Question

Problem 12-03 AFN Equation Broussard Skateboard's sales are expected to increase by 20% from $8.4 million in 2016 to $10.08 million in 2017. Its assets totaled $5 million at the end of 2016. Broussard is already at full capacity, so its assets must grow at the same rate as projected sales. At the end of 2016, current liabilities were $1.4 million, consisting of $450,000 of accounts payable, $500,000 of notes payable, and $450,000 of accruals. The after-tax profit margin is forecasted to be 5%. Assume that the company pays no dividends. Under these assumptions, what would be the additional funds needed for the coming year? Do not round intermediate calculations. Round your answer to the nearest dollar. $ Why is this AFN different from the one when the company pays dividends? I. Under this scenario the company would have a higher level of retained earnings but this would have no effect on the amount of additional funds needed. II. Under this scenario the company would have a lower level of retained earnings which would reduce the amount of additional funds needed. III. Under this scenario the company would have a lower level of retained earnings but this would have no effect on the amount of additional funds needed. IV. Under this scenario the company would have a higher level of retained earnings which would reduce the amount of additional funds needed. V. Under this scenario the company would have a higher level of retained earnings which would increase the amount of additional funds needed.

Answer 1

AFN = Required increase in assets - spontaneous increase - addition to retained earnings

= (Total assets/Sales)*(Change in sales) - ((A/C payable + accruals)/Sales)*(Change in sales) - (Expected sales*profit margin*retention ratio)

= (5/8.4)*(20%*8.4) - ((0.45 + 0.45)/8.4)*(20%*8.4) - (10.08*5%*100%)

= 0.316 million or 316,000

Option IV - Under this scenario (where no dividend is being paid out), the company would have a higher level of retained earnings which would reduce the amount of additional funds needed.