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Unformatted text preview: ly impacted. 13. Financing possibly could have been arranged if the company had taken quick enough action. Sometimes it becomes apparent that help is needed only when it is too late, again emphasizing the need for planning. 21 14. All three were important, but the lack of cash or, more generally, financial resources, ultimately spelled doom. An inadequate cash resource is usually cited as the most common cause of small business failure. 15. Demanding cash upfront, increasing prices, subcontracting production, and improving financial resources via new owners or new sources of credit are some of the options. When orders exceed capacity, price increases may be especially beneficial. Solutions to Questions and Problems NOTE: All endofchapter problems were solved using a spreadsheet. Many problems require multiple steps. Due to space and readability constraints, when these intermediate steps are included in this solutions manual, rounding may appear to have occurred. However, the final answer for each problem is found without rounding during any step in the problem. Basic 1. 2. ROE = (PM)(TAT)(EM) ROE = (.058)(2.15)(1.35) = .1683 or 16.83% The equity multiplier is: EM = 1 + D/E EM = 1 + 0.90 = 1.90 One formula to calculate return on equity is: ROE = (ROA)(EM) ROE = 0.1010(1.90) = .1919 or 19.19% ROE can also be calculated as: ROE = NI / TE So, net income is: NI = ROE(TE) NI = (.1919)($645,000) = $123,775.50 3. This is a multistep problem involving several ratios. The ratios given are all part of the Du Pont Identity. The only Du Pont Identity ratio not given is the profit margin. If we know the profit margin, we can find the net income since sales are given. So, we begin with the Du Pont Identity: ROE = 0.16 = (PM)(TAT)(EM) = (PM)(S / TA)(1 + D/E) Solving the Du Pont Identity for profit margin, we get: PM = [(ROE)(TA)] / [(1 + D/E)(S)] PM = [(0.16)($1,1580)] / [(1 + 1.20)( $3,100)] = .0371 22 Now that we have the profit margin, we can use this number and the given sales figure to solve for net income: PM = .0371 = NI / S NI = .0371($3,100) = $114.91 4. An increase of sales to $30,960 is an increase of: Sales increase = ($30,960 – 25,800) / $25,800 Sales increase = .20 or 20% Assuming costs and assets increase proportionally, the pro forma financial statements will look like this: Pro forma income statement Sales $30,960.00 Costs 19,800.00 EBIT 11,160.00 Taxes (34%) 3,794.40 Net income $ 7,365.60 Assets Total Pro forma balance sheet $ $ 135,600 Debt Equity 135,600 Total $ 20,500.00 97,655.92 $118,155.92 The payout ratio is constant, so the dividends paid this year is the payout ratio from last year times net income, or: Dividends = ($1,841.40 / $6,138)($7,365.60) Dividends = $2,209.68 The addition to retained earnings is: Addition to retained earnings = $7,365 – 2,209.68 Addition to retained earnings = $5,155.92 And the new equity balance is: Equity = $92,500 + 5,155.92 Equity = $97,655.92 So the EFN is: EFN = Total assets – Total liabilities and equity EFN = $135,600 – 118,155.92 EFN = $17,444.08 23 5. The maximum percentage sales increase without issung new equity is the sustainable growth rate. To calculate the sustainable growth rate, we first need to calculate the ROE, which is: ROE = NI / TE ROE = $15,312 / $81,000 ROE = .1890 The plowback ratio, b, is one minus the payout ratio, so: b = 1 – .30 b = .70 Now we can use the sustainable growth rate equation to get: Sustainable growth rate = (ROE × b) / [1 – (ROE × b)] Sustainable growth rate = [.1890(.70)] / [1 – .1890(.70)] Sustainable growth rate = .1525 or 15.25% So, the maximum dollar increase in sales is: Maximum increase in sales = $67,000(.1525) Maximum increase in sales = $10,217.93 6. We need to calculate the retention ratio to calculate the sustainable growth rate. The retention ratio is: b = 1 – .10 b = .90 Now we can use the sustainable growth rate equation to get: Sustainable growth rate = (ROE × b) / [1 – (ROE × b)] Sustainable growth rate = [.15(.90)] / [1 – .15(.90)] Sustainable growth rate = .1561 or 15.61% 7. We must first calculate the ROE using the Du Pont ratio to calculate the sustainable growth rate. The ROE is: ROE = (PM)(TAT)(EM) ROE = (.081)(1.90)(1.25) ROE = .1924 or 19.24% The plowback ratio is one minus the dividend payout ratio, so: b = 1 – .30 b = .70 24 Now, we can use the sustainable growth rate equation to get: Sustainable growth rate = (ROE × b) / [1 – (ROE × b)] Sustainable growth rate = [.1924(.70)] / [1 – .1924(.70)] Sustainable growth rate = .1556 or 15.56% 8. An increase of sales to $6,669 is an increase of: Sales increase = ($6,669 – 5,700) / $5,700 Sales increase = .17 or 17% Assuming costs and assets increase proportionally, the pro forma financial statements will look like this: Pro forma income statement Sales Costs Net income $ $ 6,669 4,469 2,200 Assets Total Pro forma balance sheet $ 16,497 $ 16,497 Debt Equity Total $ 6,300 10,000 $ 16,300 If no dividends are paid, the equity account will increase by the net income, so: Eq...
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 Spring '10
 eshmalwi
 Finance, Corporate Finance

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