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Module 11

Forecasting Financial Statements

Learning Objectives – coverage by question


True/False Multiple Choice Exercises Problems Essays

LO1 – Explain the process of


forecasting financial 1-5 1-3 1 1 1, 2
statements.

LO2 – Forecast revenues and


6-7 4-9 2-11 2-4 3-5
the income statement.

LO3 – Forecast the balance


8-10 10-16 12-17 2-4 5
sheet.

LO4 – Forecast the statement


11, 2 17-21 18-20 5, 6 6
of cash flows.

LO5 – Prepare multiyear


forecasts of financial 13 22 21, 22 7 -
statements.

LO6 – Implement a
parsimonious method for
multiyear forecasting of net 14, 15 23-25 23-25 8-10 7
operating profit and net
operating assets.

©Cambridge Business Publishers, 2015


Test Bank, Module 11 11-1
Module 11: Forecasting Financial Statements

True/False

Topic: Eliminating Transitory Activities


LO: 1
1. To forecast future performance, we should first create a set of financial statements that reflects items
we expect to persist.

Answer: True
Rationale: Persistent activities are those that will recur – that is the point of forecasting, to predict
what will recur.

Topic: Conservatism versus Optimism


LO: 1
2. When forecasting future events, it is better to take a more conservative view for items such as
revenue growth and profit margins.

Answer: False
Rationale: The best forecasts are the most realistic ones. Being overly conservative can lead to
missed opportunities.

Topic: Bias Resulting from Accruals


LO: 1
3. Accruals can be used to bias financial statements in order to achieve certain reporting objectives.

Answer: True
Rationale: Managers can use accruals to depress current period income by writing off an excessive
amount of assets and accruing an excessive amount of liabilities (big bath). Managers can also
increase current period income by accruing an insufficient allowance for uncollectible accounts, for
example.

Topic: Adjusting Process


LO: 1
4. The adjusting process is useful for historical analysis, but not for prospective analysis.

Answer: False
Rationale: The adjusting process parses the financial statements into operating/nonoperating and
core/transitory components. It is useful for both historical and prospective analysis.

Topic: Order of Projections


LO: 1
5. The usual financial statement projection process is completed in the following order: balance sheet,
income statement, statement of cash flows.

Answer: False
Rationale: The usual projection process begins with the income statement, followed by the balance
sheet, and finished with the statement of cash flows.

©Cambridge Business Publishers, 2015


11-2 Financial & Managerial Accounting for MBAs, 4th Edition
Topic: Projecting Revenues
LO: 2
6. An unbiased approach to forecasting future revenues gives equal weight to historical organic revenue
growth and revenue growth from mergers and acquisitions.

Answer: False
Rationale: The most accurate forecast of future revenue is one that considers future organic versus
M&A revenue growth. Historic numbers are informative to the extent that we expect past trends to
continue.

Topic: Projecting Revenues


LO: 2
7. Revenue forecasts derived from unit sales and current prices are usually more accurate than those
derived from dollar sales.

Answer: True
Rationale: Using units and prices allows the forecaster to alter each separately which is a more
dynamic and usually more accurate way to forecast demand and revenue.

Topic: Projections Using Most Current Ratios


LO: 3
8. Projecting balance sheet items is most accurate if we use the most recent ratios.

Answer: False
Rationale: For accurate forecasts, we want to use the most stable and relevant ratios concerning the
company’s financial condition. Sometimes, the most recent ratios are not stable.

Topic: Projecting Property, Plant, and Equipment (PPE)


LO: 3
9. To forecast property, plant, and equipment (PPE) we first determine capital expenditures (CAPEX)
and add that to historical PPE.

Answer: True
Rationale: We do not forecast disposals unless the MD&A specifically mentions them.

Topic: Projection of Cash


LO: 3
10. The forecasting process assumes that the cash on the balance sheet reflects an economically
appropriate balance that we forecast similarly for the next fiscal year.

Answer: True
Rationale: Our forecasting process is to forecast a cash balance and adjust the level of investment
securities or short-term debt to balance the balance sheet.

Topic: Projected Cash Flow Statement


LO: 4
11. The forecasted statement of cash flows uses either the forecasted income statement or the balance
sheet.

Answer: False
Rationale: The statement of cash flow uses both to explain the change in cash on the balance sheet.

©Cambridge Business Publishers, 2015


Test Bank, Module 11 11-3
Topic: Depreciation Expense on the Statement of Cash Flows
LO: 4
12. Depreciation expense, determined as a percentage of actual property, plant, and equipment, is added
back to net income in the operating cash flow section.

Answer: True
Rationale: Depreciation is a noncash expense that does not affect cash.

Topic: Multiyear Forecast


LO: 5
13. The drawback of a multiyear forecast is that the same revenue growth assumption must be used for
each year and this may not be the most accurate assessment of future revenue growth especially for
firms that have not yet reached maturity.

Answer: False
Rationale: Assumptions may vary for each year’s forecast.

Topic: Parsimonious Method of Projection


LO: 6
14. The parsimonious projection method relies on sales growth, net operating profit margin (NOPM), and
asset turnover (AT) to project net operating profit after tax and net operating assets.

Answer: False
Rationale: The parsimonious projection method relies on net operating asset turnover (NOAT) and
not total asset turnover (AT).

Topic: Projecting Property Plant and Equipment with Parsimonious Method


LO: 6
15. The parsimonious projection method is the more efficient method for projecting property, plant and
equipment.

Answer: False
Rationale: The parsimonious projection method does not project individual income statement and
balance sheet items; it is used to project net operating profit (NOPAT) and net operating assets
(NOA).

©Cambridge Business Publishers, 2015


11-4 Financial & Managerial Accounting for MBAs, 4th Edition
Multiple Choice

Topic: Adjusting Operating Cash Flows


LO: 1
1. Which of the following should an analyst consider moving out of operating cash flows for analysis
purposes?
A) Decreases in accounts payable
B) Decreases in accounts receivable from securitization
C) Increases in inventory
D) Increases in environmental liabilities
E) None of the above

Answer: B
Rationale: Companies often securitize (sell-off) their account receivables which removes the
receivables from the balance sheet, resulting in an increase in operating cash flows. Many analysts
consider this to be a financing, not an operating, activity.

Topic: Adjusting the Income Statement


LO: 1
2. Which of the following is not a typical adjustment made to the income statement for projection
purposes?
A) Adjusting net income for perceived under- or over-accruals
B) Adjusting revenues to only include organic revenue growth
C) Separating operating and non-operating items
D) Removing transitory items such as restructuring charges
E) None of the above

Answer: B
Rationale: Distinguishing between organic and acquired income is important because acquired
growth is expensive. However, the acquired income should be considered for projection purposes as
long as the expenditures to acquire that income are included in the projections.

Topic: Adjusting the Balance Sheet


LO: 1
3. What adjustments might you consider making to the balance sheet before you began the forecasting
process?
A) Capitalization of operating leases
B) Consolidation of equity method investments
C) Elimination of impaired goodwill not recognized yet by the company
D) All of the above

Answer: D
Rationale: All of these adjustments are legitimate, helpful adjustments.

©Cambridge Business Publishers, 2015


Test Bank, Module 11 11-5
Topic: Projecting Revenue (Numerical calculations required)
LO: 2
4. Leahy Enterprises reports 2013 and 2014 total revenues of $80 million and $92 million respectively. If
we expect prior growth to persist, we would forecast a revenue growth rate of:
A) 15%
B) 35%
C) 20%
D) 25%
E) None of the above

Answer: A
Rationale: ($92 / $80) – 1 = 0.15 = 15%

Topic: Projecting Revenue (Numerical calculations required)


LO: 2
5. Following are financial statement numbers and ratios for Snap-On Incorporated for the year ended
December 28, 2013 (in millions). If we expected revenue growth of 4% in the next year, what would
projected revenue be for the year ended December 30, 2014?

NOPAT 397.3
NOA 2,884.6
Net operating profit margin (NOPM) 13.0%
Net operating asset turnover (NOAT) 1.06

A) $3,281.9 million
B) $3,455.0 million
C) $3,057.7 million
D) $3,178.4 million
E) None of the above

Answer: D
Rationale: $397.3 million / 13.0% = $3,056.1 million in revenue for 2013. 2014 projected revenue
would be $3,056.2 million x 1.04 = $3,178.4 million

Topic: Projecting Revenue (Numerical calculations required)


LO: 2
6. Following are financial statement numbers and ratios for Lockheed Martin Corp. for the year ended
December 31, 2013. If we expected revenue growth of 2.25% in the next year, what would projected
revenue be for 2014?

Total revenue (in millions) $45,358


Net operating profit margin (NOPM) 6.3%
Net operating asset turnover (NOAT) 5.4

A) $46,378.6 million
B) $48,215.6 million
C) $47,807.3 million
D) $55,563.6 million
E) None of the above

Answer: A
Rationale: $45,358 million × 1.0225 = $46,378.6 million

©Cambridge Business Publishers, 2015


11-6 Financial & Managerial Accounting for MBAs, 4th Edition
Topic: Projected COGS (Numerical calculations required)
LO: 2
7. McKinnon Inc. reports in its 2013 annual report 10-K, sales of $2,045 million and cost of goods sold of
$818 million. For next year, you project that sales will grow by 5% and that cost of goods sold
percentage will be 2 percentage points higher.

Projected cost of goods sold for 2014 will be:


A) $834 million
B) $902 million
C) $859 million
D) $861 million
E) There is not enough information to determine the amount.

Answer: B
Rationale: $2,045 million ×1.05 × (($818 / $2,045) + 2%) = $902 million

Topic: Projected Interest Expense (Numerical calculations required)


LO: 2
8. Mullen Company reports in its 2014 10-K, sales of $83 million, long-term debt of $9 million, and
interest expense of $720,000. If sales are projected to increase by 5.2% next year, projected interest
expense for 2014 will be:
A) $757,440
B) $468,000
C) $662,400
D) $720,000
E) None of the above

Answer: D
Rationale: The most common approach to non-operating expenses is to assume that they do not
change from year to year.

Topic: Projected Tax Expense (Numerical calculations required)


LO: 2
9. Howell, Inc., reports 2014 sales of $202 million, income before income taxes of $51.2 million and tax
expense of $9.10 million. If sales are projected to increase by 3.8% next year, projected tax expense
for 2014 will be:
A) $ 9.10 million
B) $ 9.68 million
C) $11.05 million
D) $ 9.45 million
E) There is not enough information to determine the amount.

Answer: E
Rationale: The tax expense will be a function of forecasted pre-tax income. Knowing the sales growth
rate is insufficient to determine pre-tax income because certain expenses may remain unchanged
from prior dollar levels.

