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| 3/16/2012 1
Wassim Zhani
DR Eurico Ferreira
FIN 471
Expert System, Inc.| 3/16/2012 2
Answer 1
M=Profit margin
Thus=
=5.616-.326-2.924813
=2.365187
Answer 2
After analyzing the statement of balance sheet as arrived at by proportionate sales growth method the additional funds
generated is equivalent to 5.616 whereas by the ESI method it is equivalent to 2.3651897.
However a closer look will reveal that there is not any difference between the two methods . both methods recognize that
there is an initial growth of sales by 5.616.both recognize that the current liability grow by .326. the difference occur on
account of retained earnings which is calculated to be 2.924813 by AFN method but 1.146 by proportionate sales method.
This happens because in AFN we have decided to calculate proportion of debt & common stock increase after deducting
growth in retained earnings while in proportionate to sales method everything remains constant with respect to proportion
to sales.
Expert System, Inc.| 3/16/2012 3
1995 1996
Amount % to sales Amount % to sales
Sales 56.16 67.392
0.328
Cash & Securities 1.64 2.920228 1.968 2.920228
0.8
Accounts receivable 4 7.122507 4.8 7.122507
0.84
Inventories 4.2 7.478632 5.04 7.478632
1.968
Current Asset 9.84 17.52137 11.808 17.52137
3.648
net Fixed Asset 18.24 32.47863 21.888 32.47863
5.616
Total Asset 28.08 50 33.696 50
Liabilities
0.094
Accounts Payable 0.47 0.836895 0.564 0.836895
0.16
Notes Payable 0.8 1.424501 0.96 1.424501
0.072
Accrued Wages & Taxes 0.36 0.641026 0.432 0.641026
0.326
Current Liability 1.63 2.902422 1.956 2.902422
1.536
Long term Debt 7.68 13.67521 9.216 13.67521
1.862
total liabilities 9.31 16.57764 11.172 16.57764
2.608
Common Stock 13.04 23.21937 15.648 23.21937
1.146
Retained Earnings 5.73 10.20299 6.876 10.20299
3.754
total Common Equity 18.77 33.42236 22.524 33.42236
5.616
Total Liability & Equity 28.08 50 33.696 50
Answer 3
A)
sales Assets
24 12
28.8 14.4
Expert System, Inc.| 3/16/2012 4
36 18
43.2 21.6
56.16 28.08
60
50
40
30 sales
Assets
20
10
0
1 2 3 4 5
Hence we can see that after plotting the given data in the question for sales & assets the proportionality of sales growth
model holds true in this case.
B)
sales Assets
24 22.8
28.8 24.27
36 27.2
43.2 30.56
56.16 31.25
60
40
sales
20
Assets
0
1 2 3 4 5
Here the graph clearly shows that though both the assetet the growth in assets is more et the growth in assets is not I
proportion to growth in sales as it registeres a lower increase.
C) we believe that in case of most firms case the situation as depicted in the b part is likely to hold true. This is beacause
after establishment and acheivement of greakeven point only the variable costs increase whele the fixed costs remain
constan irrespective of the level of plant capacity utilization till 100% capcity is achieved. As a result there is lower
demand for extra fund proportinately than the growth rate in sales. In case of propotionate sales growth model it has
following implications:
Answer 4
80% % 0.96
sales 56.16 67.392
cost of sales 46.1 0.820869 55.32 0.820869
Depreciation 3.5 0.062322 4.2 0.062322
Gross profit 6.56 0.116809 7.872 0.116809
We observe that our additional Fund requirement will amount to 1.268 for 1996. This occurs on account of following
facts.
