The 2015 financial statements for Growth Industries are presented below:
| INCOME STATEMENT, 2015 | |||
| Sales | $ | 280,000 | |
| Costs | 190,000 | ||
| EBIT | $ | 90,000 | |
| Interest expense | 18,000 | ||
| Taxable income | $ | 72,000 | |
| Taxes (at 35%) | 25,200 | ||
| Net income | $ | 46,800 | |
| Dividends | $ 23,400 | ||
| Addition to retained earnings | 23,400 | ||
| BALANCE SHEET, YEAR-END, 2015 | |||||
| Assets | Liabilities | ||||
| Current assets | Current liabilities | ||||
| Cash | $ | 4,000 | Accounts payable | $ | 11,000 |
| Accounts receivable | 9,000 | Total current liabilities | $ | 11,000 | |
| Inventories | 37,000 | Long-term debt | 180,000 | ||
| Total current assets | $ | 50,000 | Stockholders’ equity | ||
| Net plant and equipment | 220,000 | Common stock plus additional paid-in capital | 15,000 | ||
| Retained earnings | 64,000 | ||||
| Total assets | $ | 270,000 | Total liabilities and stockholders’ equity | $ | 270,000 |
| Sales and costs in 2016 are projected to be 40% higher than in 2015. Both current assets and accounts payable are projected to rise in proportion to sales. The fixed assets of Growth Industries are operating at only 70% of capacity. Interest expense in 2016 will equal 10% of long-term debt outstanding at the start of the year. The firm will maintain a dividend payout ratio of .50. |
| What is the required external financing over the next year? |
| Even if sales increase by 40%, the firm still has more than enough fixed assets to meet production. Only working capital will increase. Net working capital of the firm in 2015 was $. The increase in net working capital will be $, which is less than the increase in the retained earnings. Thus required external financing is $. A negative external financing value indicates the firm will generate more cash than it needs to finance the projected growth. This extra cash can be used to reduce debt, repurchase shares, increase cash reserves, or fund future growth. This extra cash was primarily due to the firm’s exc |
First of all find out the figure for the year 2016
Income statement for the year 2016
| Particular | Amount in $ |
| Sales
(280,000*1.40) |
392,000 |
| Cost
(190000*392000/280000 |
266,000 |
| EBIT | 126,000 |
| Interest Expenses | 18,000 |
| Taxable income | 108,000 |
| Tax (35%) | 37,800 |
| Net Income | 70,200 |
| Devidend | 35,100 |
| Additional Retained Earnig | 35,100 |
Balancesheet at the year end 2016
| Assets | Amount In $ | Liabelity | Amount in $ |
| Current assets | Current liabilities | ||
| Cash | 5600 | Accounts Payable | 15400 |
| Accounts Receivable | 12600 | ||
| Inventories | 51800 | ||
| Total current assets | 70,000 | Total current liabilities | 15,400 |
| Net plant and Equipmrnt | 239,500 | Long-term debt | 180,000 |
| Stockholders’ equity | |||
| Common stock plus additional paid-in capital | 15000 | ||
| Retained earnings | 99100 | ||
Net working capital in 2015 is =50000-11000=39,000
Net working capital in 2016 is =70000-15400=54,600(15,600 Increase)
Increse in retained earning=35,100
Thus required external financing is =15600-35100 = (19,500)
Required external financing is negative 19,500
So the given statement is true that a negative external financing value indicates the firm will generate more cash than it needs to finance the projected growth. This extra cash can be used to reduce debt, repurchase shares, increase cash reserves, or fund future growth. This extra cash was primarily due to the firm’s excess production capacity.
