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Exam 12: Financial Planning and Applications to Corporate Valuation

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Question 21

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Which of the following statements is CORRECT?

A) The AFN equation for forecasting funds requirements requires only a forecast of the firm's balance sheet.Although a forecasted income statement may help clarify the results,income statement data are not essential because funds needed relate only to the balance sheet.
B) Dividends are paid with cash taken from the accumulated retained earnings account,hence dividend policy does not affect the AFN forecast.
C) A negative AFN indicates that retained earnings and spontaneous liabilities are far more than sufficient to finance the additional assets needed.
D) If the ratios of assets to sales and spontaneous liabilities to sales do not remain constant,then the AFN equation will provide more accurate forecasts than the forecasted financial statements method.
E) Any forecast of financial requirements involves determining how much money the firm will need,and this need is determined by adding together increases in assets and spontaneous liabilities and then subtracting operating income.

F) All of the above
G) A) and D)

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Question 22

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Last year National Aeronautics had a FA/Sales ratio of 40%,comprised of $250 million of sales and $100 million of fixed assets.However,its fixed assets were used at only 75% of capacity.Now the company is developing its financial forecast for the coming year.As part of that process,the company wants to set its target Fixed Assets/Sales ratio at the level it would have had had it been operating at full capacity.What target FA/Sales ratio should the company set?

A) 28.5%
B) 30.0%
C) 31.5%
D) 33.1%
E) 34.7%

F) A) and C)
G) B) and E)

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Question 23

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Two firms with identical capital intensity ratios are generating the same amount of sales.However,Firm A is operating at full capacity,while Firm B is operating below capacity.If the two firms expect the same growth in sales during the next period,then Firm A is likely to need more additional funds than Firm B,other things held constant.

The AFN equation assumes that the ratios of assets and liabilities to sales remain constant over time.However,this assumption can be relaxed when we use the forecasted financial statement method.Three conditions where constant ratios cannot be assumed are economies of scale,lumpy assets,and excess capacity.

Which of the following statements is CORRECT?

If a firm's capital intensity ratio (A₀*/S₀)decreases as sales increase,use of the AFN formula is likely to understate the amount of additional funds required,other things held constant.

One of the first steps in arriving at a firm's forecasted financial statements is a review of industry-average operating ratios relative to these same ratios for the firm to determine whether changes to the ratios need to be made.

A firm's AFN must come from external sources.Typical sources include short-term bank loans,long-term bonds,preferred stock,and common stock.

Which of the following statements is CORRECT?

Which of the following assumptions is embodied in the AFN equation?

Last year Baron Enterprises had $350 million of sales,and it had $270 million of fixed assets that were used at 65% of capacity last year.In millions,by how much could Baron's sales increase before it is required to increase its fixed assets?

Operating plans sketch out broad approaches for realization of the firm's strategic vision.These plans usually are developed for a period no longer than a 1-year time horizon because detail is "lost" by extending out the time horizon by more than 1 year.

The capital intensity ratio is the amount of assets required per dollar of sales and it has a major impact on a firm's capital requirements.

Weber Interstate Paving Co.had $450 million of sales and $225 million of fixed assets last year,so its FA/Sales ratio was 50%.However,its fixed assets were used at only 65% of capacity.If the company had been able to sell off enough of its fixed assets at book value so that it was operating at full capacity,with sales held constant at $450 million,how much cash (in millions) would it have generated?

The Besnier Company had $250 million of sales last year,and it had $75 million of fixed assets that were being operated at 80% of capacity.In millions,how large could sales have been if the company had operated at full capacity?

One of the necessary steps in the financial planning process is a forecast of financial statements under each alternative version of the operating plan in order to analyze the effects of different operating procedures on projected profits and financial ratios.

A firm's profit margin is 5%,its debt/assets ratio is 56%,and its dividend payout ratio is 40%.If the firm is operating at less than full capacity,then sales could increase to some extent without the need for external funds,but if it is operating at full capacity with respect to all assets,including fixed assets,then any positive growth in sales will require some external financing.

Which of the following is NOT one of the steps taken in the financial planning process?

A rapid build-up of inventories normally requires additional financing,unless the increase is matched by an equally large decrease in some other asset.

As long as a firm does not pay out 100% of its earnings,the firm's annual profit that is retained in the business (i.e. ,the addition to retained earnings)is another source of funds for a firm's expansion.