Depreciation instead of being constant amount wise was constant percentagewise to sales .Thus it recorded an increase of
0.7. This resulted in lowering the value of net asset for 1996 by .7 making it 17.54 instead of 18.24. As a result of this and
considering that all the other assets maintained the same proportion with respect to sales we arrive at the Total assets
value of 29.348. Thus the total assets value registered an increase of 1.268. This increase is financed in following manner:
Answer 5
80% % 0.96
11.232
Sales 56.16 67.392
9.22
cost of sales 46.1 0.820869 55.32 0.820869
0.7
Depreciation 3.5 0.062322 4.2 0.062322
1.312
Gross profit 6.56 0.116809 7.872 0.116809
0
Interest Expense 0.83 0.014779 0.83 0.012316
1.312
Taxable Income 5.73 0.10203 7.042 0.104493
0.524342
Taxes 2.29 0.040776 2.814342 0.041761
0.787658
Net Income 3.44 0.061254 4.227658 0.062732
0.274764
Dividends 1.2 0.021368 1.474764 0.021883
0.512894
Addition to retained earnings 2.24 0.039886 2.752894 0.040849
Expert System, Inc.| 3/16/2012 7
We can see that the change brought about the increased sales at 96% capacity utilization is resulting into net income after
tax of 4.227658 which is an addition of .787658. here we have presumed following things:
Thus the Increased amount of Net Income after tax has been calculated to .787658. This amount can be utilized in
following manner:
Paying off the debt is not a viable option since paying it will only tend to lower the interest amount . this will tend to make
the amount of taxes increase . Thus the full impact of increased earning will not be transferred to the shareholders.
Increasing the amount of retained earnings by full amount will serve to increase the retained earnings by the increased
amount making the firm more able to encash future opportunities. But this will anger shareholders as they will feel that
they have not received their proportionate growth in dividend.
Utilizing the entire increased amount to pay increased dividends will make the shareholders happy but will not help in
making reserves of firm grow. This in turn will also affect the wealth maximization objective of the shareholders.
It would be advisable here that the increased amount be proportionately divided among dividends and retained
earnings. This would retain the percentage of both with respect constant while keeping shareholders happy and satisfying
the wealth maximization objective too.
Answer 6
A)
Thus we can see that in this case total capacity utilization would be 108% thus in this case the depreciation would increase
at a lower rate than the increase in sales.
Income statement for the Year 1995 & 1996 at 90% and108% capacity
On the balance sheet we can state quite confidently that such a state would result in proportionate growth in current assets
but a less than proportionate growth in debt situation and thereby a lower additional fund requirement than in the stage of
100% capacity utilization
B)
In such a case the financial requirement will be determined by the extent to which assets are lumpy. Because I such a case
the assets cannot be purchase in small lots as & when require. Therefore the additional fund required would be equal to
value of lumpy assets required in a batch and will not be dictated by the capacity utilization or its extension.
Where the assets are not lump means that the assets can be purchased in small lots too as per the needs of firm. As such
financial requirement will depend upon the extent to which plant capacity has been utilized.
C)
Sales AFN
1995 56.16 28.08
1996 67.392 37.682
37.682
28.08
67.392
56.16
1995 1996
Answer 7
Expert System, Inc.| 3/16/2012 9
Rest everything remains the same. As a result following things are noticeable.
1. Interest expenses have increased but their proportion has gone down.
2. Dividends have also increased but their proportion has also gone down with respect to sales.
3. Debt amount has increased but proportion has reg. a decline.
4. Retained earnings have almost doubled
5. Common stock has registered a decline which in general cases in not practically possible. it could only happen if
stock has been reevaluated using new method than that previously being used.
100.00 % 120
Sales 56.16 67.392 11.232
cost of sales 46.1 0.820869 50.71 0.752463 4.61
Depreciation 3.5 0.062322 4.2 0.062322 0.7
Gross profit 6.56 0.116809 12.482 0.185215 5.922
Interest Expense 0.83 0.014779 0.857559 0.012725 0.027559
Taxable Income 5.73 0.10203 11.62444 0.17249 5.894441
Taxes 2.29 0.040776 4.645719 0.399651 2.355719
Net Income 3.44 0.061254 6.978722 0.103554 3.538722
Dividends 1.2 0.021368 1.744681 0.025889 0.544681
Addition to retained earnings 2.24 0.039886 5.234042 0.077666 2.994042
Answer 8
Answer 9
The single next important method for analyzing the financial requirement for firm is the Cash Budget method. Under this
method one begins with the cash in hand, estimates the revenue being generated at various point of time and also the
expenses that is to be made. It then makes estimation of requirement by adding the cash inflow to the opening cash and
deducting cash expenses required. The balance is the excess cash situation or the additional cash requirement position.
This can be done within a day of providing the above related data to me.
