Question

The Strathman Corporation, a metal forming company, had the following year-end results: Strathman Corporation Sales Costs IBT (margin) Taxes Net Income 30.700.000 27 016 000 3,684.000 773 640 2.910,360 120% margin 21% Dividends Addition to retained earnings 1.156.800 1.753.560 $ $ Current assets Net foed assets 7,200.000 17,600,000 Short-term debt Long-term debt 6,400,000 4,800,000 Common stock Accumulated retained earnings Total equity Total L&E $ 3,200,000 10,400,000 $ 13,600.000 $ 24.800.000 Total assets $ 24,800.000 For next year, Strathman is making the following planning assumptions: • • • Revenue growth: 7.5% IBT Margin: 1 percentage point higher than current year (to 13%) Tax Rate: Unchanged Dividends: Same dollar amount as current year Current Assets: Increase 2% faster than the sales growth rate Net Fixed Assets: $2.5 million net increase Long-Term Debt: Repay $0.6 million Repurchase $1.8 million in common shares (a reduction in Common Stock) (A) What amount of Short-term Debt will be needed in Box I to make this plan possible? (You will need to make a pro forma forecast of the table above to answer this question.) (B) Your bank then tells you that your Short-Term Debt is limited to $9.0 million. To comply with this cap, you decide to defer the purchase of a fourth machining center and thus cut the capital spending plan by $600,000 to a $1,900,000 net increase instead of $2,500,000 increase); and you also decide to reduce the sales forecast. All the other parameters set out in Part (A) continue to apply. What is the new growth rate in sales in BOX 2 (percentage to one decimal point, like x.x%) that you can support with the Short- Term Debt constraint?

Answer 1

Part (A)

Proforma Income Statement will be as shown below. Please see the last column to understand the mathematics.

Parameter	Linkage	$
Revenue	A = =30700000*(1+7.5%)	33,002,500
IBT	B = A x 13%	4,290,325
Taxes	C = B x 21%	900,968
Net income	D = B - C	3,389,357
Dividends	E = same as last year's figure	1,156,800
Addition to retained earnings	F = D - E	2,232,557

Proforma Balance Sheet:

Current Assets	P =72 00000*(1+9.5%)	7,884,000	Short term debt	Calculate S, T, U below first, then calculate this figure as R - (S + T + U)	9,751,443
Net fixed assets	Q = 17600000+2.5*10^6	20,100,000	Long term debt	S =4800000-0.6*10^6	4,200,000
Total Assets	R = P + Q	27,984,000	Common stock	T = 3200000-1.8*10^6	1,400,000
			Accumulated retained earnings	U = 10400000+2232557	12,632,557
			Total Liabilities & equity	V = Sum of all above	27,984,000

Hence, your answer in Box 1 should be:  9,751,443

Part (B)

Let g be the new growth rate in sales. Al financials below are in $ million

Change in assets = 7.2 x (g + 2%) + 1.9

Change in short term debt = 9 - 6.4 =  2.6

Change in long term debt = - 0.6

Change in common stock = -1.8

Change in accumulated retained earnings = Last year sales x 13% x (1 - 21%) - 1,156,800 = 30.7 x (1 + g) x 13% x (1 - 21%) - 1.1568

Change in assets = change in liabilities + change in equity

Hence, 7.2 x (g + 2%) + 1.9 = 2.6 - 0.6 - 1.8 + 30.7 x (1 + g) x 13% x (1 - 21%) - 1.1568

hence, 7.2g + 0.144 + 1.9 = 0.2 + 3.15289 x (1 + g) - 1.1568

Hence, g = (0.144 + 1.9 - 0.2 - 3.15289 + 1.1568) / (3.15289 - 7.2) = 0.03758 = 3.8%

Hence, please enter 3.8% in the Box 2.