MFSHW5 Business Math
Real Options: Undertaking the Project
Which of the following statements is correct?
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Real Options: Real Options
DCF analysis doesn’t always lead to proper capital budgeting decisions because capital budgeting projects are not investments like stocks and bonds. Managers can often take positive actions after the investment has been made to alter a project’s cash flows. These opportunities are real options that offer the right but not the obligation to take some future action. Types of real options include growth (expansion), abandonment, investment timing, and flexibility (inputs/output). The existence of options can projects’ expected profitability, their calculated NPVs, and their risk. This chapter discusses the different types of real options, how to analyze them, and calculate the value of each option. A(n) option is an investment that creates the opportunity to make other potentially profitable investments that would not otherwise be possible. A(n) option gives the firm the ability to shut down a project if operating cash flows turn out to be lower than expected. An investment option gives the firm flexibility as to when to begin a project. Often, if a firm can delay an investment, it can increase a project’s expected NPV. A(n) option gives the firm the ability to alter operations depending on how conditions change during a project’s life. These options can permit the firm to change either the inputs it uses or the output it produces after operations have commenced.
Capital Budgeting: Estimating Cash: Cash Flow Estimation and Risk Analysis: Real Options
DCF analysis doesn't always lead to proper capital budgeting decisions because capital budgeting projects are not investments like stocks and bonds. Managers can often take positive actions after the investment has been made to alter a project's cash flows. These opportunities are real options that offer the right but not the obligation to take some future action. Types of real options include abandonment, investment timing, expansion, output flexibility, and input flexibility. The existence of options can projects' expected profitability, their calculated NPVs, and their risk.
The abandonment option is the option to shut down a project if operating cash flows turn out to be lower than expected. To analyze the abandonment option you can draw a decision tree, which is a diagram that lays out different branches that are the result of different decisions made or the result of different economic situations. When analyzing real options you consider the project with and without the option. The option value is calculated as the difference between the expected NPVs with and without the relevant option. (If the value of the project without the option is negative and the NPV of the project with the option is positive, then the option value is simply the calculated NPV of the option.) It is the value that is not accounted for in a traditional NPV analysis and a positive option value expands the firm's opportunities.
Quantitative Problem: Sunshine Smoothies Company (SSC) manufactures and distributes smoothies. SSC is considering the development of a new line of high-protein energy smoothies. SSC's CFO has collected the following information regarding the proposed project, which is expected to last 3 years:
· The project can be operated at the company's Charleston plant, which is currently vacant.
· The project will require that the company spend $3.99 million today (t = 0) to purchase additional equipment. For tax purposes the equipment will be depreciated on a straight-line basis over 5 years. Thus, the firm's annual depreciation expense is $3,990,000/5 = $798,000. The company plans to use the equipment for all 3 years of the project. At t = 3 (which is the project's last year of operation), the equipment is expected to be sold for $1,700,000 before taxes.
· The project will require an increase in net operating working capital of $730,000 at t = 0. The cost of the working capital will be fully recovered at t = 3 (which is the project's last year of operation).
· Expected high-protein energy smoothie sales are as follows:
|
Year |
Sales |
|
1 |
$2,100,000 |
|
2 |
7,900,000 |
|
3 |
3,200,000 |
· The project's annual operating costs (excluding depreciation) are expected to be 60% of sales.
· The company's tax rate is 40%.
· The company is extremely profitable; so if any losses are incurred from the high-protein energy smoothie project they can be used to partially offset taxes paid on the company's other projects. (That is, assume that if there are any tax credits related to this project they can be used in the year they occur.)
· The project has a WACC = 10.0%.
What is the project's expected NPV and IRR? Round your answers to 2 decimal places. Do not round your intermediate calculations.
|
NPV |
$ |
|
IRR |
% |
Should the firm accept the project?
