Manual Solution 6-14
Manual Solution 6-14
Suppose that in 2016, sales increase by 10% over 2015 sales. The firm currently has
100,000 shares outstanding. It expects to maintain it 2015 dividend payout ratio and believes
that its assets should grow at the same rate as sales. The firm has no excess capacity.
However, the firm would like to reduce its operating costs/sales ratio to 87.5% and increase
its total liabilities-to-assets ratio to 30%. (recent LTA is to low relative to industry average).
The firm will raise 30% of the 2016 forecasted interest-bearing debt as notes payable, and it
will issue long-term bonds for the remainder. The firm forecasts that its before-tax cost of
debt (which includes both sort and long-term debt) is 12.5%. assume that any common stock
issuances of repurchases can be made at the firm’s current stock price of $45.
a. Construct the forecasted financial statements assuming that these changes are made.
What are the firm’s forecasted notes payable and long-term debt balances? What is
the forecasted addition to retained earnings?
b. If the profit margin remains at 5% and the dividend payout ratio remains at 60%, at
what growth rate in sales will the additional financing requirements be exactly zero?
In other words, what is the firm’s sustainable growth rate? (hint, AFN = 0, solve g)
a.
Part I
A0*= Assets at 2015 $2,700,000
S0 = 2015 sales $3,600,000
2015 Net income $180,000
2015 Devidens $108,000
L0* = 2015 payable + acruals, $540,000
ROE 8.98
Part II
g = Target growth rate in sales 0.1
A0*/S0 0.75
S1 = 2016 sales = (1+g) (S0)
3,960,000
= (1.1)(3600)
∆S = Growth in sales = S1 - So = 360,000
L0*/S0 0.15
M =Profit Margin on sales = 2015 net
0.05
income/So
1-devidend payout ratio = 1-
0.4
(devidend/net income)
Part III
Required incrase in assets -
Spontaneous increase in payables and accruals -
Fund obtained as new retained earning.
(A0*/S0) ∆S –
AFN = (L0*S0) ∆S –
MS1(1-Payout)
$270,000 -
$54,000 –
$79,200
AFN = $136,800
SGR 3.59%
Increase in sales (S) if AFN = 0
S = (S1-S0) 360,000
Growth in sales 9.09%
Morrissey Tech. must increase it sales by 9.09% ($360,000) without any additional financing.