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1. Which of the following
statements is CORRECT?
a. Perhaps the most important
step when developing forecasted financial statements is to determine the
breakdown of common equity between common stock and retained earnings.
b. The first, and perhaps the
most critical, step in forecasting financial requirements is to forecast future
sales.
c. Forecasted financial
statements, as discussed in the text, are used primarily as a part of the
managerial compensation program, where management’s historical performance is
evaluated.
d. The capital intensity ratio
gives us an idea of the physical condition of the firm’s fixed assets.
e. The AFN equation produces more
accurate forecasts than the forecasted financial statement method, especially
if fixed assets are lumpy, economies of scale exist, or if excess capacity
exists.
2. Which of the following
statements is CORRECT?
a. The sustainable 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.
b. If a firm’s assets are growing
at a positive rate, but its retained earnings are not increasing, then it would
be impossible for the firm’s AFN to be negative.
c. If a firm increases its
dividend payout ratio in anticipation of higher earnings, but sales and earnings
actually decrease, then the firm’s actual AFN must, mathematically, exceed the
previously calculated AFN.
d. Higher sales usually require
higher asset levels, and this leads to what we call AFN. However, the AFN will
be zero if the firm chooses to retain all of its profits, i.e., to have a zero
dividend payout ratio.
e. Dividend policy does not
affect the requirement for external funds based on the AFN equation.
3. Which of the following
statements is CORRECT?
a. When we use the AFN equation,
we assume that the ratios of assets and liabilities to sales (A0*/S0 and
L0*/S0) vary from year to year in a stable, predictable manner.
b. When fixed assets are added in
large, discrete units as a company grows, the assumption of constant ratios is
more appropriate than if assets are relatively small and can be added in small
increments as sales grow.
c. Firms whose fixed assets are
“lumpy” frequently have excess capacity, and this should be accounted for in
the financial forecasting process.
d. For a firm that uses lumpy
assets, it is impossible to have small increases in sales without expanding
fixed assets.
e. There are economies of scale
in the use of many kinds of assets. When economies occur the ratios are likely
to remain constant over time as the size of the firm increases.
4. Last year Jain Technologies
had $250 million of sales and $100 million of fixed assets, so its FA/Sales
ratio was 40%. However, its fixed assets were used at only 75% of capacity. Now
the company is developing its financial forecast for the coming year. As part
of that process, the company wants to set its target Fixed Assets/Sales ratio
at the level it would have had had it been operating at full capacity. What
target FA/Sales ratio should the company set?
a. 28.5%
b. 30.0%
c. 31.5%
d. 33.1%
e. 34.7%
5. Howton&Howton Worldwide
(HHW) is planning its operations for the coming year, and the CEO wants you to
forecast the firm's additional funds needed (AFN). The firm is operating at
full capacity. Data for use in the forecast are shown below. However, the CEO
is concerned about the impact of a change in the payout ratio from the 10% that
was used in the past to 50%, which the firm's investment bankers have
recommended. Based on the AFN equation, by how much would the AFN for the
coming year change if HHW increased the payout from 10% to the new and higher
level? All dollars are in millions.
Last year’s sales = S0 $300.0
Last year’s accounts payable $50.0
Sales growth rate = g 40% Last
year’s notes payable $15.0
Last year’s total assets = A0*
$500.0 Last year’s accruals $20.0
Last year’s profit margin = PM
20.0% Initial payout ratio 10.0%
a. $31.9
b. $33.6
c. $35.3
d. $37.0
e. $38.9
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