SSC is considering another project: the introduction of a "weight loss" smoothie. The project would require a $3.6 million investment outlay today (t = 0). The after-tax cash flows would depend on whether the weight loss smoothie is well received by consumers. There is a 40% chance that demand will be good, in which case the project will produce after-tax cash flows of $2.5 million at the end of each of the next 3 years. There is a 60% chance that demand will be poor, in which case the after-tax cash flows will be $0.55 million for 3 years. The project is riskier than the firm's other projects, so it has a WACC of 11%. The firm will know if the project is successful after receiving the cash flows the first year, and after receiving the first year's cash flows it will have the option to abandon the project. If the firm decides to abandon the project the company will not receive any cash flows after t = 1, but it will be able to sell the assets related to the project for $2.5 million after taxes at t = 1. Assuming the company has an option to abandon the project, what is the expected NPV of the project today? Round your answer to 2 decimal places. Do not round your intermediate calculations. Use the values in "millions of dollars" to ascertain the answer. $ millions of dollars
eal Options: Quantitative problems
Quantitative Problem 1:
Florida Seaside Oil Exploration Company is deciding whether to drill for oil off the northeast coast of Florida. The company estimates that the project would cost $4.59 million today. The firm estimates that once drilled, the oil will generate positive cash flows of $2.295 million a year at the end of each of the next four years. While the company is fairly confident about its cash flow forecast, it recognizes that if it waits two years, it would have more information about the local geology as well as the price of oil. Florida Seaside estimates that if it waits two years, the project would cost $5.25 million. Moreover, if it waits two years, there is a 75% chance that the cash flows would be $2.4 million a year for four years, and there is a 25% chance that the cash flows will be $0.89 million a year for four years. Assume that all cash flows are discounted at a 8% WACC.
If the company chooses to drill today, what is the project’s net present value? Round your answer to five decimal places. $ million
Quantitative Problem 2:
Florida Seaside Oil Exploration Company is deciding whether to drill for oil off the northeast coast of Florida. The company estimates that the project would cost $4.74 million today. The firm estimates that once drilled, the oil will generate positive cash flows of $2.37 million a year at the end of each of the next four years. While the company is fairly confident about its cash flow forecast, it recognizes that if it waits two years, it would have more information about the local geology as well as the price of oil. Florida Seaside estimates that if it waits two years, the project would cost $5.35 million. Moreover, if it waits two years, there is a 55% chance that the cash flows would be $2.46 million a year for four years, and there is a 45% chance that the cash flows will be $1.345 million a year for four years. Assume that all cash flows are discounted at a 9% WACC.
What is the project’s net present value in today’s dollars, if the firm waits two years before deciding whether to drill? $ million (to 5 decimals)
Quantitative Problem 3:
Florida Seaside Oil Exploration Company is deciding whether to drill for oil off the northeast coast of Florida. The company estimates that the project would cost $4.18 million today. The firm estimates that once drilled, the oil will generate positive cash flows of $2.09 million a year at the end of each of the next four years. While the company is fairly confident about its cash flow forecast, it recognizes that if it waits two years, it would have more information about the local geology as well as the price of oil. Florida Seaside estimates that if it waits two years, the project would cost $4.78 million. Moreover, if it waits two years, there is a 80% chance that the cash flows would be $2.155 million a year for four years, and there is a 20% chance that the cash flows will be $1.217 million a year for four years. Assume that all cash flows are discounted at a 12% WACC.
Will the company delay the project and wait until they have more information?
Problem 26-01 Investment Timing Option: Decision-Tree Analysis
Kim Hotels is interested in developing a new hotel in Seoul. The company estimates that the hotel would require an initial investment of $23 million. Kim expects the hotel will produce positive cash flows of $3.22 million a year at the end of each of the next 20 years. The project's cost of capital is 12%.
a. What is the project's net present value? A negative value should be entered with a negative sign. Enter your answer in millions. For example, an answer of $1.2 million should be entered as 1.2, not 1,200,000. Round your answer to two decimal places. $ million
b. Kim expects the cash flows to be $3.22 million a year, but it recognizes that the cash flows could actually be much higher or lower, depending on whether the Korean government imposes a large hotel tax. One year from now, Kim will know whether the tax will be imposed. There is a 50% chance that the tax will be imposed, in which case the yearly cash flows will be only $2.53 million. At the same time, there is a 50% chance that the tax will not be imposed, in which case the yearly cash flows will be $3.91 million. Kim is deciding whether to proceed with the hotel today or to wait a year to find out whether the tax will be imposed. If Kim waits a year, the initial investment will remain at $23 million. Assume that all cash flows are discounted at 12%. Use decision-tree analysis to determine whether Kim should proceed with the project today or wait a year before deciding.
