Question

AFN EQUATION Carlsbad Corporation's sales are expected to increase from $5 million in 2016 to $6 million in 2017, or by 20%. Its assets totaled $3 million at the end of 2016. Carlsbad is at full capacity, so its assets must grow in proportion to projected sales. At the end of 2016, current liabilities are $1 million, consisting of $250,000 of accounts payable, $500,000 of notes payable, and $250,000 of accrued liabilities. Its profit margin is forecasted to be 5%. a. Assume that the company pays no dividends. Under these assumptions, what would be the additional funds needed for the coming year? Write out your answer completely. For example, 5 million should be entered as 5,000,000. Round your answer to the nearest cent. b. Why is this AFN different from the one when the company pays dividends? I. Under this scenario the company would have a higher level of spontaneous liabilities, which would reduce the amount of additional funds needed. II. Under this scenario the company would have a lower level of retained earnings, which would increase the amount of additional funds needed. III. Under this scenario the company would have a lower level of retained earnings, which would decrease the amount of additional funds needed. IV. Under this scenario the company would have a higher level of retained earnings, which would reduce the amount of additional funds needed. V. Under this scenario the company would have a higher level of retained earnings, which would reduce the amount of assets needed.

Answer 1

solution: Part a: AFN = ((A0/S0) x (S1-SO)) - (LO/SO) X (S1-SO)) - (M)(1)(b) 0.05 M=Profit margin b=retention ratio = 1- payout ratio = 1-0 SO-current level of sales S1=expected level of sales AO=current level of asset LO= current level of spontaneous liability ==250000+250000 5000000 6000000 3000000 500000 AFN=((3000000/5000000)*(6000000-5000000))-((500000/5000000)*(6000000-5000000))-0.05*6000000* 1 2 00000 Part b: Why is this AFN different from the one when the company pays dividends? IV. Under this scenario the company would have a higher level of retained earnings which would reduce the amount of additional funds needed.