BUSI 320 Homework 2 Financial Forecasting and Leverage Assignment solutions complete answers

BUSI 320 Homework 2 Financial Forecasting and Leverage Assignment solutions complete answers

 

Variable costs are expected to stay at 50 percent of sales, while fixed expenses will increase to $2,390,000 per year. Delsing is not sure how much this expansion will add to sales, but he estimates that sales will rise by $1 million per year for the next five years.
Delsing is interested in a thorough analysis of his expansion plans and methods of financing.He would like you to analyze the following:

 

The company is currently financed with 50 percent debt and 50 percent equity (common stock, par value of $10). In order to expand the facilities, Mr. Delsing estimates a need for $2.9 million in additional financing. His investment banker has laid out three plans for him to consider:

 

The Lopez-Portillo Company has $11.9 million in assets, 70 percent financed by debt  and 30 percent financed by common stock. The interest rate on the debt is 13 percent and the par value of the stock is $10 per share. President Lopez-Portillo is considering two financing plans for an expansion to $24.5 million in assets.

Under Plan A, the debt-to-total-assets ratio will be maintained, but new debt will cost a whopping 16 percent! Under Plan B, only new common stock at $10 per share will be issued. The tax rate is 30 percent.
 

a. If EBIT is 14 percent on total assets, compute earnings per share (EPS) before the expansion and under the two alternatives. (Round your answers to 2 decimal places.)

 

Dickinson Company has $12,200,000 million in assets. Currently half of these assets are financed with long-term debt at 11.0 percent and half with common stock having a par value of $8. Ms. Smith, Vice President of Finance, wishes to analyze two refinancing plans, one with more debt (D) and one with more equity (E). The company earns a return on assets before interest and taxes of 11.0 percent. The tax rate is 40 percent. Tax loss carryover provisions apply, so negative tax amounts are permissable.

 

Under Plan D, a $3,050,000 million long-term bond would be sold at an interest rate of 13.0 percent and 381,250 shares of stock would be purchased in the market at $8 per share and retired.

 

Under Plan E, 381,250 shares of stock would be sold at $8 per share and the $3,050,000 in proceeds would be used to reduce long-term debt.

 

a. Complete the following table given earnings before interest and taxes of $34,000, $72,000, and $89,000. Assume the tax rate is 10 percent. (Negative amounts should be indicated by parentheses or a minus sign. Round your answers to 2 decimal places.)

 

International Data Systems' information on revenue and costs is relevant only up to a sales volume of 115,000 units. After 115,000 units, the market becomes saturated and the price per unit falls from $16.00 to $9.80. Also, there are cost overruns at a production volume of over 115,000 units, and variable cost per unit goes up from $8.00 to $8.25. Fixed costs remain the same at $65,000.

 

Healthy Foods Inc. sells 60-pound bags of grapes to the military for $15 a bag. The fixed costs of this operation are $70,000, while the variable costs of grapes are $0.15 per pound.

 

Eaton Tool Company has fixed costs of $525,000, sells its units for $106, and has variable costs of $56 per unit.

 

The Hartnett Corporation manufactures baseball bats with Pudge Rodriguez’s autograph stamped on them. Each bat sells for $35 and has a variable cost of $19. There are $31,200 in fixed costs involved in the production process.

 

The Manning Company has financial statements as shown next, which are representative of the company’s historical average. The firm is expecting a 30 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.

 

Of the firm’s sales, 30 percent are for cash and the remaining 70 percent are on credit. Of credit sales, 40 percent are paid in the month after sale and 60 percent are paid in the second month after the sale. Materials cost 40 percent of sales and are purchased and received each month in an amount sufficient to cover the following month’s expected sales. Materials are paid for in the month after they are received. Labor expense is 25 percent of sales and is paid for in the month of sales. Selling and administrative expense is 20 percent of sales and is paid in the month of sales. Overhead expense is $25,000 in cash per month.

 

Depreciation expense is $10,700 per month. Taxes of $8,700 will be paid in January, and dividends of $5,500 will be paid in March. Cash at the beginning of January is $94,000, and the minimum desired cash balance is $89,000.