©Cambridge Business Publishers, 2015


Test Bank, Module 11 11-7
Topic: Implication of Projected Short-Term Investments
LO: 3
10. When forecasting balance sheet financials, an unusually high projected short-term investment
balance suggests which of the following?
A) Sales are projected to increase in coming years.
B) The company will need to sell additional stock.
C) The company could pay off debt in the next year.
D) Account receivables have dipped to an unacceptable level.
E) None of the above

Answer: C
Rationale: If initial balance sheet projection produces a high amount of short-term investments, the
company may decrease short or long-term debt if it exists.

Topic: Projected PPE Based on Forecasted Sales (Numerical calculations required)


LO: 3
11. CVS Caremark reported sales of $126,761 million and property, plant and equipment (PPE), net of
$8,615 million in 2013. If sales are projected to increase 10% per year over the next five years, what
is the projected capital expenditures (purchases of new PPE) for 2014?
A) $ 8,615 million
B) $ 9,477 million
C) $12,676 million
D) $ 9,000 million
E) There is not enough information to determine the amount.

Answer: E
Rationale: We do not know the proportion of 2013 sales spent on CAPEX that year, so we are unable
to determine the 2014 CAPEX.

Topic: Projected Accounts Receivable (Numerical calculations required)


LO: 3
12. The 2013 financial statements of CVS Caremark reported sales of $126,761 million and accounts
receivable of $8,729 million. If sales are projected to increase 3% next year, what is the projected
accounts receivable balance for 2014?
A) $12,532 million
B) $ 9,009 million
C) $10,928 million
D) $ 9,139 million
E) $ 8,729 million

Answer: B
Rationale: $8,729 / $126,761 = 6.9%.
$126,761 million × 1.03 = $130,564 million x 6.9% = $9,009 million

©Cambridge Business Publishers, 2015


11-8 Financial & Managerial Accounting for MBAs, 4th Edition
Topic: Projected Marketable Securities (Numerical calculations required)
LO: 3
13. Jensen and Associates has a projected balance sheet that includes the following accounts. What is
the projected marketable securities balance?

Cash $ 225,000
Marketable securities ?
Accounts receivable 680,000
Inventory 940,000
Non-current assets, net 1,420,000
Current liabilities 375,000
Total liabilities 1,060,000
Total equity 2,985,000

A) $0
B) $1,565,000
C) $780,000
D) $1,155,000
E) None of the above

Answer: C
Rationale: $780,000. Marketable securities is calculated as a plug value by subtracting assets from
projected total assets. Total assets equals total liabilities and equity.

Topic: Projected Marketable Securities (Numerical calculations required)


LO: 3
14. Lexington Company has a projected balance sheet that includes the following accounts. What is the
projected marketable securities balance?

Cash $ 110,000
Marketable securities ?
Accounts receivable 950,000
Inventory 875,000
Non-current assets, net 1,650,000
Total liabilities 1,525,000
Total equity 2,300,000

A) $0
B) $775,000
C) $650,000
D) $240,000
E) None of the above

Answer: D
Rationale: $240,000. Marketable securities is calculated as a plug value by subtracting assets from
projected total assets. Total assets equals total liabilities and equity.

©Cambridge Business Publishers, 2015


Test Bank, Module 11 11-9
Topic: Interpreting Forecasted Balance Sheet
LO: 3
15. When projecting the balance sheet, what happens when the initial balance sheet yields estimated
total assets greater than the sum of total liabilities and equity?
A) The company will need additional financing from external sources.
B) The company will not be able to pay for expenses in the future.
C) The company projected a loss.
D) The company has negative stockholders’ equity.
E) None of the above

Answer: A
Rationale: The company will need additional financing from debt or equity providers in the future in
order to support company growth.

Topic: Projecting Nonoperating Assets


LO: 3
16. Which of the following is a common method for forecasting nonoperating assets?
A) Use prior-year common-sized balance sheet ratio
B) Apply forecasted sales growth rate to historic balance
C) Assume no change in the account balance
D) Plug the amount based on other balance sheet accounts
E) None of the above

Answer: C
Rationale: Unless operating assets are very significant and the company’s 10-K discusses anticipated
changes, the most common procedure is to assume nonoperating assets do not change.

Topic: Forecasting CAPEX (Numerical calculations required)


LO: 4
17. In its 2014 annual report, Manchester Corp. reports the following:

2014 2013
Total revenue $320,000 $270,000
Property, plant, equipment, gross 25,000 21,000
Asset disposals 0 0

If revenue is projected to increase by 10% in 2015, projected 2015 capital expenditures would be:
A) $4,440
B) $4,000
C) $4,400
D) $0
E) None of the above

Answer: C
Rationale: 2014 CAPEX = 2014 PPE – 2013 PPE = $4,000 because there are no asset disposals.
Historical CAPEX rate = 2014 CAPEX / 2014 sales = 1.25%. Forecasted CAPEX = 2015 forecasted
revenue × 1.25% = $4,400

©Cambridge Business Publishers, 2015


11-10 Financial & Managerial Accounting for MBAs, 4th Edition
Topic: Projecting Operating Cash Flows
LO: 4
18. When projecting the statement of cash flows, the following represent operating cash outflows (check
all that apply):
A) Decrease in accounts receivable.
B) Increase in inventory
C) Decrease in long-term debt
D) Increase in accounts payable
E) Increase in property, plant, and equipment

Answer: B and C
Rationale: A projected increase in current assets or a decrease in current liabilities results in a
projected cash outflow. Acquiring PPE is not an operating cash flow.

Topic: Projected Depreciation Expense


LO: 4
19. Which of the following describes the analytic process to determine the depreciation expense included
in the forecasted statement of cash flows?
A) Depreciation is a non-cash expense, thus it is not included in the statement of cash flows.
B) The year-over-year change in property, plant and equipment on the balance sheet is equal to
depreciation expense.
C) Property, plant, and equipment from the prior year multiplied by depreciation rate reported in the
footnotes.
D) Gross property, plant, and equipment from the prior year + Capital expenditures – Forecasted
gross property, plant, and equipment
E) None of the above

Answer: E
Rationale: Depreciation expense is calculated from historical average depreciation expense, not the
footnoted rates.

Topic: Forecasting Depreciation Expense (Numerical calculations required)


LO: 4
20. In its 2014 annual report, Savannah Company reports the following (in thousands):

2014 2013
Total revenue $53,950 $50,745
Property, plant, equipment, gross 12,200 11,800
Property, plant, equipment, net 7,250 6,950
Depreciation expense 413 381

If revenue growth is projected to be 4.8%, the 2015 forecasted depreciation expense to be added
back on the statement of cash flows is:
A) $433 thousand
B) $427 thousand
C) $413 thousand
D) $519 thousand
E) None of the above

Answer: B
Rationale: Historical depreciation rate = $413 thousand (2014 depreciation expense) / $11,800
thousand (PPE, gross at end of 2013) = 3.50%. Depreciation expense is forecasted as PPE: $12,200
thousand (gross at end of 2014) × 3.50% = $427 thousand.

©Cambridge Business Publishers, 2015


Test Bank, Module 11 11-11
Topic: Projected Dividends (Numerical calculations required)
LO: 4
21. In its 2013 annual report, Lockheed Martin reported net earnings of $2,981 million and dividends paid
of $1,540 million. Your forecast of net income for Lockheed Martin for 2014 is $3,130 million.

What are projected dividends for the company for 2014?


A) $1,617 million
B) $1,540 million
C) $1,467 million
D) $1,000 million
E) None of the above

Answer: A
Rationale: $3,130 million × ($1,540 million / $2,981 million) = $1,617 million

Topic: Multiyear Forecasts (Numerical calculations required)


LO: 5
22. In its 2014 annual report, Teller Company reported sales of $900 million. If you anticipate that sales
will grow by 7% each year for the foreseeable future, what will 2017 forecasted sales be?
A) $1,102.5 million
B) $ 963.0 million
C) $1,030.4 million
D) $1,179.7 million
E) None of the above

Answer: A
Rationale: 2014 Sales × (1.07)3 = $1,102.5 million

Topic: Parsimonious Multiyear Forecasts


LO: 6
23. Which of the following variables is/are not required input(s) for parsimonious multiyear forecasting?
A) Net operating asset turnover (NOAT)
B) Net operating profits after tax (NOPAT)
C) Sales growth
D) Net operating assets (NOA)
E) Both B and D

Answer: E
Rationale: NOPAT and NOA are what parsimonious multiyear forecasting method predicts. The
required inputs are sales growth, net operating asset turnover (NOAT), and net operating profit
margin (NOPM). When we know all three, we can predict NOPAT and NOA.

©Cambridge Business Publishers, 2015


11-12 Financial & Managerial Accounting for MBAs, 4th Edition
Topic: Projecting NOPAT (Numerical calculations required)
LO: 6
24. Following are financial statement numbers and ratios for CVS Caremark for the year ended
December 31, 2013. If we anticipate a 4% sales growth in 2014, what is the company’s projected net
operating profit after tax (NOPAT) for 2014?

2013
Total revenue (in millions) $126,761
Net operating profit margin (NOPM) 3.9%
Net operating asset turnover (NOAT) 2.7

A) $ 4,944 million
B) $ 5,141 million
C) $46,949 million
D) $48,826 million
E) None of the above

Answer: B
Rationale: $126,761 million × 1.04 × 0.039 = $5,141 million

Topic: Projecting NOA (Numerical calculations required)


LO: 6
25. Following are financial statement numbers and ratios for CVS Caremark for the year ended
December 31, 2013. If we anticipate a 4% sales growth in 2014, what is the company’s projected net
operating assets (NOA) for 2014?

2013
Total revenue (in millions) $126,761
Net operating profit margin (NOPM) 3.9%
Net operating asset turnover (NOAT) 2.7

A) $ 4,944 million
B) $ 5,141 million
C) $46,949 million
D) $48,826 million
E) None of the above

Answer: D
Rationale: $126,761 million × 1.04 / 2.7 = $48,826 million

©Cambridge Business Publishers, 2015


Test Bank, Module 11 11-13
Exercises

Topic: Forecasting Process


LO: 1
1. Briefly describe how analysts typically forecast each of the following items: Sales, Cost of Sales,
Inventory, and Tax expense.

Answer:
Sales are forecast as prior-year sales increased by the expected sales growth for the coming year.
We typically forecast cost of sales to be the same percentage as the prior year. Forecasted cost of
sales is forecasted sales multiplied by the prior-year cost of sales percentage. Inventory is typically
forecast as a constant percentage of sales. Tax expense is forecast using forecasted pretax income
and the same effective tax rate as in prior years.

