Question

The 2019 financial statements for Growth Industries are presented below.

INCOME STATEMENT, 2019

Sales $ 310,000

Costs 205,000

EBIT $ 105,000

Interest expense 21,000

Taxable income $ 84,000

Taxes (at 21%) 17,640

Net income $ 66,360

Dividends $ 26,544

Addition to retained earnings $ 39,816

BALANCE SHEET, YEAR-END, 2019 Assets Liabilities

Current assets Current liabilities

Cash $ 7,000 Accounts payable $ 14,000

Accounts receivable 12,000 Total current liabilities $ 14,000

Inventories 31,000 Long-term debt 210,000

Total current assets $ 50,000 Stockholders’ equity Net plant and equipment 250,000

Common stock plus additional paid-in capital 15,000 Retained earnings 61,000

Total assets $ 300,000 Total liabilities plus stockholders' equity $ 300,000

Sales and costs are projected to grow at 40% a year for at least the next 4 years. Both current assets and accounts payable are projected to rise in proportion to sales. The firm is currently operating at 70% capacity, so it plans to increase fixed assets in proportion to sales. Interest expense will equal 10% of long-term debt outstanding at the start of the year. The firm will maintain a dividend payout ratio of 0.40.

What is the required external financing over the next year? (Enter excess cash as a negative number with a minus sign.)

Answer 1

PRO FORMA INCOME STATEMENT, 2020 Sales $434,000 [$310000 x 140%] Costs $287,000 [$205000 x 140%] EBIT $147,000 Interest expense $21,000 (10% of LT debt --> $210000 x 10%] Taxable income $126,000 Taxes (at 21%) $26,460 ($126000 x 21%] Net income $99,540 Dividends $39,816 ($99540 x 0.40] Addition to retained earnings $59,724 Increase in current assets Less: Increase in current liabilities Less: Addition to retained earnings External financing required next year (EFN) $20,000 [$50000 x 40%] $5,600 ($14000 x 40%] -$59,724 [Ref: Pro forma income statement, 2020) $45,324 NOTE: Current capacity = 70%; Expected growth % in sales = 40%; Therefore, capacity at growth = 70% x 140% = 98%; As the expected sales growth is within firm's 100% capacity, net fixed assets will not be affected.