Answer 10
The fact that the capital structure of firm is 29:71 instead of 25: 75 is not really a cause of concern. A higher debt
proportion can be justified on following grounds:-
The lower debt rate will mean lower interest charges thus increasing the taxable amount. However the increased amount
will be somewhat negated by the fact that the tax will take away some portion of increased amount.
Debt utilizations is also justified when firm is experiencing increasing profit returns. As such I such a case it will be more
profitable to use debt since not only will its cost be lower than the returns but also the fact that it will allowed as a
deductible expense from revenue thus lowering the amount of taxable income while keeping the number of shares same .
Thus in final analysis earning per share will increase
Answer 11
Accounts Payable 0.47 0.836895 0.564 0.836895 0.094 0.564 0.836895 0.094
Notes Payable 0.8 1.424501 0.96 1.424501 0.16 0.96 1.424501 0.16
Accrued Wages & Taxes 0.36 0.641026 0.432 0.641026 0.072 0.432 0.641026 0.072
Current Liability 1.63 2.902422 1.956 2.902422 0.326 1.956 2.902422 0.326
Long term Debt 7.68 13.67521 9.216 13.67521 1.536 7.935 11.77439 0.255
total liabilities 9.31 16.57764 11.172 16.57764 1.862 9.891 14.67682 0.581
Common Stock 13.04 23.21937 15.648 23.21937 2.608 0 -13.04
Retained Earnings 5.73 10.20299 6.876 10.20299 1.146 0 -5.73
total Common Equity 18.77 33.42236 22.524 33.42236 3.754 23.805 35.32318 5.035
Total Liability & Equity 28.08 50 33.696 50 5.616 33.696 50 5.616
In the above statement it can be clearly seen that encompassing the changes & making debt 25% of long term resources
the amount of debt will increase less in proportion as shown by its falling percentage to 11.77439 from 13.67521. this
further results in lower interest charges increase. Thus we have more taxable income available for 1996 and consequently
more earnings for shareholder. We have assumed the tax rate to be constant and increase in same proportion to taxes. As a
result proportion of net Income has increased.
In this case the earning per share will increase because there is lower increase in new shares issued as compared to rise in
net Income. Since we are experiencing higher returns after tax the firm will register rise in stock prices as debt proportion
has gone down & profits have risen. In the case of interest as shown interest expenses will increase but not in proportion
to sales.
Expert System, Inc.| 3/16/2012 12
Answer 12
We have solved this problem presuming that their full capacity utilization and any increase have to be undertaken with
respect to previously stated assumptions.
1995 1996
Current Ratio 6.03681 6.03681
Return On earnings 0.183271 0.183271
Earnings per share 0.86 0.922627
As a result of Increase in sales & full capacity utilization everything under percentage sales growth method has increased
proportionately. This means following things:
Current asset & current liability have grown proportionately. As a result the Current ratio remains constant.
The Net Income & total Common equity stock has increased proportionately as such the return on earnings has also
remained constant.
The common equity value has increased proportionately but the number of equity has not increased proportionately. The
equity shares have increased from 4 million to 4.474182 million as a result of change and a high market price of firms
share. Thus it has only increased by 11.85 %. As a result of this the earning per share has increased to .922627 million
from .86 million
In case of change in sales growth rate there would be no change under this method since everything is connected with the
sales and there will be proportionate results.
If it increases: the amount of retained earnings will go down reducing share of Total common stock proportion. This
would then have to be supplemented by other sources
If It decrease. The amount of retained earnings will go up increasing share of Total common stock proportion. This
would then reduce proportion of other sources
Expert System, Inc.| 3/16/2012 14
Increasing Debt participation. It will reduce equity participation it will increase interest cost reducing Net income
available
Decreasing Debt participation: It will increase equity participation. It will reduce interest cost .It will increase net Income
available to shareholders.
If it Increase : It can be used to either increase the dividend payout rate or it can be used to increase the retained earning
level or combination of both this would help in maximizing wealth of shareholders
If it decreases: As a result the return of shareholders wealth will decrease. It will affect both the dividend payout
ratio and the retained earnings level of the firm affecting its wealth management of assets.
We do think that the Management would be interested in such details and the above stated reasons would suffice to attract
their attention.