Question

Your firm is considering purchasing a new machine. With the new machine increase from $15 million to $17 million. The firm beneves assets and liabilities The firm's profit margin is 12% and the dividend payout is 25%. The firm's curre provided below: hipe. With the new machine, sales are expected to firm believes assets and liabilities vary directly with sales. vidend payout is 25%. The firm's current financial data is Current Assets Fixed Assets Total Assets $ 5,000,000 $ 10,000,000 $ 15,000,000 ST Debt LT Debt Common Stock Retained Earnings Total Financing $ 5,000,000 $ 4,000,000 $ 3,500,000 $ 2,500,000 $ 15,000,000 1. What is the firm's sustainable growth rate? 2. Create a Pro Forma Balance Sheet and determine EFN.

Answer 1

1)Total equity= common stock +Retained earning

                  = 3,500,000 +2,500,000

                   = 6,000,000

Net income = Sales * profit margin

              = 15,000,000 * 12%

               = 1,800,000

Return on equity =net income /Total equity

                     = 1,800,000/6,000,000

                     = .03 or 3%

Sustainable growth rate =Return on equity *(1- Dividend payout ratio)

                      = 3 * (1-.25)

                      =3*.75

                        = 2.25%

2)

Next year addition to retained earning:

Sales	17000000
Profit	17,000,000*12%= 2040000
Addition to retained earning	2040000(1-.25)= 1530000

Retained earning at end of next year =Beginning balance +addition to retained earning

                     = 2500000+1530000

                    = 4030000

EFN =Common stock current year -common stock last year

        = 2770000 - 3,500,000

       = -730,000

PROFORMA BALANCE SHEET
Current asset [5000000*17/15]	5666667
Fixed asset [10,000,000*17/15]	11333333
Total asset	17,000,000
ST debt   [5000000*17/15]	5666667
LT debt   [4000000*17/15]	4533333
common stock (Balancing figure)	2770000
Retained earning	4030000
Total financing	17,000,000

**Balance of asset and liabilities varies directly with sales and is determined using the formula :Last year asset or liabilities * current year sales /last year sales