Topic: Estimating Sales Growth Rate


LO: 2
2. Everett’s Enterprises reported the following income statement data for 2010-2014. What would be an
appropriate sales growth rate based on the historical data?

2014 2013 2012 2011 2010

Net Sales $1,023.5 $1,049.1 $1,079.2 $1,063.4 $1,085.7

Answer:
Net sales have been consistently declining. The sales growth rate from 2010 to 2011 was –2.1%,
from 2011 to 2012 was 1.5%, for 2012 to 2013 it was -2.8%, for 2013 to 2014 it was –2.4%. An
appropriate sales growth rate would be –2.4%, the rate from 2013 - 2014 or –1.5%, the average of
the four figures.

Topic: Projecting Revenue


LO: 2
3. Inverness Industries reported net revenues of $25,153 million and $23,985 million for fiscal years
2014 and 2013 respectively. The company reported a gross profit margin of 44.5% in 2014. Project
sales and cost of goods sold for Inverness Industries for 2015.

Answer:
Estimated growth rate = ($25,153 / $23,985) - 1 = 1.049 - 1= 4.9%.
2015 Sales = $25,153 ×1.049 = $26,385 million
2015 Cost of goods sold = $26,385 × (1 - 44.5%) = $14,644 million

©Cambridge Business Publishers, 2015


11-14 Financial & Managerial Accounting for MBAs, 4th Edition
Topic: Revenue Growth Across Segments
LO: 2
4. Intuit Inc. reports the following revenues for the fiscal year ended July 31, 2011 through 2013.

In millions 2013 2012 2011


Net revenue:
Product $ 1,515 $ 1,479 $ 1,480
Service and other 2,656 2,329 1,969
Total net revenue $4,171 $3,808 $3,449

a. What is Intuit’s total net revenue growth during 2013?


b. Compare the growth rates for Product versus Service revenues in 2013.
c. How would these growth rates affect your projection of Intuit’s 2014 income statement?

Answer:
a. Total net revenue grew by 9.53% calculated as follows:

($4,171 / $3,808) – 1 = 0.0953 = 9.53%

b. The different types of revenue grew at different rates, as follows:

Product 2.43%
Service 14.04%

c. The 2014 and onward revenues could be separately projected and costs more closely projected to
match the growth in each related revenue. For example, costs and expenses associated with
Product could grow approximately 2.4%, whereas those associated with Service and other could
be projected to grow at 14.0%.

Topic: Organic versus Acquired Revenue Growth


LO: 2
5. Kohl’s Corp. lists the following table in its 2012 Annual Report:

In millions 2012 2011 2010


Net sales $19,279 $18,804 $18,391

Number of stores open at end of period 1,146 1,127 1,089


Sales growth:
All stores 2.5% 2.2% 7.1%
Comparable stores 0.3% 0.5% 4.4%
Net sales per selling square foot $213 $220 $222

a. What is Kohl’s total sales growth in 2012?


b. What is Kohl’s organic sales growth?
c. How does this information impact your assessment of Kohl’s revenue growth and profitability?

Answer:
a. In 2012, Kohl’s experienced a 2.5% increase in total sales.

b. The 2012 data show comparable store sales, organic growth, increased by an average of 0.3%.

c. Because sales growth at new stores impacted the overall growth so significantly, an analyst may
question Kohl’s ability to generate new sales from its existing stores, i.e. grow sales organically.
This is a concern because acquired growth is often more expensive than organic growth.

©Cambridge Business Publishers, 2015


Test Bank, Module 11 11-15
Topic: Estimating Tax Rate
LO: 2
6. Fuller Inc. reported the following income statement data for 2010-2014. What would be an
appropriate tax rate for forecasting 2015 financial statements?

($ in millions) 2014 2013 2012 2011 2010


Combined federal and state
statutory tax rate 37.1% 36.9% 36.2% 37.0% 36.7%
Pretax income $2,850 $2,640 $2,700 $2,245 $2,526
Tax provision $923 $551 $878 $725 $810

Answer:
($ in millions) 2014 2013 2012 2011 2010
Pretax income $2,850 $2,640 $2,700 $2,245 $2,526
Tax provision 923 $551 $878 $725 $810
Average tax rate 32.4% 20.9% 32.5% 32.3% 32.1%

An appropriate tax rate would be 32.3%. This is the company’s long-term average tax rate if we
ignore 2013. In 2013, the tax provision is comparatively low (20.9%) which is likely due to a one-time
item. The statutory rate is not appropriate because the company has not recorded taxes at that rate in
the past 5 years. More information from the tax footnote would help refine the tax rate to be used to
project 2015 financial information.

Topic: Projecting Gross Profit


LO: 2
7. CVS Caremark Corporation reported 2013 net sales of $126,761 million and cost of revenues of
$102,978 million. Project the company’s 2014 gross profit assuming a 3% sales-growth rate.

Answer:
2013 gross profit margin = 1 - ($102,978 / $126,761) = 18.8%.
2014 forecasted sales = $126,761 million × 1.03 = $130,564 million
2014 forecasted gross profit = $130,564 million × 0.188 = $24,546 million

Topic: Projecting Gross Profit


LO: 2
8. Cambridge Company reported 2014 net sales of $1,086,550 and a gross profit margin (in percentage
terms) of 28%. The company anticipates that sales will decrease by 2% in 2015 but that the gross profit
margin will be the same as 2014. Project the company’s 2015 cost of sales.

Answer:
2015 forecasted sales = $1,086,550 × 98% = $1,064,819
2015 forecasted cost of sales = $1,064,819 × (1 – 28%) = $766,670

©Cambridge Business Publishers, 2015


11-16 Financial & Managerial Accounting for MBAs, 4th Edition
Topic: Projecting an Income Statement
LO: 2
9. Barrington Inc. reported the following 2014 income statement (in millions):

Sales $825.3
Cost of goods sold 570.7
Gross profit 254.6
Selling, general and administrative 202.2
R&D expenses 20.3
Other expenses, net 12.6
Operating profit 19.5
Interest expense 27.9
Loss before taxes ($8.4)

Project the 2015 income statement for Barrington Inc. assuming a 3% decrease in net sales and a
continuation of the 2014 gross profit margin and percentage relation to net sales for each of the other
expenses except for interest expense which will remain the same.

Answer:
Projected
($ in millions) Calculation 2015
Sales $825.3 × 0.97 $800.5
Cost of goods sold $800.5 × 0.692 553.9
Gross profit 246.6
Selling, general and administrative $800.5 × 0.245 196.1
R&D expenses $800.5 × 0.025 20.0
Other expenses, net $800.5 × 0.015 12.0
Operating profit 18.5
Interest expense No change 27.9
Loss before taxes ($9.4)

©Cambridge Business Publishers, 2015


Test Bank, Module 11 11-17
Topic: Projecting an Income Statement
LO: 2
10. Arrow Inc. reported the following 2014 income statement

Total revenue $6,400,250


Cost of revenue 2,980,300
Gross profit 3,419,950
Selling and administrative expenses 1,875,200
Operating income 1,544,750
Interest expense 263,900
Income before income taxes 1,280,850
Income tax expense 473,915
Net income $ 806,935

Project Arrow’s income statement assuming a 4% increase in sales, a 37% effective tax rate, and a
continuation of the 2014 percentage relation to net sales for expenses except for interest where the
company projects no change.

Answer:
Computation 2015
Total revenue $6,400,250 × 1.04 $6,656,260
Cost of revenue 46.6% 3,101,817
Gross profit 3,554,443
Selling and administrative expenses 29.3% 1,950,284
Operating income 1,604,159
Interest expense No change 263,900
Income before income taxes 1,340,259
Income tax expense 37% 495,896
Net income $844,363

Topic: Projecting an Income Statement


LO: 2
11. Sharp Inc. reported the following 2014 income statement ($ thousands):

2014
Total Revenue $100,640
Cost of Revenue 43,285
Gross Profit 57,355
Selling, General and Administrative Expenses 20,205
Other Expenses 6,870
Operating Income $ 30,280

Project 2015 operating income assuming a 2% decrease in sales. Assume that the 2014 percentage
relation of expenses to total revenue continue to hold in 2015.

Answer:
($ thousands) Computation 2015
Total Revenue $100,640 × 0.98 $98,627
Cost of Revenue $98,627 × 43.0% 42,410
Gross Profit 56,217
Selling, General and
Administrative Expenses $98,627 × 20.0% 19,725
Other Expenses $98,627 × 6.8% 6,707
Operating Income $ 29,785

©Cambridge Business Publishers, 2015


11-18 Financial & Managerial Accounting for MBAs, 4th Edition
Topic: Projecting Balance Sheet Items
LO: 3
12. Lockheed Martin’s 2013 financial statements include the following:

(millions) 2013 2012


Sales $45,358 $47,182
Accounts receivable 5,834 6,563
Inventory 2,977 2,937
Accounts payable 1,397 2,038

Project accounts receivable, inventory, and accounts payable for 2014 given that sales are expected
to grow by 2% in 2014.

Answer:
Projected 2014 sales: $45,358 million x 1.02 = $46,265 million
Accounts receivable: 2014: $46,265 million × 0.129 = $5,968 million
Inventory: $46,265 million × 0.066 = $3,053 million
Accounts payable: $46,265 million × 0.031 = $1,434 million

Topic: Projecting Balance Sheet Items


LO: 3
13. Snap-On Corp 2013 financial statements include the following:

(millions) 2013 2012


Sales 3,056.5 2,937.9
Accounts receivable 531.6 497.9
Inventory 434.4 404.2
Accounts payable 155.6 142.5

Project accounts receivable, inventory, and accounts payable for 2014 given that sales are expected
to grow by 4% in 2014.

Answer:
Projected 2014 sales: $3,056.5 million x 1.04 = $3,178.8 million
Accounts receivable: 2014: $3,178.8 million × 0.174 = $553.1 million
Inventory: $3,178.8 million × 0.142= $451.4 million
Accounts payable: $3,178.8 million × 0.051 = $162.1 million

©Cambridge Business Publishers, 2015


Test Bank, Module 11 11-19
Topic: Projecting Inventories
Note to Instructor: This problem requires students to use an inventory turnover rate to project
inventory.
LO: 3
14. Marcus Industries reports the following information.

2014 Inventory turnover rate 6.80


2015 Projected net sales $52,850
2015 Projected cost of goods sold $30,800
Sales growth during 2014 12%

a. What did Marcus Industries report as Inventory in 2014?


b. Forecast Inventory for the company for 2015.

