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Exam 12: Corporate Valuation and Financial Planning

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Question 21

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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 50%, 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. $\begin{array} { l l l } \text { Last year's sales } = \mathrm { S } _ { 0 } & \$ 300.0 \text { Last year's accounts payable } & \$ 50.0 \\\text { Sal es growth rate } = \mathrm { g } & 40 \% \text { Last year's notes payable } & \$ 15.0 \\\text { Last year's total assets } = \mathrm { A } _ { 0 } ^ { * } & \$ 500.0 \text { Last year's accruals } & \$ 20.0 \\\text { Last year's profit margin = PM } & 20.0 \% \text { Initial payout ratio } & 10.0 \%\end{array}$

A) $31.9
B) $33.6
C) $35.3
D) $37.0
E) $38.9

F) A) and B)
G) A) and E)

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Question 22

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Judd Enterprises These are the simplified financial statements for Judd Enterprises. $\begin{array} { l r r } \text { Income statement } & \text { Current } & \text { Frojected } \\ \text { Sales } & \text { na } & 1,000 \\ \text { Costs } & \text { na } & \underline{720 }\\ \text { Profit before tax } & \text { na } & 280 \\ \text { Taxes } ( 25 \% ) & \text { na } & 70 \\ \text { Net income } & \text { na } & 210 \\ \text { Dividends } & \text { na } & 63 \end{array}$ $\begin{array} { l r r r r r } \text { Balance sheets } & \text { Current } & \text { Projected } && \text { Current } & \text { Projected } \\ \text { Current assets } & 100 & 115 & \text { Current } & 70 & 81 \\ \text { Net fixed assets } & 900 & 1,080& \text { liabilities } & \\ & & & \text { Long-term debt } & 400 \\ & & & \text { Common stock } & 300 \\ & & & \text { Retained } & 230\\&&&\text { earnings } \end{array}$ ? -Refer to the Judd Enterprises financial statements.If Judd does not plan on issuing new stock or additional long-term debt, then what is the additional net financing needed for the projected year?

A) $30
B) $33
C) $37
D) $339
E) $396

F) B) and D)
G) C) and E)

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Question 23

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Which of the following statements is CORRECT?

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

The capital intensity ratio is the amount of assets required per dollar of sales and it has a major impact on a firm's capital requirements.

The capital intensity ratio is generally defined as follows:

If a firm with a positive net worth is operating its fixed assets at full capacity, if its dividend payout ratio is 100%, and if it wants to hold all financial ratios constant, then for any positive growth rate in sales, it will require external financing.

As long as a firm does not pay out 100% of its earnings, the firm's annual profit that is retained in the business (i.e., the addition to retained earnings) is another source of funds for a firm's expansion.

The AFN equation assumes that the ratios of assets and liabilities to sales remain constant over time.However, this assumption can be relaxed when we use the forecasted financial statement method.Three conditions where constant ratios cannot be assumed are economies of scale, lumpy assets, and excess capacity.

One of the necessary steps in the financial planning process is a forecast of financial statements under each alternative version of the operating plan in order to analyze the effects of different operating procedures on projected profits and financial ratios.

The fact that long-term debt and common stock are raised infrequently and in large amounts lessens the need for the firm to forecast those accounts on a continual basis.

Judd Enterprises These are the simplified financial statements for Judd Enterprises. $\begin{array} { l r r } \text { Income statement } & \text { Current } & \text { Frojected } \\ \text { Sales } & \text { na } & 1,000 \\ \text { Costs } & \text { na } & \underline{720 }\\ \text { Profit before tax } & \text { na } & 280 \\ \text { Taxes } ( 25 \% ) & \text { na } & 70 \\ \text { Net income } & \text { na } & 210 \\ \text { Dividends } & \text { na } & 63 \end{array}$ $\begin{array} { l r r r r r } \text { Balance sheets } & \text { Current } & \text { Projected } && \text { Current } & \text { Projected } \\ \text { Current assets } & 100 & 115 & \text { Current } & 70 & 81 \\ \text { Net fixed assets } & 900 & 1,080& \text { liabilities } & \\ & & & \text { Long-term debt } & 400 \\ & & & \text { Common stock } & 300 \\ & & & \text { Retained } & 230\\&&&\text { earnings } \end{array}$ ? -Refer to the Judd Enterprises financial statements.What is Judd's projected retained earnings under this plan?

One of the first steps in arriving at a firm's forecasted financial statements is a review of industry-average operating ratios relative to these same ratios for the firm to determine whether changes to the ratios need to be made.

A firm will use spontaneous funds to the extent possible; however, due to credit terms, contracts with workers, and tax laws there is little flexibility in their usage.

Which of the following is NOT one of the steps taken in the financial planning process?

North Construction had $850 million of sales last year, and it had $425 million of fixed assets that were used at only 60% of capacity.What is the maximum sales growth rate North could achieve before it had to increase its fixed assets?

Last year Baron Enterprises had $350 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?

A firm's profit margin is 5%, its debt/assets ratio is 56%, and its dividend payout ratio is 40%.If the firm is operating at less than full capacity, then sales could increase to some extent without the need for external funds, but if it is operating at full capacity with respect to all assets, including fixed assets, then any positive growth in sales will require some external financing.

If Decker had a financing deficit, it could remedy the situation by

Which of the following statements is CORRECT?