 

Wright maintains an ending inventory for each month in the amount of two times the expected sales in the following month. The ending inventory for February (March’s beginning inventory) reflects this policy. Materials cost $6 per unit and are paid for in the month after production. Labor cost is $10 per unit and is paid for in the month incurred. Fixed overhead is $23,500 per month. Dividends of $22,300 are to be paid in May. The firm produced 28,000 units in February.

 

Experience has shown that 40 percent of sales are collected in the month of sale, 50 percent are collected in the following month, and 10 percent are never collected.

 

Beginning inventory at these costs on July 1 was 3,950 units. From July 1 to December 1, 20X1, Bradley Corporation produced 13,900 units. These units had a material cost of $2, labor of $4, and overhead of $2 per unit. Bradley uses LIFO inventory accounting.

 

a. Assuming that Bradley Corporation sold 16,800 units during the last six months of the year at $13 each, what is its gross profit?

 

a. Assuming that Convex sold 22,000 units during the last six months of the year at $14 each, what would gross profit be?

 

Beginning inventory at these costs on July 1 was 7,900 units. From July 1 to December 1, Convex produced 20,000 units. These units had a material cost of $7 per unit. The costs for labor and overhead were the same. Convex uses FIFO inventory accounting.

 

At the end of January, Mineral Labs had an inventory of 885 units, which cost $11 per unit to produce. During February the company produced 1,450 units at a cost of $15 per unit.

 

Cyber Security Systems had sales of 4,000 units at $90 per unit last year. The marketing manager projects a 25 percent increase in unit volume sales this year with a 30 percent price increase. Returned merchandise will represent 12 percent of total sales.

 

Question 1
Philip Morris expects the sales for his clothing company to be $670,000 next year. Philip notes that net assets (Assets − Liabilities) will remain unchanged. His clothing firm will enjoy a 9 percent return on total sales. He will start the year with $270,000 in the bank.
 

What will Philip's ending cash balance be?

 

Question 2
Galehouse Gas Stations Inc. expects sales to increase from $1,600,000 to $1,800,000 next year. Galehouse believes that net assets (Assets − Liabilities) will represent 55 percent of sales. His firm has an 8 percent return on sales and pays 40 percent of profits out as dividends.
 

a. What effect will this growth have on funds?

 

b. If the dividend payout is only 15 percent, what effect will this growth have on funds?

 

Question 3
The Alliance Corp. expects to sell the following number of units of copper cables at the prices indicated, under three different scenarios in the economy. The probability of each outcome is indicated.
 

What is the expected value of the total sales projection?

 

Question 4
Cyber Security Systems had sales of 3,200 units at $60 per unit last year. The marketing manager projects a 15 percent increase in unit volume sales this year with a 40 percent price increase. Returned merchandise will represent 5 percent of total sales.
 

What is your net dollar sales projection for this year?

 

Question 5

At the end of January, Mineral Labs had an inventory of 955 units, which cost $12 per unit to produce. During February, the company produced 1,800 units at a cost of $16 per unit.

 

a. If the firm sold 2,650 units in February, what was the cost of goods sold? (Assume LIFO inventory accounting.)

 

b. If the firm sold 2,650 units in February, what was the cost of goods sold? (Assume FIFO inventory accounting.)

 

Question 6

Convex Mechanical Supplies produces a product with the following costs as of July 1, 20X1:

 

Beginning inventory at these costs on July 1 was 9,400 units. From July 1 to December 1, Convex produced 22,500 units. These units had a material cost of $8 per unit. The costs for labor and overhead were the same. Convex uses FIFO inventory accounting.

 

a. Assuming that Convex sold 24,500 units during the last six months of the year at $16 each, what would gross profit be?

 

b. What is the value of ending inventory?

 

Question 7

The Bradley Corporation produces a product with the following costs as of July 1, 20X1:

 

Beginning inventory at these costs on July 1 was 3,450 units. From July 1 to December 1, 20X1, Bradley produced 12,900 units. These units had a material cost of $4, labor of $6, and overhead of $3 per unit. Bradley uses LIFO inventory accounting.

 

a. Assuming that Bradley sold 14,800 units during the last six months of the year at $18 each, what is its gross profit?

 

Question 8
J. Lo’s Clothiers has forecast credit sales for the fourth quarter of the year:
 

Experience has shown that 20 percent of sales are collected in the month of sale, 70 percent are collected in the following month, and 10 percent are never collected.