Problem 26-02 Investment Timing Option: Decision-Tree Analysis
The Karns Oil Company is deciding whether to drill for oil on a tract of land that the company owns. The company estimates the project would cost $5 million today. Karns estimates that, once drilled, the oil will generate positive net cash flows of $2.25 million a year at the end of each of the next 4 years. Although the company is fairly confident about its cash flow forecast, in 2 years it will have more information about the local geology and about the price of oil. Karns estimates that if it waits 2 years then the project would cost $6 million. Moreover, if it waits 2 years, then there is a 90% chance that the net cash flows would be $2.7 million a year for 4 years and a 10% chance that they would be $1.5 million a year for 4 years. Assume all cash flows are discounted at 10%.
a. If the company chooses to drill today, what is the project's net present value? A negative value should be entered with a negative sign. Enter your answer in millions. For example, an answer of $1.2 million should be entered as 1.2, not 1,200,000. Round your answer to two decimal places. $ million
b. Using decision-tree analysis, does it make sense to wait 2 years before deciding whether to drill?
Analysis of Financial Statements: Introduction
Financial analysis indicates a company's relative strengths and weaknesses. use this information to improve the firm's operations and stock price; use this information to evaluate whether borrowers have the ability to pay off loans; and security analysts use this information to forecast earnings, dividends, and stock prices. Financial analysis compares a firm's performance to other firms in the same industry and evaluates trends in the firm's financial position over time. are the tools used in financial analysis and they are grouped into five categories: (1) Liquidity, (2) asset management, (3) debt management, (4) profitability, and (5) market value.
Analysis of Financial Statements: Liquidity Ratios
Liquidity ratios are used to measure a firm's ability to meet its obligations as they come due. Two of the most commonly used liquidity ratios are the: (1) Current ratio and (2) Quick, or acid test, ratio. The current ratio is the most commonly used measure of solvency. Its equation is:
If a firm is having financial difficulty, it typically begins to pay its accounts payable more slowly and to borrow from the bank, both of which will increase its current causing a decline in the current ratio. The quick ratio is a measure of a firm's ability to pay off obligations without relying on the sale of , which are typically the least liquid of a firm's current assets. Its equation is:
Analysis of Financial Statements: Asset Management Ratios
Asset management ratios are important - firms need to manage assets efficiently because capital obtained to acquire those assets is expensive. These ratios include the: (1) Inventory turnover ratio, (2) Days sales outstanding, (3) Fixed assets turnover, and (4) Total assets turnover. The inventory turnover ratio indicates how many times during the year inventory is and restocked. Its equation is:
Excess inventory is unproductive and represents an investment with a rate of return. An alternative definition of the inventory turnover ratio replaces sales in the numerator with . The rationale for this measurement is that inventory is carried at cost, so sales in the numerator overstates the true inventory turnover ratio. The days sales outstanding (DSO) ratio is also called the average collection period (ACP). Its equation is:
The DSO can also be evaluated by comparison with the terms on which the firm its goods. If its trend has been rising and policy has not changed, this would indicate a need to speed up the collection of receivables. The fixed assets turnover ratio measures how effectively the firm uses its plant and equipment. Its equation is:
There can be problems interpreting this ratio due to particularly when an older firm is compared with a newer company. The total assets turnover ratio measures how effectively the firm uses its total assets and whether the firm generates enough sales given its total assets. Its equation is:
Analysis of Financial Statements: Debt Management Ratios
Debt management ratios measure the extent to which a firm uses financial leverage and the degree of safety afforded to . They include the: (1) Debt-to-assets ratio, (2) Times interest earned ratio (TIE), and (3) EBITDA coverage ratio. The first ratio analyzes debt by looking at the firm's , while the last two ratios analyze debt by looking at the firm's . The debt-to-assets ratio measures the percentage of funds provided by . Its equation is:
High debt ratios that exceed the industry average may make it costly for a firm to borrow additional funds without first raising more . The times interest earned ratio measures the extent to which income can decline before the firm is unable to meet its annual payments. Its equation is:
EBIT is used as the numerator because is paid with pre-tax dollars, the firm's ability to pay is not affected by taxes. The EBITDA coverage ratio is:
This ratio is more complete than the TIE ratio because it recognizes that depreciation and amortization are not expenses, so these amounts are available to service debt, and lease payments and principal repayments are fixed payments.
