Question

Planning for Growth at S&S Air After Chris completed the ratio analysis for S&S Air (see Chap ter 3. Mark and Todd approached him about planning for next year's sales. The company had historically used lime planning for investment needs. As a result, the company experienced some challenging times because of cash flow problems. The lack of planning resulted in missed sales, as well as periods when Mark and Todd were unable to draw salaries. To this end, they would like Chris to prepare a financial plan for the next year so the company can begin to address any outside investment require ments. The income statement and balance sheet are shown here: 2012 Income Statement Sales Cost of goods sold Other expenses Depreciation EBIT 3:30.499 420 22 224.580 3.867.500 1386.680 $ 3.040.680 478.240 $ 2.552 420 1.024.968 $ 1.537,452 Taxable income Taxes (40%) Net Income Dividends Add to retained earnings $560.000 977.452 Assets Current assets Cash Accounts receivable Inventory Total current assets Fixed assets Net plant and equipment SLS A Inc. 2012 Balance Sheet Liabilities and Equity Current liabilities $ 441.000 Accounts payable $ 689.000 508.400 Notes payable 2 230.000 1 237.120 Total current liabilities $ 2.919.000 $ 2,186,520 Long-term debt $5,320,000 $16,122.400 Shareholder equity Common stock Retained earnings Total equity Total liabilities and equity $ 350,000 9.719.920 $10.069,920 $18.308.920 Total assets $18,308.920 QUESTIONS 1. Calculate the internal growth rate and sustainable growth rate for S&S Air. What do these numbers mean? 2. S&S Air is planning for a growth rate of 12 percent next year. Calculate the EFN for the company assuming the company is operating at full capacity. Can the company's sales increase at this growth rate? 3. Most assets can be increased as a percentage of sales. For instance, cash can be increased by any amount However, fixed assets must be increased in specific amounts because it is impossible, as a practical matter to buy part of a new plant or machine. In this case, a com pany has a "staircase" or "lumpy" fixed cost structure. Assume S&S Air is currently producing at 100 percent capacity. As a result, to increase production. the company must set up an entirely new line at a cost of $5.000.000. Calculate the new EFN with this assump- tion. What does this imply about capacity utilization for the company next year?

Answer 1

Answer 1:

Internal growth rate = retention ratio * ROA

where ROA = return on assets

ROA = Net income / total assets

Net income = 1537452

Total assets = 18308920

ROA = 1537452/18308920

= 0.084

Retention ratio = 1- dividend payout ratio

dividend payout ratio = dividends/net income

dividend = 560000

dividend payout = 560000/1537452 = 0.364

retention ratio = 1-0.364 = 0.636

Internal growth rate = ROA * retention ratio

= 0.084*0.636

= 0.053 = 5.3%

The company can achieve a 5.3% increase in sales and assets without obtaining any external funding.

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Sustainable growth rate = ROE * retention ratio

where ROE is return on equity

ROE = Net income / equity = 1537452/10069920 = 0.153

Sustainable growth rate = 0.153*0.636 = 0.097 = 9.7%

The company will be able to grow by 9.7% on a sustainable basis in the future.

*** Please note as per HOMEWORKLIB POLICY we are entitled to answer only first or any one specified question. Please re-post the remaining questions . Thank you.

Answer 2

Pro forma financial statements for next year at a 12 percent growth rate are:

Pro Forma Income Statement

	$
Sales ($46,298,115 × 1.12)	51,853,888.80
(-) Cost of goods sold ($34,536,913 × 1.12)	38,681,342.56
Other   expenses	5,870,865.00
Depreciation	2,074,853.00
EBIT	5,226,828.24
(-) Interest	725,098.00
Taxable income	4,501,730.24
(-) Taxes ($4,501,730.24 × 21%)	945,363.35
Net income	3,556,366.89
Dividends	$1,081,737.23
Add to retained earnings	$2,474,629.66

 

Dividends

= ($705,000 / $2,317,789) × $3,556,366.89

= $1,081,737.23

 

 

Pro Forma Balance Sheet

Assets	RM	Liabilities   and Equity	RM
Current Assets:		Current Liabilities:
Cash   ($524,963 × 1.12)	587,958.56	Accounts payable    ($1,068,356×   1.12)	1,196,558.72
Accounts   receivable    ($843,094 ×   1.12)	944,265.28	Notes   payable	2,439,553
Inventory    ($1,235,161   × 1.12)	1,383,380.32	Total   current liabilities	3,636,111.72
Total current   assets	2,915,631.16	Long-term debt	6,300,000
Fixed Assets:		Shareholder Equity:
Net plant   and equipment      ($20,381,945 × 1.12)	22,827,778.40	Common   stock	460,000
		Retained earnings    ($12,717,254   +     $2,474,629.66)	15,191,883.66
		Total   equity	15,651,883.66
Total Assets	25,743,409.56	Total Liabilities and Equity	25,587,995.38

 

External Financing Needed (EFN)

= Total Assets – Total Liabilities and Equity

= $25,743,409.56 - $25,587,995.38

= $155,414,18