 

Prepare a schedule of cash receipts for J. Lo’s Clothiers covering the fourth quarter (October through December).

 

Question 9
Wright Lighting Fixtures forecasts its sales in units for the next four months as follows:
 

Wright maintains an ending inventory for each month in the amount of three times the expected sales in the following month. The ending inventory for February (March’s beginning inventory) reflects this policy. Materials cost $8 per unit and are paid for in the month after production. Labor cost is $12 per unit and is paid for in the month incurred. Fixed overhead is $24,500 per month. Dividends of $22,500 are to be paid in May. The firm produced 30,000 units in February.

 

Complete a production schedule and a summary of cash payments for March, April, and May. Remember that production in any one month is equal to sales plus desired ending inventory minus beginning inventory.

 

Question 10

 

Harry’s Carryout Stores has eight locations. The firm wishes to expand by two more stores and needs a bank loan to do this. Mr. Wilson, the banker, will finance construction if the firm can present an acceptable three-month financial plan for January through March. The following are actual and forecasted sales figures:

 

Of the firm’s sales, 45 percent are for cash and the remaining 55 percent are on credit. Of credit sales, 40 percent are paid in the month after sale and 60 percent are paid in the second month after the sale. Materials cost 25 percent of sales and are purchased and received each month in an amount sufficient to cover the following month’s expected sales. Materials are paid for in the month after they are received. Labor expense is 50 percent of sales and is paid for in the month of sales. Selling and administrative expense is 15 percent of sales and is also paid in the month of sales. Overhead expense is $40,000 in cash per month.

 

Depreciation expense is $12,400 per month. Taxes of $10,400 will be paid in January, and dividends of $14,000 will be paid in March. Cash at the beginning of January is $128,000, and the minimum desired cash balance is $123,000.

 

a. Prepare a schedule of monthly cash receipts for January, February, and March.

 

b. Prepare a schedule of monthly cash payments for January, February, and March.

 

c. Prepare a monthly cash budget with borrowings and repayments for January, February, and March. (Negative amounts should be indicated by a minus sign. Assume the January beginning loan balance is $0.)

 

Question 11

 

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.

 

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.)

 

Question 12

 

The Hartnett Corporation manufactures baseball bats with Pudge Rodriguez’s autograph stamped on them. Each bat sells for $45 and has a variable cost of $24. There are $35,910 in fixed costs involved in the production process.

 

a. Compute the break-even point in units.

 

b. Find the sales (in units) needed to earn a profit of $16,485.

 

Question 13

 

Eaton Tool Company has fixed costs of $450,000, sells its units for $96, and has variable costs of $51 per unit.

 

a. Compute the break-even point.

 

b. Ms. Eaton comes up with a new plan to cut fixed costs to $350,000. However, more labor will now be required, which will increase variable costs per unit to $54. The sales price will remain at $96. What is the new break-even point? (Round your answer to the nearest whole number.)

 

c. Under the new plan, what is likely to happen to profitability at very high volume levels (compared to the old plan)?

 

Question 14

 

Healthy Foods Inc. sells 60-pound bags of grapes to the military for $15 a bag. The fixed costs of this operation are $90,000, while the variable costs of grapes are $.15 per pound.

 

a. What is the break-even point in bags?

 

b. Calculate the profit or loss (EBIT) on 11,000 bags and on 32,000 bags.

 

c. What is the degree of operating leverage at 19,000 bags and at 32,000 bags? (Round your answers to 2 decimal places.)

 

d. If Healthy Foods has an annual interest expense of $14,000, calculate the degree of financial leverage at both 19,000 and 32,000 bags. (Round your answers to 2 decimal places.)

 

e. What is the degree of combined leverage at both 19,000 and 32,000 bags? (Round your answers to 2 decimal places.)

 

Question 15

 

International Data Systems' information on revenue and costs is relevant only up to a sales volume of 119,000 units. After 119,000 units, the market becomes saturated and the price per unit falls from $6.00 to $4.80. Also, there are cost overruns at a production volume of over 119,000 units, and variable cost per unit goes up from $3.00 to $3.20. Fixed costs remain the same at $69,000.

 

a. Compute operating income at 119,000 units.

 

b. Compute operating income at 219,000 units.