Answer:
a. 2014 cost of goods sold = $30,800 / 1.12 = $27,500 / 6.80 = 2014 Inventory = $4,044

b. Projected Inventory = Projected Cost of Goods Sold / Inventory Turnover rate = $30,800 / 6.80
= $4,529

Topic: Projecting Property and Equipment


LO: 3
15. Lockheed Martin Corporation reports property, plant and equipment, gross of $12,645 million in 2013
and $12,116 million in 2012. Sales revenue in 2013 was $45,358 million and capital expenditures
were $836 million.

a. Project 2014 capital expenditures (CAPEX) for property, plant and equipment assuming sales are
forecasted to grow at 5%.
b. What will be the forecasted amount for property, plant and equipment, gross, at the end of 2014?
c. What may be a more refined approach to projecting long-term assets?

Answer:
a. Projected CAPEX for 2014 = ($836 million / $45,358 million) = 1.8%;
($45,358 million x 1.05) = $47,626; $47,626 x 1.8% = $857 million

b. PPE 2013 + CAPEX for 2014 = PPE 2014


= $12,645 million + $857 million = $13,502 million

c. It is important to consider the components of property, plant and equipment and to separately
project CAPEX for each component. Also, we could refine our projections by identifying and
excluding any nonoperating assets. A company may hold property that is not being used for its
ongoing operations but rather for investment purposes (or any other purpose).

©Cambridge Business Publishers, 2015


11-20 Financial & Managerial Accounting for MBAs, 4th Edition
Topic: Projected Marketable Securities
LO: 3
16. Foster Inc. has a projected balance sheet that includes the following accounts. What is the projected
marketable securities balance?

Cash $ 275,000
Marketable securities ??
Accounts receivable 440,000
Inventory 720,000
Non-current assets, net 1,250,000
Current liabilities 285,000
Total liabilities 900,000
Total equity 2,450,000

Answer:
$665,000: Marketable securities is calculated as a plug value by subtracting all other assets from
projected total assets. Total assets equals total liabilities and equity.

Topic: Projected Marketable Securities


LO: 3
17. Fey Corporation has a projected balance sheet that includes the following accounts. What is the
company’s projected marketable securities balance?

Cash 85,000
Marketable securities ?
Accounts receivable 520,000
Inventory 450,000
Non-current assets, net 1,100,000
Total liabilities 800,000
Total equity 1,850,000

Answer:
$495,000: Marketable securities is calculated as a plug value by subtracting all other assets from
projected total assets. Total assets equals total liabilities and equity.

©Cambridge Business Publishers, 2015


Test Bank, Module 11 11-21
Topic: Projecting Investing Cash Flow
LO: 4
18. Ventura Inc. anticipates that sales in 2015 will grow by 6%. The company reports the following in its
December 2014 financial statements:

Sales $95,362.8
Property plant and equipment, Dec. 31, 2014 $9,016.1
Property plant and equipment, Dec. 31, 2013 $6,741.7
2014 Depreciation expense / Property plant and
equipment, Dec. 31, 2013 7.6%
2014 Capital expenditures / 2014 Sales 1.8%

Project the company’s 2015 Sales, depreciation expense, and cash outflow to acquire new Property,
plant and equipment.

Answer:
Computation 2015 Projected
Sales $95,362.8 × 1.06 $101,084.6
Depreciation expense $9,016.1 × 7.6% $685.2
Cash for new PPE acquisitions $101,084.6 × 1.8% $1,819.5

Topic: Projecting Investing Cash Flow


LO: 4
19. Innovative Components reports gross property and equipment of $24 million in 2014 and $21 million
in 2013. Sales revenue in 2014 was $187.5 million. 2014 capital expenditures were $3 million.

a. Project 2015 capital expenditures (CAPEX) for property and equipment assuming sales are
forecasted to grow at 10%.
b. What will be the forecasted amount for property and equipment, gross, at the end of 2015?
c. What may be a more refined approach to projecting long-term assets?

Answer:
a. Projected CAPEX for 2015 = $187.5 million x 1.05 = $206.3 million 2015 sales; CAPEX 2014 /
Sales 2014 = 1.6%; $206.3 x 1.6% = $3.3 million

b. PPE 2014 + CAPEX for 2015 = PPE 2015 = $27.3 million

c. It is important to consider the components of the Property and equipment and to identify and
exclude any nonoperating assets. A company may hold property that is not being used for its
ongoing operations but rather for investment purposes (or any other purpose).

©Cambridge Business Publishers, 2015


11-22 Financial & Managerial Accounting for MBAs, 4th Edition
Topic: Projecting Dividends in the Statement of Cash Flows
LO: 4
20. Lockheed Martin Corp. reports the following in its 2013 financial statements (in millions):

2013 2012
Sales $43,358 $47,182
Net earnings 2,981 2,745
Dividends paid 1,540 1,352

a. If you project sales for 2014 of $44,225 million and net earnings for 2014 of $3,140 million, what
dividends would you include in the projected 2014 statement of cash flows?
b. Explain where dividends would appear in the projected 2014 statement of cash flows.

Answer:
a. 2014 Net earnings × (2013 dividends / 2013 net earnings) = $1,622 million

b. Dividends are an outflow of cash reported in the financing activities section of the statement of
cash flows.

Topic: Multiyear Forecasts


LO: 5
21. Finley Corp. reports the following in its 2014 financial statements (in thousands):

Sales $38,080
Net income 4,170
Dividends paid 556
Retained earnings 14,210

Sales and net income are forecasted to grow by 5% per year.

a. What will forecasted sales be in 2015 and 2016?


b. Determine the balance in retained earnings at the end of 2015 and 2016 assuming forecasted net
income is $4,740 thousand for 2015 and $5,055 thousand for 2016.

Answer:
a. 2015: $39,984 thousand; 2016: $41,983 thousand

b. 2015: $14,210 + $4,740 – [$4,740 x ($556 / $4,170) = $18,318 thousand


2016: $18,318 + $5,055 – [$5,055 x ($556 / $4,170) = $22,699 thousand

©Cambridge Business Publishers, 2015


Test Bank, Module 11 11-23
Topic: Multiyear Forecasts
LO: 5
22. Belvidere Inc. reports the following in its 2014 financial statements (in millions):

Sales 5,045.4
Net income 627.5
Dividends paid 125.5
Retained earnings 9,284.3

Sales and net income are forecasted to grow by 6% per year for the next few years.

a. What will forecasted sales be in 2015 and 2016?


b. Determine the balance in retained earnings at the end of 2015 and 2016 assuming forecasted net
income is $702.3 million for 2015 and $758.2 million for 2016.

Answer:
a. 2015: $5,348.1 million; 2016: $5,669.0 million

b. 2015: $9,284.3 + $702.3 – [$702.3 x ($125.5 / $627.5) = $9,846.1 million


2016: $9,846.1 + $758.2 – [$758.2 x ($125.5 / $627.5) = $10,452.7 million

Topic: Projecting NOPAT (Numerical calculations required)


LO: 6
23. Following are financial statement numbers and ratios for Jordan Corp. for the year ended December
31, 2014 (in thousands). What is the company’s projected net operating profit after tax (NOPAT) for
2014 and 2015?

Total revenue (thousands) $175,852.3


Total revenue growth rate 2%
Net operating profit margin (NOPM) 13%
Net operating asset turnover (NOAT) 1.2

Answer:
2014: $175,852.3 thousand × 0.13 = $22,861 thousand
2015: $175,852.3 thousand × 1.02 × 0.13 = $23,318 thousand

Topic: Projecting NOPAT (Numerical calculations required)


LO: 6
24. Following are financial statement numbers and ratios for CVS Caremark for the year ended
December 31, 2013. What is the company’s projected net operating profit after tax (NOPAT) for
2014?

Total revenue (in millions) $126,761


Total revenue growth rate 8%
Net operating profit margin (NOPM) 3.9%
Net operating asset turnover (NOAT) 2.7

Answer:
$126,761 million × 1.08 × 0.039 = $5,339 million

©Cambridge Business Publishers, 2015


11-24 Financial & Managerial Accounting for MBAs, 4th Edition
Topic: Projecting Net Operating Assets (NOA)
LO: 6
25. Following are financial statement numbers and ratios for CVS Caremark for the year ended
December 31, 2013. What is the company’s projected net operating assets (NOA) for 2014?

Total revenue $126,761


Total revenue growth rate 8%
Net operating profit margin (NOPM) 3.9%
Net operating asset turnover (NOAT) 2.7

Answer:
$126,761 × 1.08 / 2.7 = $50,704

©Cambridge Business Publishers, 2015


Test Bank, Module 11 11-25
Problems

Topic: Adjusting the Income Statement


LO: 1
1. Madison Inc. reported the following 2014 income statement (in millions):

Madison Inc.
Income statement for the year ended September 30, 2014
Sales $184,450
Cost of goods sold 95,584
Gross profit 88,866
Selling, general and administrative 40,030
Research and development expenses 10,132
Restructuring charge 2,852
Litigation settlement 12,500
Pension curtailment gain (340)
Other expenses, net 7,802
Total expenses 72,976
Operating profit 15,890
Interest expense 6,092
Gain on sale of long-term investments (3,257)
Income before taxes 13,055
Provision for income tax 5,106
Effect of change in accounting principle 8,231
Net loss $ (282)

Footnotes to Madison Inc.’s MD&A and financial statements disclose the following information:

1) Restructuring charges include accruals for severance packages and losses on asset write-downs.
The company does not anticipate further restructuring activity.
2) A lawsuit related to product malfunctions was settled and ongoing lawsuits will not materially
affect future income.
3) Changes to the company’s pension plan resulted in a one-time gain.
4) Securities were sold during the year to fund the litigation settlement.
5) Tax-law changes resulted in nondeductibility of certain expenses. The company anticipates a
37% tax rate for 2015 onward.

Required:
What adjustments would you make to Madison’s income statement before you started to forecast
earnings for 2015? Prepare an adjusted income statement.

©Cambridge Business Publishers, 2015


11-26 Financial & Managerial Accounting for MBAs, 4th Edition
Answer:
The following income statement reflects some adjustments that could be made before forecasting
2015 earnings.

Sales $184,450
Cost of goods sold 95,584
Gross profit 88,866
Selling, general and administrative 40,030
R&D expenses 10,132
Restructuring charge 0
Pension curtailment gain 0
Litigation settlement 0
Other expenses, net 7,802
Total expenses 57,964
Operating profit 30,902
Other expense (income)
Interest expense 6,092
Gain on sale of securities 0
Income before taxes 24,810
Provision for income tax (37%) 9,180
Effect of change in accounting principle 0
Net income $ 15,630

©Cambridge Business Publishers, 2015


Test Bank, Module 11 11-27
Topic: Projecting the Income Statement and Balance Sheet
LO: 2, 3
2. Following are the financial statements of Snap-On Inc. for the year ended December 31, 2013.
Prepare a forecasted income statement and balance sheet for the company for the next year.