Analysis of Financial Statements: Profitability Ratios
Profitability ratios reflect the net result of all the firm's policies and operating decisions. The profitability ratios include the: (1) Operating profit margin, (2) Net profit margin, (3) Return on total assets (ROA), (4) Basic earning power (BEP), (5) Return on invested capital (ROIC), and (6) Return on common equity (ROE). The operating profit margin indicates what percentage of sales remain after are accounted for. It is a measure of the firm's operating efficiency. Its equation is:
The net profit margin indicates what percentage of sales represents. It measures the firm's combined impact of operating efficiency and on the firm's profitability. Its equation is:
The return on total assets (ROA) measures the return on all the firm's assets interest and taxes. Its equation is:
A low ROA can result from a firm's decision to use more debt because high interest expenses will cause net income to . The basic earning power (BEP) ratio shows the earning power of the firm's assets taxes and debt and is useful for comparing firms with different debt ratios and tax rates.Its equation is:
The return on common equity (ROE) measures the return on investment. Its equation is:
Analysis of Financial Statements: Market Value Ratios
Market value ratios give management an indication of what investors think of the company's and future prospects. The market value ratios include: (1) Price/Earnings ratio and (2) Market/Book ratio. The Price/Earnings (P/E) ratio shows how much investors are willing to pay per dollar of current . Its equation is:
P/E ratios are for firms with strong growth prospects and relatively little risk but for slowly growing and risky firms. The Market/Book (M/B) ratio is another indication of how investors regard a firm. Its equation is:
Companies with risk and growth have high M/B ratios. M/B ratios typically exceed , which means that investors are willing to pay more for stocks than their accounting book values.
Analysis of Financial Statements: Tying the Ratios Together
The DuPont equation shows the relationships among asset management, debt management, and ratios. Management can use the DuPont equation to analyze ways of improving the firm's performance. Its equation is:
Ratio analysis is important to understand and interpret financial statements; however, sound financial analysis involves more than just calculating and interpreting numbers. factors also need to be considered.
Quantitative Problem: Rosnan Industries' 2018 and 2017 balance sheets and income statements are shown below.
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Balance Sheets: |
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2018 |
2017 |
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Cash and equivalents |
$70 |
$55 |
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Accounts receivable |
275 |
300 |
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Inventories |
375 |
350 |
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Total current assets |
$720 |
$705 |
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Net plant and equipment |
2,000 |
1,490 |
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Total assets |
$2,720 |
$2,195 |
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Accounts payable |
$150 |
$85 |
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Accruals |
75 |
50 |
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Notes payable |
120 |
145 |
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Total current liabilities |
$345 |
$280 |
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Long-term debt |
450 |
290 |
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Common stock |
1,225 |
1,225 |
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Retained earnings |
700 |
400 |
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Total liabilities and equity |
$2,720 |
$2,195 |
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Income Statements: |
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2018 |
2017 |
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Sales |
$2,000 |
$1,500 |
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Operating costs excluding depreciation |
1,250 |
1,000 |
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EBITDA |
$750 |
$500 |
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Depreciation and amortization |
100 |
75 |
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EBIT |
$650 |
$425 |
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Interest |
62 |
45 |
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EBT |
$588 |
$380 |
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Taxes (40%) |
235 |
152 |
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Net income |
$353 |
$228 |
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Dividends paid |
$53 |
$48 |
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Addition to retained earnings |
$300 |
$180 |
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Shares outstanding |
100 |
100 |
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Price |
$25.00 |
$22.50 |
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WACC |
10.00% |
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What is the firm’s 2018 current ratio? Round your answer to two decimal places.
If the industry average debt-to-total-assets ratio is 30%, then Rosnan’s creditors have a cushion than indicated by the industry average. What is the firm’s 2018 net profit margin? Round your answer to four decimal places. %
If the industry average profit margin is 12%, then Rosnan’s lower than average debt-to-total-assets ratio might be one reason for its high profit margin.
What is the firm’s 2018 price/earnings ratio? Round your answer to two decimal places.
Using the DuPont equation, what is the firm’s 2018 ROE? Round your answer to two decimal places. %
Problem 3-5 ROE
Needham Pharmaceuticals has a profit margin of 5.5% and an equity multiplier of 2.4. Its sales are $90 million and it has total assets of $50 million. What is its Return on Equity (ROE)? Round your answer to two decimal places.
%
Problem 3-6 DuPont Analysis
Gardial & Son has an ROA of 10%, a 6% profit margin, and a return on equity equal to 17%.
