearest whole number, e.g., 32.)

Prepare the firm’s pro forma balance sheet for next year. (Do not round intermediate calculations and round your answers to the nearest whole number, e.g., 32.)

Calculate the sustainable growth rate for the company based on the current financial statements. (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)

  

  

The Optical Scam Company has forecast a sales growth rate of 25 percent for next year. The current financial statements are shown here:

Explanation / Answer

a) External financing needed (EFN) can be computed using the following equation -

EFN = [ (Assets / Sales) x Change in sales ] - [ (Debt / Sales) x Change in sales ] - [ (Profit margin x expected sales) x (1 - dividend payout ratio) ]

Debt here means short - term debt as that will vary with sales and long - term debt will not.

Current sales = $31,300,000

Expected sales = $31,300,000 x (1 + 25%) = $39,125,000

Change in sales = $39,125,000 - $31,300,000 = $7,825,000

Profit margin = Net income / sales = $3,538,275 / $31,300,000 = 0.11304392971

Dividend payout ratio = Dividends / Net income = $1,415,310 / $3,538,275 = 0.40

EFN = [ ($26,292,000 / $31,300,000) x $7,825,000 ] - [ ($6,886,000 / $31,300,000) x $7,825,000 ] - [ (0.11304392971 x $39,125,000) x (1 - 0.40) ]

or, EFN = $6,573,000 - $1,721,500 - $2,653,706.24994 = $2,197,793.75006 or $2,197,794

b-1) Assets and short-term debt will vary 25% along with sales whereas long - term debt and common stock will remain the same. Also we assume that profit margin and dividend payout ratio remain the same.

Expected Net income = Expected sales x Profit margin = $39,125,000 x 0.11304392971 = $4,422,843.7499

Addition to retained earnings = Expected Net income x (1 - Dividend payout ratio) = $4,422,843.7499 x (1 - 0.40) = $2,653,706.24994 or $2,653,706

We can note that the difference among the two totals is the EFN.

c) Current Return on Equity (ROE) = Net income / Total equity = $3,538,275 / $15,024,000 = 0.2355081869

Retention ratio (b) = 1 - dividend payout ratio = 1 - 0.40 = 0.60

Sustainable growth rate = (ROE x b) / [ 1 - (ROE x b) ]

or, Sustainable growth rate = (0.2355081869 x 0.60) / [ 1 - (0.2355081869 x 0.60) ] = 0.1645577 or 16.45577% or 16.46%

Pro forma Balance Sheet Assets Amount Liabilities and Equity Amount Current assets (7,290,000 + 25%) $9,112,500 Short - term debt (6,886,000 + 25%) $8,607,500 Fixed assets (19,002,000 + 25%) $23,752,500 Long - term debt $4,382,000 Common stock $3,788,000 Accumulated retained earnings (11,236,000 + 2,653,706) $13,889,706 Total Equity $17,677,706 Total Assets $32,865,000 Total Liabilities and equity $30,667,206

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