Snap-On Incorporated
Consolidated Balance Sheets
2013 2012
(in millions)
Cash and cash equivalents $ 217.6 $ 214.5
Trade and other accounts receivable-net 531.6 497.9
Finance receivables-net 374.6 323.1
Contract receivables-net 68.4 62.7
Inventories, net 434.4 404.2
Deferred income tax assets 85.4 81.8
Prepaid expenses and other assets 84.2 84.8
Total current assets 1,796.2 1,669.0
Property and equipment, net 392.5 375.2
Deferred income tax assets 57.1 110.4
Long-term finance receivables-net 560.6 494.6
Long-term contract receivables-net 217.1 194.4
Goodwill 838.8 807.4
Other intangibles, net 190.5 187.2
Other assets 57.2 64.1
Total assets $4,110.0 $3,902.3
Notes payable and current maturities of LT debt $ 113.1 $ 5.2
Accounts payable 155.6 142.5
Accrued benefits 48.1 50.6
Accrued compensation 95.5 88.3
Franchise deposits 59.4 54.7
Other accrued liabilities 243.7 247.9
Total current liabilities 715.4 589.2
Long-term debt 858.9 970.4
Deferred income tax liabilities 143.8 127.1
Retiree health care benefits 41.7 48.4
Pension liabilities 135.8 260.7
Other long-term liabilities 84.0 87.5
Total liabilities 1,979.6 2,083.3
Shareholders’ equity attributable to Snap-On Inc.
Common stock 67.4 67.4
Additional paid-in capital 225.1 204.6
Retained earnings 2,324.1 2,067.0
Accumulated other comprehensive loss (44.8) (124.2)
Treasury stock at cost (458.6) (412.7)
Total shareholders’ equity attributable to Snap-On Inc. 2,113.2 1,802.1
Noncontrolling interests 17.2 16.9
Total shareholders’ equity 2,130.4 1,819.0
Total liabilities and shareholders’ equity $4,110.0 $3,902.3

©Cambridge Business Publishers, 2015


11-28 Financial & Managerial Accounting for MBAs, 4th Edition
Snap-On Incorporated
Consolidated Statements of Earnings
For the Fiscal Year
(in millions) 2013 2012
Net sales $ 3,056.5 $ 2,937.9
Cost of goods sold (1,583.6) (1,547.9)
Gross profit 1,472.9 1,390.0
Operating expenses, net (1,012.4) (980.3)
Operating earnings before financial services 460.5 409.7
Financial services revenue 181.0 161.3
Financial services expenses (55.3) (54.6)
Operating earnings from financial services 125.7 106.7
Operating earnings 586.2 516.4
Interest expense (56.1) (55.8)
Other income (expense)-net (3.9) (0.4)
Earnings before income taxes and equity earnings 526.2 460.2
Income tax expense (166.7) (148.2)
Earnings before equity earnings 359.5 312.0
Equity earnings, net of tax 0.2 2.6
Net earnings 359.7 314.6
Net earnings attributable to noncontrolling interests (9.4) (8.5)
Net earnings attributable to Snap-On Incorporated $ 350.3 $ 306.1

To forecast the financial statements, make the following assumptions. For accounts that are not
included in the list below, assume that the amount will not change for the forecasted year.

Net sales growth 4.0%


Cost of goods sold margin 51.8%
Operating expenses to net sales 33.1%
Financial services revenue growth 12.0%
Financial services expenses to financial services revenue 30.6%

Income taxes to income before tax 31.7%


Noncontrolling interest net earnings to net earnings 2.6%
Cash and cash equivalents to net sales 7.1%
Trade A/R to net sales 17.4%
Inventory to net sales 14.2%
CAPEX to net sales 2.3%
Depreciation to start of year PPE, net 12.3%
Amortization expense to start of year intangibles, net 13.6%
A/P to net sales 5.1%
Other accrued liabilities to net sales 8.0%
Snap-on dividends to net earnings 26.3%
Noncontrolling interest dividends to net earnings 2.5%
Notes payable and current maturities of long-term debt $0

©Cambridge Business Publishers, 2015


Test Bank, Module 11 11-29
Answer:
Snap-On Incorporated
Forecasted Statement of Earnings
(in millions) 2013 actual 2014 forecast
Net sales $ 3,056.5 $3,056.5 × 1.04 $ 3,178.8
Cost of goods sold (1,583.6) $3,178.8 × 51.8% (1,646.6)
Gross profit 1,472.9 1,532.2
Operating expenses, net (1,012.4) $3,178.8 × 33.1% (1,052.2)
Operating earnings before financial services 460.5 480.0
Financial services revenue 181.0 $181 × 1.12 202.7
Financial services expenses (55.3) $202.7 × 30.6% (62.0)
Operating earnings from financial services 125.7 140.7
Operating earnings 586.2 620.7
Interest expense (56.1) No change (56.1)
Other income (expense)-net (3.9) No change (3.9)
Earnings before income taxes and equity earnings 526.2 560.7
Income tax expense (166.7) $560.7 × 31.7% (177.7)
Earnings before equity earnings 359.5 383.0
Equity earnings, net of tax 0.2 No change 0.2
Net earnings 359.7 383.2
Net earnings attributable to noncontrolling interests (9.4) $383.2 × 2.6% (10.0)
Net earnings attributable to Snap-on Incorporated $ 350.3 $ 373.2

continued next page

©Cambridge Business Publishers, 2015


11-30 Financial & Managerial Accounting for MBAs, 4th Edition
Snap-On Incorporated
Forecasted Balance Sheet
2013 2014
actual forecasted
(in millions)
Cash and cash equivalents $ 217.6 $3,178.8 × 7.1% $225.7
Marketable securities PLUG 131.3
Trade and other accounts receivable-net 531.6 $3,178.8 × 17.4% 553.1
Finance receivables-net 374.6 No change 374.6
Contract receivables-net 68.4 No change 68.4
Inventories, net 434.4 $3,178.8 × 14.2% 451.4
Deferred income tax assets 85.4 No change 85.4
Prepaid expenses and other assets 84.2 No change 84.2
Total current assets 1,796.2 1,974.1
Property and equipment, net 392.5 $392.5 + ($3,178.8 × 2.3%) - ($392.5 × 12.3%) 417.3
Deferred income tax assets 57.1 No change 57.1
Long-term finance receivables-net 560.6 No change 560.6
Long-term contract receivables-net 217.1 No change 217.1
Goodwill 838.8 No change 838.8
Other intangibles, net 190.5 $190.5 - ($190.5 × 13.6%) 164.6
Other assets 57.2 No change 57.2
Total assets $4,110.0 $4,286.8

Notes payable and current maturities


of long-term debt $ 113.1 Given $ 0
Accounts payable 155.6 $3,178.8 × 5.1% 162.1
Accrued benefits 48.1 No change 48.1
Accrued compensation 95.5 No change 95.5
Franchise deposits 59.4 No change 59.4
Other accrued liabilities 243.7 $3,178.8 × 8.0% 254.3
Total current liabilities 715.4 619.4
Long-term debt 858.9 No change 858.9
Deferred income tax liabilities 143.8 No change 143.8
Retiree health care benefits 41.7 No change 41.7
Pension liabilities 135.8 No change 135.8
Other long-term liabilities 84.0 No change 84.0
Total liabilities 1,979.6 1,883.6
Shareholders’ equity attributable to
Snap-On Inc.
Common stock 67.4 No change 67.4
Additional paid-in capital 225.1 No change 225.1
Retained earnings 2,324.1 $2,324.1 + $373.2 - ($383.2 × 26.3%) 2,596.5
Accumulated other comprehensive loss (44.8) No change (44.8)
Treasury stock at cost (458.6) No change (458.6)
Total shareholders’ equity attributable to
Snap-On Inc. 2,113.2 2,385.6
Noncontrolling interests 17.2 $17.2 + $10.0 - ($383.2 × 2.5%) 17.6
Total shareholders’ equity 2,130.4 2,403.2
Total liabilities and shareholders’ equity $4,110.0 $4,286.8

©Cambridge Business Publishers, 2015


Test Bank, Module 11 11-31
Topic: Projecting the Income Statement and Balance Sheet
LO: 2, 3
3. Following are the financial statements of CVS Caremark Corporation for the year ended December
31, 2013. Prepare a forecasted income statement and balance sheet for the company for the next
year.

CVS Caremark Corporation


Consolidated Balance Sheets
Dec. 31, Dec. 31,
In millions 2013 2012
Cash and cash equivalents $ 4,089 $ 1,375
Short-term investments 88 5
Accounts receivable, net 8,729 6,479
Inventories 11,045 11,032
Deferred income taxes 902 693
Other current assets 472 577
Total current assets 25,325 20,161
Property and equipment, net 8,615 8,632
Goodwill 26,542 26,395
Intangible assets, net 9,529 9,753
Other assets 1,515 1,280
Total assets $71,526 $66,221

Accounts payable $ 5,548 $ 5,070


Claims and discounts payable 4,548 3,974
Accrued expenses 4,768 4,411
Short-term debt 0 690
Current portion of long-term debt 561 5
Total current liabilities 15,425 14,150
Long-term debt 12,841 9,133
Deferred income taxes 3,901 3,784
Other long-term liabilities 1,421 1,501

Common stock, par value $0.01 17 17


Treasury stock, at cost (20,169) (16,270)
Shares held in trust (31) (31)
Capital surplus 29,777 29,120
Retained earnings 28,493 24,998
Accumulated other comprehensive loss (149) (181)
Total shareholders’ equity 37,938 37,653
Total liabilities and shareholders’ equity $71,526 $66,221

©Cambridge Business Publishers, 2015


11-32 Financial & Managerial Accounting for MBAs, 4th Edition
CVS Caremark Corporation
Consolidated Statements of Income
Dec. 31, Dec. 31,
In millions 2013 2012
Net revenues $126,761 $123,120
Cost of revenues 102,978 100,632
Gross profit 23,783 22,488
Total operating expenses 15,746 15,278
Operating profit 8,037 7,210
Interest expense, net 509 557
Loss on early extinguishment of debt 0 348
Income before income tax provision 7,528 6,305
Income tax provision 2,928 2,436
Income from continuing operations 4,600 3,869
Income (loss) from discontinued operations, net (8) (7)
Net income 4,592 3,862
Net loss attributable to noncontrolling interest 0 2
Net income attributable to CVS Caremark $ 4,592 $3,864

To forecast the financial statements, make the following assumptions. For accounts that are not
included in the list below, assume that the amount will not change for the forecasted year.