1. What is the company's total assets turnover? Round your answer to two decimal places.
2. What is the firm's equity multiplier? Round your answer to two decimal places.
Problem 3-8 Profit Margin and Debt Ratio
Assume you are given the following relationships for the Haslam Corporation:
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Sales/total assets |
1.5 |
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Return on assets (ROA) |
4% |
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Return on equity (ROE) |
5% |
1. Calculate Haslam's profit margin. Do not round intermediate calculations. Round your answer to two decimal places. %
2. Calculate Haslam's liabilities-to-assets ratio. Do not round intermediate calculations. Round your answer to two decimal places. %
3. Suppose half of Haslam's liabilities are in the form of debt. Calculate the debt-to-assets ratio. Do not round intermediate calculations. Round your answer to two decimal places. %
Problem 3-13 Comprehensive Ratio Analysis
Data for Lozano Chip Company and its industry averages follow.
Lozano Chip Company: Balance Sheet as of December 31, 2016 (Thousands of Dollars)
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Cash |
$ 225,000 |
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Accounts payable |
$601,866 |
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Receivables |
1,575,000 |
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Notes payable |
326,634 |
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Inventories |
1,125,000 |
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Other current liabilities |
525,000 |
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Total current assets |
$2,925,000 |
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Total current liabilities |
$1,453,500 |
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Net fixed assets |
1,350,000 |
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Long-term debt |
1,068,750 |
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Common equity |
1,752,750 |
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Total assets |
$4,275,000 |
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Total liabilities and equity |
$4,275,000 |
Lozano Chip Company: Income Statement for Year Ended December 31, 2016 (Thousands of Dollars)
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Sales |
$7,500,000 |
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Cost of goods sold |
6,375,000 |
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Selling, general, and administrative expenses |
825,000 |
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Earnings before interest and taxes (EBIT) |
$ 300,000 |
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Interest expense |
111,631 |
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Earnings before taxes (EBT) |
$ 188,369 |
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Federal and state income taxes (40%) |
75,348 |
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Net income |
$ 113,022 |
a. Calculate the indicated ratios for Lozano. Round your answers to two decimal places.
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Ratio |
Lozano |
Industry Average |
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Current assets/Current liabilities |
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2.0 |
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Days sales outstanding* |
days |
35.0 days |
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COGS/Inventory |
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6.7 |
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Sales/Fixed assets |
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12.1 |
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Sales/Total assets |
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3.0 |
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Net income/Sales |
% |
1.2% |
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Net income/Total assets |
% |
3.6% |
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Net income/Common equity |
% |
9.0% |
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Total debt/Total assets |
% |
30.0% |
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Total liabilities/Total assets |
% |
60.0% |
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*Calculation is based on a 365-day year. |
b.
c. Construct the extended Du Pont equation for both Lozano and the industry. Round your answers to two decimal places.
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For the firm, ROE is |
% |
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For the industry, ROE is |
% |
d. Outline Lozano's strengths and weaknesses as revealed by your analysis
Corporate Valuation and Financial Planning: The AFN Equation
Managers use projected financial statements in four ways: (1) By looking at projected statements, they can assess whether the firm's anticipated performance is in line with the firm's own general targets and with investors' expectations. (2) Pro forma statements can be used to estimate the effect of proposed operating changes, enabling managers to conduct “what if” analyses. (3) Managers use pro forma statements to anticipate the firm's future financing needs. (4) Managers forecast free cash flows under different operating plans, forecast their capital requirements, and then choose the plan that maximizes shareholder value. Security analysts make the same types of projections, forecasting future earnings, cash flows, and stock prices.
