© 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part. Financial Planning and Forecasting Forecasting Sales Projecting the Assets and Internally Generated Funds Projecting Outside Funds Needed Deciding How to Raise Funds Chapter

© 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part. Preliminary Financial Forecast: Balance Sheets (Assets) E Cash and equivalents$ 20$ 25 Accounts receivable Inventories Total current assets$ 500$ 625 Net fixed assets Total assets$1,000$1,

© 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part E A/P & accrued liabilities$ 100$ 125 Notes payable Total current liabilities $ 200$ 315 Long-term debt Common stock 500 Retained earnings Total liabilities & equity$1,000$1,250 Preliminary Financial Forecast: Balance Sheets (Liabilities and Equity) 17-3

© 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part. Preliminary Financial Forecast: Income Statements E Sales$2,000.0$2,500.0 Variable costs1,200.01,500.0 Fixed costs EBIT$ 100.0$ Interest 16.0 EBT$ 84.0$ Taxes (40%) Net income$ 50.4$ 65.4 Dividends (30% of NI)$15.12$19.62 Addition to retained earnings$35.28$45.78

© 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part. Key Financial Ratios EInd AvgComment Basic earning power10.00% 20.00%Poor Profit margin2.52%2.62%4.00%Poor Return on equity7.20%8.77%15.60%Poor Days sales outstanding43.8 days 32.0 daysPoor Inventory turnover8.33x 11.00xPoor Fixed assets turnover4.00x 5.00xPoor Total assets turnover2.00x 2.50xPoor Debt/Assets30.00%40.40%36.00%OK Times interest earned6.25x7.81x9.40xPoor Current ratio2.50x1.99x3.00xPoor Payout ratio30.00% OK 17-5

© 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part. Key Assumptions in Preliminary Financial Forecast for NWC Operating at full capacity in Each type of asset grows proportionally with sales. Payables and accruals grow proportionally with sales profit margin (2.52%) and payout (30%) will be maintained. Sales are expected to increase by $500 million. (%  S = 25%) 17-6

© 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part. Determining Additional Funds Needed Using the AFN Equation AFN= (A 0 */S 0 )  S – (L 0 */S 0 )  S – M(S 1 )(1 – Payout) = ($1,000/$2,000)($500) – ($100/$2,000)($500) – ($2,500)(0.7) = $180.9 million 17-7

© 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part. Management’s Review of the Financial Forecast Consultation with some key managers has yielded the following revisions: – Firm expects customers to pay quicker next year, thus reducing DSO to 34 days without affecting sales. – A new facility will boost the firm’s net fixed assets to $700 million. – New inventory system to increase the firm’s inventory turnover to 10x, without affecting sales. 17-8

© 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part. Management’s Review of the Financial Forecast These changes will lead to adjustments in the firm’s assets and will have no effect on the firm’s liabilities and equity section of the balance sheet or its income statement. 17-9

© 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part. Revised (Final) Financial Forecast: Balance Sheets (Assets) F Cash and equivalents$ 20$ 67 Accounts receivable Inventories Total current assets$ 500$ 550 Net fixed assets Total assets$1,000$1,

© 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part. Key Financial Ratios: Final Forecast FInd AvgComment Basic earning power10.00% 20.00%Poor Profit margin2.52%2.62%4.00%Poor Return on equity7.20%8.77%15.60%Poor Days sales outstanding43.8 days34.0 days32.0 daysOK Inventory turnover8.33x10.00x11.00xOK Fixed assets turnover4.00x3.57x5.00xPoor Total assets turnover2.00x 2.50xOK Debt/Assets30.00%40.40%36.00%Poor Times interest earned6.25x7.81x9.40xPoor Current ratio2.50x1.98x3.00xPoor Payout ratio30.00% OK 17-11

© 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part. What was the net investment in capital? 17-12

© 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part. How much free cash flow is expected to be generated in 2013? FCF= EBIT(1 – T) – Net investment in capital = $125(0.6) – $225 = $75 – $225 = -$

© 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part. Suppose Fixed Assets Had Been Operating at Only 85% of Capacity in 2012 The maximum amount of sales that can be supported by the 2012 level of assets is: forecast sales exceed the capacity sales, so new fixed assets are required to support 2013 sales.

© 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part. How can excess capacity affect the forecasted ratios? Sales wouldn’t change but assets would be lower, so turnovers would improve. Less new debt, hence lower interest and higher profits EPS, ROE, debt ratio, and TIE would improve

© 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a publicly accessible website, in whole or in part. How would the following items affect the AFN? Higher dividend payout ratio? – Increase AFN: Less retained earnings. Higher profit margin? – Decrease AFN: Higher profits, more retained earnings. Higher capital intensity ratio? – Increase AFN: Need more assets for a given level of sales. Pay suppliers in 60 days, rather than 30 days? – Decrease AFN: Trade creditors supply more capital (i.e., L 0 */S 0 increases)