Growth in net revenues 5.0%


Gross profit margin percentage 18.8%
Operating expenses to net revenues 12.4%
Income tax provision to income before income tax provision 38.9%
Loss from discontinued operations $0
Cash and cash equivalents to net revenues 3.2%
A/R to net revenues 6.9%
Inventories to net revenues 8.7%
CAPEX to net revenues 1.6%
Forecasted depreciation expense ($ millions) $1,119
Forecasted amortization of intangible assets ($ millions) $271
Long-term debt due 2015 ($ millions) $576
A/P to net revenues 4.4%
Dividends to net earnings 23.9%

©Cambridge Business Publishers, 2015


Test Bank, Module 11 11-33
Answer:
Forecasted Statement of Operations for year ended December 2014 (in millions)

Net revenues $126,761 × (1 + 5.0%) $133,099


Cost of revenues 108,076
Gross profit $133,099 × 18.8% 25,023
Total operating expenses $133,099 × 12.4% 16,504
Operating profit 8,519
Interest expense, net No change 509
Income before income tax provision 8,010
Income tax provision $8,010 × 38.9% 3,116
Income from continuing operations 4,894
Loss from discontinued operations Non-persistent item -
Net income 4,894
Net loss attributable to noncontrolling interest No change 0
Net income attributable to CVS Caremark $4,894

Forecasted Consolidated Balance Sheet for December 2014 (in millions)


Cash and cash equivalents $133,099 × 3.2% $ 4,259
Short-term investments PLUG 1,659
Accounts receivable, net $133,099 × 6.9% 9,184
Inventories $133,099 × 8.7% 11,580
Deferred income taxes No change 902
Other current assets No change 472
Total current assets 28,056
Property and equipment, net $8,615 + ($133,099 × 1.6%) - $1,119 9,626
Goodwill No change 26,542
Intangible assets $9,529 - $271 9,258
Other assets No change 1,515
Total assets $74,997

Accounts payable $133,099 × 4.4% $ 5,856


Claims and discounts payable No change 4,548
Accrued expenses No change 4,768
Short-term debt No change 0
Current portion of long-term debt Given 576
Total current liabilities 15,748
Long-term debt $12,841 - $576 12,265
Deferred income taxes No change 3,901
Other long-term liabilities No change 1,421

Common stock No change 17


Treasury stock, at cost No change (20,169)
Shares held in trust No change (31)
Capital surplus No change 29,777
Retained earnings $28,493 + 4,894 - ($4,894 x 23.9%) 32,217
Accumulated other comprehensive loss No change (149)
Total CVS shareholders’ equity 41,662
Total liabilities and shareholders’ equity $74,997

©Cambridge Business Publishers, 2015


11-34 Financial & Managerial Accounting for MBAs, 4th Edition
Topic: Projecting the Income Statement and Balance Sheet
LO: 2, 3
4. Following are the financial statements of Lockheed Martin Corporation for the year ended December
31, 2013. Prepare a forecasted income statement and balance sheet for the company for the next
year.

Lockheed Martin Corporation


Consolidated Balance Sheet
At December 31,
(In millions) 2013 2012
Cash and equivalents $ 2,617 $ 1,898
Receivables, net 5,834 6,563
Inventories, net 2,977 2,937
Deferred income taxes 1,088 1,269
Other current assets 813 1,188
Total current assets 13,329 13,855
Property, plant and equipment, net 4,706 4,675
Goodwill 10,348 10,370
Deferred income taxes 2,850 4,809
Other noncurrent assets 4,955 4,948
Total assets $36,188 $38,657

Accounts payable $ 1,397 $ 2,038


Customer advances and amounts in excess of costs 6,349 6,503
Salaries, benefits and payroll taxes 1,809 1,649
Current portion of long-term debt -- 150
Other current liabilities 1,565 1,815
Total current liabilities 11,120 12,155
Long-term debt, net 6,152 6,158
Accrued pension liabilities 9,361 15,278
Other postretirement benefit liabilities 902 1,220
Other noncurrent liabilities 3,735 3,807
Total liabilities 31,270 38,618

Common stock 319 321


Retained earnings 14,200 13,211
Accumulated other comprehensive (loss) (9,601) (13,493)
Total stockholders’ equity 4,918 39
Total liabilities and stockholders’ equity $36,188 $38,657

©Cambridge Business Publishers, 2015


Test Bank, Module 11 11-35
Lockheed Martin Corporation
Consolidated Income Statement
For the year ended December 31,
(In millions) 2013 2012
Net sales
Products $35,691 $37,817
Services 9,667 9,365
Total net sales 45,358 47,182
Cost of sales
Products 31,346 33,495
Services 8,588 8,383
Goodwill impairment charge 195 --
Severance and other charges 201 48
Other unallocated corporate costs 841 1,060
Total cost of sales 41,171 42,986
Gross profit 4,187 4,196
Other operating income 318 238
Operating profit 4,505 4,434
Interest expense 350 383
Other nonoperating income -- 21
Earnings before income taxes 4,155 4,072
Income tax expense 1,205 1,327
Net earnings from continuing operations 2,950 2,745
Net earnings (loss) from discontinued operations 31 --
Net earnings $ 2,981 $ 2,745

To forecast the financial statements, make the following assumptions. For accounts that are not
included in the list below, assume that the amount will not change for the forecasted year.
Growth in Net sales: Products 1.5%
Growth in Net sales: Services 3.0%
Cost of sales margin - Products 87.8%
Cost of sales margin - Services 88.8%
Goodwill impairment charge $0
Severances and other charges $0
Other nonoperating income $0
Income tax expense to earnings before tax 29.0%
Earnings from discontinued operations $0
Cash and cash equivalents to total net sales 5.8%
A/R to total net sales 12.9%
Inventories to Net sales: Products 8.3%
Depreciation expense to start of year PPE, net 21.2%
CAPEX to total net sales 1.8%
A/P to total net sales 3.1%
Customer advances to total net sales 14.0%
Salaries, benefits and payroll taxes to total net sales 4.0%
Accrued pension liabilities to total net sales 20.6%
Other postretirement benefit liabilities to total net sales 2.0%
Dividends to net earnings 51.7%

©Cambridge Business Publishers, 2015


11-36 Financial & Managerial Accounting for MBAs, 4th Edition
Answer:
Forecasted income statement 2014 ($ millions)
Net sales
Products $35,691 × (1 + 1.5%) $36,226
Services $9,667× (1 + 3.0%) 9,957
Total net sales 46,183
Cost of sales
Products $36,226 × 87.8% 31,806
Services $9,957 × 88.8% 8,842
Other unallocated corporate costs No change 841
Total cost of sales 41,489
Gross profit 4,694
Other operating income No change 318
Operating profit 5,012
Interest expense No change 350
Earnings before income taxes 4,662
Income tax expense $4,662 × 29.0% 1,352
Net earnings $ 3,310

Forecasted Balance Sheet 2014 ($ millions)


Cash and equivalents $46,183 × 5.8% $ 2,679
Short-term investments PLUG 1,915
Receivables, net $46,183 × 12.9% 5,958
Inventories, net $36,226 × 8.3% 3,007
Deferred income taxes No change 1,088
Other current assets No change 813
Total current assets 15,460
Property, plant and equipment, net $4,706 + ($46,183 × 1.8%) - ($4,706 × 21.2%) 4,539
Goodwill No change 10,348
Deferred income taxes No change 2,850
Other assets No change 4,955
$38,152

Accounts payable $46,183 x 3.1% $ 1,432


Customer advances $46,183 x 14.0% 6,466
Salaries, benefits and payroll taxes $46,183 x 4.0% 1,847
Other current liabilities No change 1,565
Total current liabilities 11,310
Long-term debt, net No change 6,152
Accrued pension liabilities $46,183 x 20.6% 9,514
Other postretirement benefit liabilities $46,183 x 2. 0% 924
Other liabilities No change 3,735
Total liabilities 31,635

Common stock No change 319


Retained earnings $14,200 + [$3,310 × (1 - 51.7%)] 15,799
Accumulated other comprehensive (loss) No change (9,601)
Total stockholders’ equity 6,517
Total liabilities and stockholders’ equity $38,152

©Cambridge Business Publishers, 2015


Test Bank, Module 11 11-37
Topic: Projecting the Statement of Cash Flows
LO: 4
5. Following are the forecasted income statement and balance sheet for Lockheed Martin Corporation
for the year ended December 31, 2014. Prepare a forecasted statement of cash flows for the
company for 2014.

Lockheed Martin Corporation


Consolidated Balance Sheet
At December 31,
2014 2013
(In millions) forecasted actual
Cash and equivalents $ 2,679 $ 2,617
Short-term investment 1,915 --
Receivables, net 5,958 5,834
Inventories, net 3,007 2,977
Deferred income taxes 1,088 1,088
Other current assets 813 813
Total current assets 15,460 13,329
Property, plant and equipment, net 4,539 4,706
Goodwill 10,348 10,348
Deferred income taxes 2,850 2,850
Other assets 4,955 4,955
$38,152 $36,188

Accounts payable $ 1,432 $ 1,397


Customer advances and amounts in excess of costs 6,466 6,349
Salaries, benefits and payroll taxes 1,847 1,809
Other current liabilities 1,565 1,565
Total current liabilities 11,310 11,120
Long-term debt, net 6,152 6,152
Accrued pension liabilities 9,514 9,361
Other postretirement benefit liabilities 924 902
Other liabilities 3,735 3,735
Total liabilities 31,635 31,270

Common stock 319 319


Retained earnings 15,799 14,200
Accumulated other comprehensive (loss) (9,601) (9,601)
Total stockholders’ equity 6,517 4,918
Total liabilities and stockholders’ equity $38,152 $36,188

©Cambridge Business Publishers, 2015


11-38 Financial & Managerial Accounting for MBAs, 4th Edition
Lockheed Martin Corporation
Consolidated Income Statement
For the year ended December 31,
2014 2013
(In millions) forecasted actual
Net sales
Products $36,226 $35,691
Services 9,957 9,667
Total net sales 46,183 45,358
Cost of sales
Products 31,806 31,346
Services 8,842 8,588
Severance and other charges -- 195
-- 201
Other unallocated corporate costs 841 841
Total cost of sales 41,489 41,171
Gross profit 4,694 4,187
Other operating income 318 318
Operating profit 5,012 4,505
Interest expense 350 350
Earnings before income taxes 4,662 4,155
Income tax expense 1,352 1,205
Net earnings from continuing operations $ 3,310 2,950
Net earning (loss) from discontinued op. -- 31
Net earnings $ 3,310 $ 2,981

The following assumptions were used to develop the forecasted financial statements:

Depreciation expense to start of year PPE, net 21.2%


CAPEX to total net sales 1.8%
Dividends to net earnings 51.7%

©Cambridge Business Publishers, 2015


Test Bank, Module 11 11-39
Answer:
Forecasted Statement of Cash Flows for 2014 ($ millions)

Net earnings $ 3,310


Adjustments to reconcile net earnings to cash
from operations
Depreciation expense $4,706 × 21.2% 998
Changes in operating assets and liabilities:
Increase in receivables $5,834 - $5,958 (124)
Increase in inventory $2,977 - $3,007 (30)
Increase in accounts payable $1,397 - $1,432 35
Increase in customer advance $6,349 - $6,466 117
Increase in salaries, benefits and payroll taxes $1,809 - $1,847 38
Increase in accrued pension liabilities $9,361 - $9,514 153
Increase in other postretirement benefit liabilities $902 - $924 22
Net cash provided by operating activities 4,519

Expenditures for property, plant and equipment $46,183 × 1.8% (831)


Purchase of short-term investments Plug in balance sheet (1,915)
Net cash used for investing activities (2,746)

Common stock dividends $3,310 × 51.7% (1,711)


Net cash used for financing activities (1,711)

Net increase in cash and cash equivalents 62


Cash and cash equivalents at beginning of year 2,617
Cash and cash equivalents at end of year $ 2,679

©Cambridge Business Publishers, 2015


11-40 Financial & Managerial Accounting for MBAs, 4th Edition
Topic: Projecting the Statement of Cash Flows
LO: 4
6. Following are the forecasted income statement and balance sheet for Snap-On Corporation for the year
ended December 31, 2014. Prepare a forecasted statement of cash flows for the company for 2014.