Increasing sales require additional assets, these assets must be financed, and it may or may not be possible to obtain all the funds needed for the firm's business plan. A key element in the financial forecasting process is to determine the financing requirements through the AFN equation. Additional funds needed are the amount of capital (interest-bearing debt and preferred and common stock) that will be necessary to acquire the required assets. The AFN equation approximates the funds needed assuming that ratios . The AFN equation is written as follows:
AFN = (A0 */S0)ΔS - (L0 */S0)ΔS - S1 x M x(1 - Payout ratio)
The AFN equation shows the relationship of funds needed by a firm to its projected increase in assets, the increase in spontaneous liabilities, and the increase in retained earnings. Rapidly growing companies require larger increases in assets; other things held constant, so growth is an important factor to the firm's AFN. The ratio is the ratio of assets required per dollar of sales. Companies with higher assets-to-sales ratios require more assets for a given increase in sales, hence a need for external financing. funds arise out of normal business operations from its suppliers, employees, and the government that reduce the firm's need for external financing. The the profit margin, the larger the net income available to support increases in assets, hence the the need for external financing. The ratio is the proportion of net income that is reinvested in the firm, and it is calculated as 1 minus the . The higher the ratio, the lower the firm's AFN. The growth rate is the maximum achievable growth rate without the firm having to raise external funds. In other words, it is the growth rate at which the firm's AFN equals zero.
Quantitative Problem 1: Beasley Industries' sales are expected to increase from $5 million in 2017 to $6 million in 2018, or by 20%. Its assets totaled $2 million at the end of 2017. Beasley is at full capacity, so its assets must grow in proportion to projected sales. At the end of 2017, current liabilities are $760,000, consisting of $130,000 of accounts payable, $450,000 of notes payable, and $180,000 of accrued liabilities. Its profit margin is forecasted to be 4%, and its dividend payout ratio is 70%. Using the AFN equation, forecast the additional funds Beasley will need for the coming year. Round your answer to the nearest dollar. Do not round intermediate calculations. $
The AFN equation assumes that ratios remain constant. However, firms are not always operating at full capacity so adjustments need to be made to the existing asset forecast. Excess capacity adjustments are changes made to the existing asset forecast because the firm is not operating at full capacity. For example, a firm may not be at full capacity with respect to its fixed assets. First, the firm's management must find out the firm's full capacity sales as follows:
Next, management would calculate the firm's target fixed assets ratio as follows:
Finally, management would use the target fixed assets ratio with the projected sales to calculate the firm's required level of fixed assets as follows:
Required level of fixed assets = (Target fixed assets/Sales)(Projected sales)
Quantitative Problem 2: Mitchell Manufacturing Company has $1,400,000,000 in sales and $200,000,000 in fixed assets. Currently, the company's fixed assets are operating at 75% of capacity.
a. What level of sales could Mitchell have obtained if it had been operating at full capacity? Round your answer to the nearest dollar. Do not round intermediate calculations. $
b. What is Mitchell's Target fixed assets/Sales ratio? Round your answer to two decimal places. Do not round intermediate calculations. %
c. If Mitchell's sales increase by 60%, how large of an increase in fixed assets will the company need to meet its Target fixed assets/Sales ratio? Round your answer to the nearest dollar. Do not round intermediate calculations. $
Corporate Valuation and Financial Planning: Forecasted Financial Statements
The AFN equation provides useful insights into the forecasting process, but this equation assumes that all of the firm's key ratios remain constant, which is not likely to hold true. Consequently, it is useful to forecast the firm's financial statements. The firm begins with forecasting its which then feeds into the firm's balance sheet. Management looks at operating ratios and their relationship with industry and benchmark averages. The forecasted income statement begins with the prior year's income statement and is adjusted for the sales growth forecast. Some inputs for the income statement are not under the firm's control - for example, tax and interest rates. The forecasted balance sheet is calculated from asset ratios that management has reviewed and changed based on industry and benchmark averages. An Excel spreadsheet is used for this analysis because changes in assumptions, financing, and ratios can be made to the statements to review alternative scenarios. The impact of these changes on the firm's forecasted financial statements ultimately can be used to improve the firm's operations.
Quantitative Problem: At the end of last year, Edwin Inc. reported the following income statement (in millions of dollars):
|
Sales |
$4,220.00 |
|
Operating costs (excluding depreciation) |
3,055.00 |
|
EBITDA |
$1,165.00 |
|
Depreciation |
330.00 |
|
EBIT |
$835.00 |
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Interest |
160.00 |
|
EBT |
$675.00 |
|
Taxes (40%) |
270.00 |
|
Net income |
$405.00 |
Looking ahead to the following year, the company's CFO has assembled this information:
· Year-end sales are expected to be 4% higher than $4.22 billion in sales generated last year.
· Year-end operating costs, excluding depreciation, are expected to increase at the same rates as sales.
· Depreciation costs are expected to increase at the same rate as sales.
· Interest costs are expected to remain unchanged.
· The tax rate is expected to remain at 40%.
