Question

The Manning Company has financial statements as shown next, which are representative of the company’s historical average.

The firm is expecting a 35 percent increase in sales next year, and management is concerned about the company’s need for external funds. The increase in sales is expected to be carried out without any expansion of fixed assets, but rather through more efficient asset utilization in the existing store. Among liabilities, only current liabilities vary directly with sales.

  

Income Statement

Sales $ 200,000

Expenses 155,800

Earnings before interest and taxes $ 44,200

Interest 8,100

Earnings before taxes $ 36,100

Taxes 16,100

Earnings after taxes $ 20,000

Dividends $ 7,000

  

Balance Sheet

Assets Liabilities and Stockholders' Equity

Cash $ 5,000 Accounts payable $ 20,000

Accounts receivable 35,000 Accrued wages 1,750

Inventory 60,000 Accrued taxes 4,250

Current assets $ 100,000 Current liabilities $ 26,000

Fixed assets 91,000 Notes payable 8,100

Long-term debt 20,500

Common stock 115,000

Retained earnings 21,400

Total assets $ 191,000 Total liabilities and stockholders' equity $ 191,000

  

Using the percent-of-sales method, determine whether the company has external financing needs, or a surplus of funds. (Hint: A profit margin and payout ratio must be found from the income statement.) (Do not round intermediate calculations.)

  The Firm ___(Needs or Has), _______, ______ (In external Funds or In Surplus Funds).

Answer 1

1. Computation of External Funds Needed

Profit Margin = Earnings after tax / Sales = 20000 / 200000 = 10%

Payout Ratio = Dividends / Earnings after tax = $7000 / $20000 = 35%

Projected Sales = Current Sales * ( 1 + Increase in Sales)

Projected Sales = $200000 * ( 1 + 0.35) = $270000

Change in Sales S' = $70000

External Funds Needed = Current Assets * Change in Sales / Current Sales - Current Liabilities * Change in Sales / Current Sales - Profit Margin * Projectedd Sales * (1 - Payout ratio)

External Funds Needed = $100000 * $70000 / $200000 - $26000 * $70000 / $200000 - 0.10 * $270000 * (1 - 0.35)

External Funds Needed = $35000 - $9100 - $17550

External Funds Needed = $8350

The Firm needs $8350 in external funds