Snap-On Incorporated
Consolidated Balance Sheets
2014 2013
(in millions) (forecasted) (actual)
Cash and cash equivalents $ 225.7 $ 217.6
Marketable securities 131.3 --
Trade and other accounts receivable-net 553.1 531.6
Finance receivables-net 374.6 374.6
Contract receivables-net 68.4 68.4
Inventories, net 451.4 434.4
Deferred income tax assets 85.4 85.4
Prepaid expenses and other assets 84.2 84.2
Total current assets 1,974.1 1,796.2
Property and equipment, net 417.3 392.5
Deferred income tax assets 57.1 57.1
Long-term finance receivables-net 560.6 560.6
Long-term contract receivables-net 217.1 217.1
Goodwill 838.8 838.8
Other intangibles, net 164.6 190.5
Other assets 57.2 57.2
Total assets $4,286.8 $4,110.0

Notes payable and current maturities of LT debt $ 0 $ 113.1


Accounts payable 162.1 155.6
Accrued benefits 48.1 48.1
Accrued compensation 95.5 95.5
Franchise deposits 59.4 59.4
Other accrued liabilities 254.3 243.7
Total current liabilities 619.4 715.4
Long-term debt 858.9 858.9
Deferred income tax liabilities 143.8 143.8
Retiree health care benefits 41.7 41.7
Pension liabilities 135.8 135.8
Other long-term liabilities 84.0 84.0
Total liabilities 1,883.6 1,979.6
Shareholders’ equity attributable to Snap-on Inc.
Common stock 67.4 67.4
Additional paid-in capital 225.1 225.1
Retained earnings 2,596.5 2,324.1
Accumulated other comprehensive loss (44.8) (44.8)
Treasury stock at cost (458.6) (458.6)
Total shareholders’ equity attributable to Snap-On Inc. 2,385.6 2,113.2
Noncontrolling interests 17.6 17.2
Total shareholders’ equity 2,403.2 2,130.4
Total liabilities and shareholders’ equity $4,286.8 $4,110.0

©Cambridge Business Publishers, 2015


Test Bank, Module 11 11-41
Snap-On Incorporated
Consolidated Statements of Earnings
For the Year Ended
2014 2013
(in millions) (forecasted) (actual)
Net sales $ 3,178.8 $ 3,056.5
Cost of goods sold (1,646.6) (1,583.6)
Gross profit 1,532.2 1,472.9
Operating expenses, net (1,052.2) (1,012.4)
Operating earnings before financial services 480.0 460.5
Financial services revenue 202.7 181.0
Financial services expenses (62.0) (55.3)
Operating earnings from financial services 140.7 125.7
Operating earnings 620.7 586.2
Interest expense (56.1) (56.1)
Other income (expense)-net (3.9) (3.9)
Earnings before income taxes and equity earnings 560.7 526.2
Income tax expense (177.7) (166.7)
Earnings before equity earnings 383.0 359.5
Equity earnings, net of tax 0.2 0.2
Net earnings 383.2 359.7
Net earnings attributable to noncontrolling interests (10.0) (9.4)
Net earnings attributable to Snap-on Incorporated $ 373.2 $ 350.3

The following assumptions were used to develop the forecasted financial statements:

CAPEX to net sales 2.3%


Depreciation to start of year PPE, net 12.3%
Amortization expense to start of year intangibles, net 13.6%
Snap-on dividends to net earnings 26.3%
Noncontrolling interest dividends to net earnings 2.5%

©Cambridge Business Publishers, 2015


11-42 Financial & Managerial Accounting for MBAs, 4th Edition
Answer:
Forecasted Consolidated Statement of Cash Flows for 2014

($ millions)
Net earnings $383.2
Adjustments to reconcile net earnings to net cash
provided (used) by operating activities:
Depreciation $392.5 × 12.3% 48.3
Amortization of other intangibles $190.5 × 13.6% 25.9
Changes in operating assets and liabilities, net of
effects of acquisitions:
Increase in receivables $553.1 - $531.6 (21.5)
Increase in inventories $451.4 - $434.4 (17.0)
Increase in accounts payable $162.1 - $155.6 6.5
Increase in accruals $254.3 - $243.7 10.6
Net cash provided by operating activities 436.0

Capital expenditures $3,178.8 × 2.3% (73.1)


Purchase marketable securities (131.3)
Net cash used by investing activities (204.4)

Payment on long-term debt (113.1)


Cash dividends paid $383.2 × (26.3% + 2.5%) (110.4)
Net cash used by financing activities (223.5)

Increase (decrease) in cash and cash equivalents 8.1


Cash and cash equivalents at beginning of year 217.6
Cash and cash equivalents at end of year $225.7

©Cambridge Business Publishers, 2015


Test Bank, Module 11 11-43
Topic: Projecting the Income Statement for Multiple Years
LO: 5
7. Following is the income statement for NetFlix Inc. for the year ended December 31, 2013. Prepare
forecasted income statements for the company for 2014 and 2015.

NETFLIX, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands)
Year ended December 31, 2013 2012 2011
Revenues $4,374,562 $3,609,282 $3,204,577
Cost of revenues 3,083,256 2,625,866 2,039,901
Gross profit 1,291,306 983,416 1,164,676
Operating expenses:
Marketing 503,889 465,400 381,269
Technology and development 378,769 329,008 259,033
General and administrative 180,301 139,016 148,306
Total operating expenses 1,062,959 933,424 788,608
Operating income 228,347 49,992 376,068
Other income (expense):
Interest expense (29,142) (19,986) (20,025)
Interest and other
income(expense) (3,002) 474 3,479
Loss on extinguishment of
debt (25,129) - -
Income before income taxes 171,074 30,480 359,522
Provision for income taxes 58,671 13,328 133,396
Net income $ 112,403 $17,152 $ 226,126

Use the following assumptions to develop the forecasted income statements:

Revenue growth 10.0%


Costs to revenues 70.5%
Marketing 11.5%
Technology and development to revenues 8.7%
General and administrative to revenues 4.1%
Interest expense No change
Loss on extinguishment of debt………………………………………… $0
Interest and other income No change
Provision for income taxes to Income before income taxes 34.3%

©Cambridge Business Publishers, 2015


11-44 Financial & Managerial Accounting for MBAs, 4th Edition
Answer:
NETFLIX, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands)

Year ended December 31, 2013 2014 2015

Revenues $4,374,562 $4,374,562 × 1.10 4,812,018 $4,812,018 × 1.10 $5,293,220

Cost of revenues: 3,083,256 $4,812,018 x 70.5% 3,392,473 $5,293,220 x 70.5% 3,731,720

Gross profit 1,291,306 1,419,545 1,561,500

Operating expenses:

Marketing 503,889 $4,812,018 × 11.5% 553,382 $5,293,220 × 11.5% 608,720

Technology and development 378,769 $4,812,018 × 8.7% 418,646 $5,293,220 × 8.7% 460,510

General and administrative 180,301 $4,812,018 × 4.1% 197,293 $5,293,220 × 4.1% 217,022

Total operating expenses 1,062,959 1,169,321 1,286,252

Operating income 228,347 250,224 275,248

Interest expense (29,142) No change (29,142) No change (29,142)


Interest and other
income(expense) (3,002) No change (3,002) No change (3,002)

Loss on extinguishment of debt (25,129) 0 0

Income before income taxes 171,074 218,080 243,104

Provision for income taxes 58,671 $218,080 × 34.3% 74,801 $242,906 × 34.3% 83,385

Net income $ 112,403 $ 143,279 $ 159,719

©Cambridge Business Publishers, 2015


Test Bank, Module 11 11-45
Topic: Parsimonious Method of Forecasting Financial Statements
LO: 6
8. Following is the balance sheet and income statement for CVS Caremark Inc. for the year ended
December 31, 2013.

CVS Caremark Corporation


Consolidated Balance Sheets
Dec. 31, Dec. 31,
In millions 2013 2012
Cash and cash equivalents $ 4,089 $ 1,375
Short-term investments 88 5
Accounts receivable, net 8,729 6,479
Inventories 11,045 11,032
Deferred income taxes 902 693
Other current assets 472 577
Total current assets 25,325 20,161
Property and equipment, net 8,615 8,632
Goodwill 26,542 26,395
Intangible assets, net 9,529 9,753
Other assets 1,515 1,280
Total assets $71,526 $66,221

Accounts payable $ 5,548 $ 5,070


Claims and discounts payable 4,548 3,974
Accrued expenses 4,768 4,411
Short-term debt 0 690
Current portion of long-term debt 561 5
Total current liabilities 15,425 14,150
Long-term debt 12,841 9,133
Deferred income taxes 3,901 3,784
Other long-term liabilities 1,421 1,501

Common stock, par value $0.01 17 17


Treasury stock, at cost (20,169) (16,270)
Shares held in trust (31) (31)
Capital surplus 29,777 29,120
Retained earnings 28,493 24,998
Accumulated other comprehensive loss (149) (181)
Total shareholders’ equity 37,938 37,653
Total liabilities and shareholders’ equity $71,526 $66,221

©Cambridge Business Publishers, 2015


11-46 Financial & Managerial Accounting for MBAs, 4th Edition
CVS Caremark Corporation
Consolidated Statements of Income
Dec. 31, Dec. 31,
In millions 2013 2012
Net revenues $126,761 $123,120
Cost of revenues 102,978 100,632
Gross profit 23,783 22,488
Total operating expenses 15,746 15,278
Operating profit 8,037 7,210
Interest expense, net 509 557
Loss on early extinguishment of debt 0 348
Income before income tax provision 7,528 6,305
Income tax provision 2,928 2,436
Income from continuing operations 4,600 3,869
Income (loss) from discontinued operations, net (8) (7)
Net income 4,592 3,862
Net loss attributable to noncontrolling interest 0 2
Net income attributable to CVS Caremark $ 4,592 $3,864

Required:
a. Calculate net operating profit after tax (NOPAT) for 2013. Assume a statutory tax rate of 37.0%.
b. Calculate net operating assets for 2013.
c. Use the parsimonious method of forecasting to project net operating profit after tax (NOPAT) and
net operating assets (NOA) for 2014 and 2015. Assume that sales increase by 10% each year.
Assume that net operating profit margin (NOPM) and net operating asset turnover (NOAT) remain
unchanged from their 2013 levels.