On the basis of this information, what will be the forecast for Edwin's year-end net income? Round your answers to two decimal places. Do not round intermediate calculations. Enter all values as positive numbers.
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(in millions of dollars) |
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Sales |
$ |
|
Operating costs (excluding depreciation) |
|
|
EBITDA |
$ |
|
Depreciation |
|
|
EBIT |
$ |
|
Interest |
|
|
EBT |
$ |
|
Taxes |
|
|
Net income |
$ |
Problem 12-01 AFN equation
Broussard Skateboard's sales are expected to increase by 25% from $7.2 million in 2016 to $9.00 million in 2017. Its assets totaled $2 million at the end of 2016. Broussard is already at full capacity, so its assets must grow at the same rate as projected sales. At the end of 2016, current liabilities were $1.4 million, consisting of $450,000 of accounts payable, $500,000 of notes payable, and $450,000 of accruals. The after-tax profit margin is forecasted to be 4%, and the forecasted payout ratio is 75%. Use the AFN equation to forecast Broussard's additional funds needed for the coming year. Round your answer to the nearest dollar. Do not round intermediate calculations.
$
Problem 12-02 AFN equation
Broussard Skateboard's sales are expected to increase by 25% from $7.2 million in 2016 to $9.00 million in 2017. Its assets totaled $5 million at the end of 2016. Broussard is already at full capacity, so its assets must grow at the same rate as projected sales. At the end of 2016, current liabilities were $1.4 million, consisting of $450,000 of accounts payable, $500,000 of notes payable, and $450,000 of accruals. The after-tax profit margin is forecasted to be 4%, and the forecasted payout ratio is 55%. What would be the additional funds needed? Do not round intermediate calculations. Round your answer to the nearest dollar. $
Assume that an otherwise identical firm had $6 million in total assets at the end of 2016. The identical firm's capital intensity ratio (A0*/S0) is than Broussard's; therefore, the identical firm is capital intensive - it would require increase in total assets to support the increase in sales.
Problem 12-05 Long-Term Financing Needed
At year-end 2016, Wallace Landscaping’s total assets were $2.0 million, and its accounts payable were $390,000. Sales, which in 2016 were $2.7 million, are expected to increase by 30% in 2017. Total assets and accounts payable are proportional to sales, and that relationship will be maintained. Wallace typically uses no current liabilities other than accounts payable. Common stock amounted to $435,000 in 2016, and retained earnings were $220,000. Wallace has arranged to sell $95,000 of new common stock in 2017 to meet some of its financing needs. The remainder of its financing needs will be met by issuing new long-term debt at the end of 2017. (Because the debt is added at the end of the year, there will be no additional interest expense due to the new debt.) Its net profit margin on sales is 7%, and 55% of earnings will be paid out as dividends.
a. What was Wallace's total long-term debt in 2016? Do not round intermediate calculations. Round your answer to the nearest dollar. $ What were Wallace's total liabilities in 2016? Do not round intermediate calculations. Round your answer to the nearest dollar. $
b. How much new long-term debt financing will be needed in 2017? (Hint: AFN - New stock = New long-term debt.) Do not round intermediate calculations. Round your answer to the nearest dollar. $
Problem 12-06 Additional Funds Needed
The Booth Company's sales are forecasted to double from $1,000 in 2016 to $2,000 in 2017. Here is the December 31, 2016, balance sheet:
|
Cash |
|
$ 100 |
|
Accounts payable |
|
$ 50 |
|
Accounts receivable |
|
200 |
|
Notes payable |
|
150 |
|
Inventories |
|
200 |
|
Accruals |
|
50 |
|
Net fixed assets |
|
500 |
|
Long-term debt |
|
400 |
|
|
|
|
|
Common stock |
|
100 |
|
|
|
|
|
Retained earnings |
|
250 |
|
Total assets |
|
$1000 |
|
Total liabilities and equity |
|
$1000 |
Booth's fixed assets were used to only 50% of capacity during 2016, but its current assets were at their proper levels in relation to sales. All assets except fixed assets must increase at the same rate as sales, and fixed assets would also have to increase at the same rate if the current excess capacity did not exist. Booth's after-tax profit margin is forecasted to be 6% and its payout ratio to be 65%. What is Booth's additional funds needed (AFN) for the coming year? Round your answer to the nearest dollar.
$
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