©Cambridge Business Publishers, 2015


Test Bank, Module 11 11-47
Answer: (all answers are in $ millions)
a. Nonoperating expense before tax $ 509
Tax at 37.0% statutory rate (188)
Nonoperating expense after tax $ 321

Income from continuing operations $4,600


Add back nonoperating expense after tax 321
Net operating profit after tax (NOPAT) $4,921

b. Total current liabilities $15,425


Short-term debt 0
Current portion of long-term debt (561)
Deferred income taxes 3,901
Other long-term liabilities 1,421
Operating liabilities $20,186

Total assets $71,526


Cash and cash equivalents (4,089)
Short-term investment (88)
Operating assets 67,349
Operating liabilities 20,186
Net operating assets (NOA) $47,163

c. Net operating profit margin (NOPM) = NOPAT / Sales = $4,921 / $126,761= 3.9%
Net operating asset turnover (NOA) = Sales / NOA = $126,761 / $47,163 = 2.69

2013 2014 2015

Net revenues (unrounded) $126,671 $139,338.10 $153,271.91


Net revenues (rounded) 139,338 153,272
Net operating profit after tax (NOPAT)
= Net revenues × 3.9% 5,434 5,978
Net operating assets (NOA) = Net revenues / 2.69 $51,799 $56,978

©Cambridge Business Publishers, 2015


11-48 Financial & Managerial Accounting for MBAs, 4th Edition
Topic: Parsimonious Method of Forecasting Financial Statements
LO: 6
9. Following is financial information for Snap-On Inc. for the year ended December 31, 2013.

Sales $ 3,056.5
Net operating profit after tax (NOPAT) 397.3
Operating assets 3,892.4
Operating liabilities 1,007.6

Assume that net operating profit margin (NOPM) and net operating asset turnover (NOAT) will remain
at 2013 levels. Assume that sales will grow as follows:

2014 2015 2016 2017


Net sales growth rate 2% 3% 5% 5%

Required:
Use the parsimonious method of forecasting to project net operating profit after tax (NOPAT) and net
operating assets (NOA) for 2014 through 2017, inclusive.

Answer:
Operating assets $3,892.4
Operating liabilities 1,007.6
Net operating assets (NOA) $2,884.8

NOPM = NOPAT / Sales 13.0%


NOAT = Sales / NOA 1.06

2013 2014 2015 2016 2017


Net sales growth rate 2% 3% 5% 5%
Net sales (unrounded) $3,056.5 $3,117.63 $3,211.159 $3,371.717 $3,540.303
Net sales (rounded) 3,117.6 3,211.2 3,371.7 3,540.3
NOPAT = Net sales × 13% 405.3 417.5 438.3 460.2
NOA = Net sales / 1.06 $ 2,941.1 $ 3,029.4 $ 3,180.8 $ 3,339.9

©Cambridge Business Publishers, 2015


Test Bank, Module 11 11-49
Topic: Parsimonious Method of Forecasting Financial Statements
LO: 6
10. Following is financial information for NetFlix, Inc., for the year ended December 31, 2013 (in
thousands). Use the parsimonious method of forecasting to project net operating profit after tax
(NOPAT) and net operating assets (NOA) for 2014 through 2017, inclusive.

Sales $4,374,562
Net operating profit after tax (NOPAT) 148,485
Operating assets 4,212,158
Operating liabilities 3,579,002

Assume that net operating profit margin (NOPM) and net operating asset turnover (NOAT) will remain
at 2013 levels. Assume that sales will grow at 4% per year.

Required:
Use the parsimonious method of forecasting to project net operating profit after tax (NOPAT) and net
operating assets (NOA) for 2014 through 2017, inclusive.

Answer:
(in thousands).
Operating assets $4,212,158
Operating liabilities 3,579,002
Net operating assets (NOA) $ 633,156

NOPM = NOPAT / Sales 3.4%


NOAT = Sales / NOA 6.91

2013 2014 2015 2016 2017


Net sales (unrounded) 4,374,562 4,549,544.48 4,731,526.26 4,920,787.31 5,117,618.80
Net sales (rounded) 4,549,544 4,731,526 4,920,787 5,117,619
NOPAT = Net sales × 3.4% 154,684 160,872 167,307 173,999
NOA = Net sales / 6.91 658,400 684,736 712,125 740,611

©Cambridge Business Publishers, 2015


11-50 Financial & Managerial Accounting for MBAs, 4th Edition
Essay Questions

Topic: Accruals and Earnings Management


LO: 1
1. Explain how management can use the accrual process to manage earnings.

Answer:
Management of earnings via accruals relates to the creation or using up of accrued liabilities or
reserves to shift earnings from one period into another. Under a “big bath” scenario, a company
reduces current earnings via excessive write-offs or accruals. Future periods’ earnings are increased
as a result of the reduction of depreciation expense, future write-offs of impaired assets or the
charging of future costs to liabilities rather than expense. Companies can also shift earnings into the
present by the underaccrual of liabilities or reserves. Since these must, eventually, be increased,
future periods’ earnings will be lower.

Topic: Accruals and the Quality of Earnings


LO: 1
2. Do accruals increase or decrease the quality of earnings? Explain why and provide three examples.

Answer:
If not misused, accruals generally increase the quality of earnings because accruals more accurately
reflect accounting transactions when they occur. Cash basis accounting is of lower quality. But if
misused, accruals can seriously undermine the quality of earnings.

One example of a quality-enhancing accrual is the impairment of assets. When an asset becomes
impaired, it is written off, even if it hasn’t been sold yet. By writing off the asset and recording the
loss, the impairment is being reported on a timelier basis.

Another example is the expected loss on uncollectible accounts. This is reported when the loss on
receivable is estimated, not when accounts are actually written off. This provides more timely
information.

A third example is accruing revenue – if a company earns income in a period, it should be recorded
even if the cash is not received. Depending on customer payments to determine when to record
revenue would create huge swings in net income that have no basis in economic reality.

©Cambridge Business Publishers, 2015


Test Bank, Module 11 11-51
Topic: Use of Nonfinancial Information
LO: 2
3. Name three sources of outside information (beyond historical sales trends) an analyst might consider
when projecting expected sales growth for a retail firm such as Target. How does each information
source affect projections?

Answer:
 Expected macroeconomic activity: The retail industry is directly affected by the level of
disposable income of its customers and the population at large. In times of recession, consumers
choose to save their money rather than spend. Proper analysis of current economic activity
should be done in the case of Target to reflect overall economy growth and the expected growth
of retail sales. In contrast, if the economy is experiencing a spike in economic growth, one could
reasonably project an increase in sales greater than historical sales growth.
 Competitive landscape: A company, as well as astute analysts, should always be aware of
competitive activity. New entrants to the category pose a major threat to the market share and
profitability of company. To accurately predict Target’s future performance, an analyst must
consider whether a capable adversary has entered the market place. Additionally, has Target’s
success forced out Kmart, Kohl’s or Sears stores in Target’s markets? Properly surveying such
changes to the competitive environment provides clues to a company’s market share, ability to
increase prices and ultimately sales growth, and should be taken into account when forecasting
future performance.
 New versus old store mix: When Target opens a new store, the company experiences a huge
influx of sales during its first few months before revenue begins to even out. In contrast, old
outdated stores usually produce a proportionately lower level of sales. A super-chain, such as
Target, plans as many as 100 store openings globally every year. Accurate financial statement
projections must consider expansion plans and assimilate them accordingly into the company’s
forecast.

Topic: Acquired Growth


LO: 2
4. Explain the difference between organic and acquired growth.

Answer:
Organic growth occurs when a company increases revenue by expanding product lines, or increasing
sales volume, or increasing sales price per unit, or all three. Organic growth generates additional
returns to existing assets with little new investment. Acquired growth, occurs when the company
acquires other companies or segments. This can allow a company to enter a new market quickly or to
acquire needed expertise, sometimes at a lower cost than would be required to develop internally.

©Cambridge Business Publishers, 2015


11-52 Financial & Managerial Accounting for MBAs, 4th Edition
Topic: Model Parameters for Projection
LO: 2, 3
5. In order to project a company’s future financial statements, analysts must make a number of
assumptions and estimate model parameters. List four common model parameters that must be
estimated.

Answer:
Model parameters that must be estimated in order to project future financial statements include:

• sales growth rate


• gross profit margin
• common-sized expense items
• relations between sales and balance sheet items such as accounts receivable, inventory,
accounts payable, and other current operating assets and liabilities
• relation between PPE and new equipment expenditures (CAPEX)
• tax provision to income before taxes.

Topic: Interpreting Projected Cash Balance


LO: 4
6. Explain why the calculated projected cash balance for a company is crucial to understanding how a
company will be financed in the future.

Answer:
The level of projected cash is crucial to understanding how a company will finance itself in the future.
If an analyst projects negative cash levels, a company may have to finance that shortfall with
additional debt and/or equity capital. Conversely, if cash levels are projected to be positive, the
company will have excess cash to invest or funds with which it can retire debt or repurchase stock.

Topic: Projection Methods


LO: 6
7. Describe the difference between the full projection of financial statements and the parsimonious
method. When is one preferable to the other?

Answer:
The full projection method yields projected income statement, balance sheet and a statement of cash
flows. The parsimonious method yields only net operating profit and net operating assets. Thus, the
full method, while longer and more involved, provides much more detailed information and line items.
The full method is useful if the decision maker needs specific line item information, such as inventory
levels or cash needed to purchase new PPE. But if the only information required for a decision is the
level of profit in the coming years, or aggregate asset amounts, then the parsimonious method will
suffice.

©Cambridge Business Publishers, 2015


Test Bank, Module 11 11-53