 

Question 16

 

Lenow’s Drug Stores and Hall’s Pharmaceuticals are competitors in the discount drug chain store business. The separate capital structures for Lenow and Hall are presented here.

 

a. Complete the following table given earnings before interest and taxes of $29,000, $67,500, and $73,000. Assume the tax rate is 20 percent. (Negative amounts should be indicated by parentheses or a minus sign. Round your answers to 2 decimal places.)

 

b-1. What is the EBIT/TA rate when the firm's have equal EPS?

 

b-2. What is the cost of debt?

 

b-3. State the relationship between earnings per share and the level of EBIT.

 

c. If the cost of debt went up to 11 percent and all other factors remained equal, what would be the break-even level for EBIT?

 

Question 17

 

Dickinson Company has $11,900,000 million in assets. Currently half of these assets are financed with long-term debt at 9.5 percent and half with common stock having a par value of $8. Ms. Smith, Vice President of Finance, wishes to analyze two refinancing plans, one with more debt (D) and one with more equity (E). The company earns a return on assets before interest and taxes of 9.5 percent. The tax rate is 40 percent. Tax loss carryover provisions apply, so negative tax amounts are permissable.

 

Under Plan D, a $2,975,000 million long-term bond would be sold at an interest rate of 11.5 percent and 371,875 shares of stock would be purchased in the market at $8 per share and retired.

 

Under Plan E, 371,875 shares of stock would be sold at $8 per share and the $2,975,000 in proceeds would be used to reduce long-term debt.

 

a. How would each of these plans affect earnings per share? Consider the current plan and the two new plans. (Round your answers to 2 decimal places.)

 

b-1. Compute the earnings per share if return on assets fell to 4.75 percent. (Negative amounts should be indicated by a minus sign. Round your answers to 2 decimal places.)

 

b-2. Which plan would be most favorable if return on assets fell to 4.75 percent? Consider the current plan and the two new plans.

 

b-3. Compute the earnings per share if return on assets increased to 14.5 percent. (Round your answers to 2 decimal places.)

 

b-4. Which plan would be most favorable if return on assets increased to 14.5 percent? Consider the current plan and the two new plans.

 

c-1. If the market price for common stock rose to $10 before the restructuring, compute the earnings per share. Continue to assume that $2,975,000 million in debt will be used to retire stock in Plan D and $2,975,000 million of new equity will be sold to retire debt in Plan E. Also assume that return on assets is 9.5 percent. (Round your answers to 2 decimal places.)

 

c-2. If the market price for common stock rose to $10 before the restructuring, which plan would then be most attractive?

 

Question 18

 

The Lopez-Portillo Company has $12.3 million in assets, 70 percent financed by debt  and 30 percent financed by common stock. The interest rate on the debt is 8 percent and the par value of the stock is $10 per share. President Lopez-Portillo is considering two financing plans for an expansion to $26.5 million in assets.

 

Under Plan A, the debt-to-total-assets ratio will be maintained, but new debt will cost a whopping 11 percent! Under Plan B, only new common stock at $10 per share will be issued. The tax rate is 35 percent.

 

a. If EBIT is 9 percent on total assets, compute earnings per share (EPS) before the expansion and under the two alternatives. (Round your answers to 2 decimal places.)

 

b. What is the degree of financial leverage under each of the three plans? (Round your answers to 2 decimal places.)

 

c. If stock could be sold at $20 per share due to increased expectations for the firm’s sales and earnings, what impact would this have on earnings per share for the two expansion alternatives? Compute earnings per share for each. (Round your answers to 2 decimal places.)

 

Question 19

 

Delsing Canning Company is considering an expansion of its facilities. Its current income statement is as follows:

 

The company is currently financed with 50 percent debt and 50 percent equity (common stock, par value of $10). In order to expand the facilities, Mr. Delsing estimates a need for $4.2 million in additional financing. His investment banker has laid out three plans for him to consider:

 

Variable costs are expected to stay at 50 percent of sales, while fixed expenses will increase to $2,520,000 per year. Delsing is not sure how much this expansion will add to sales, but he estimates that sales will rise by $2.10 million per year for the next five years.

 

Delsing is interested in a thorough analysis of his expansion plans and methods of financing.He would like you to analyze the following:

 

a. The break-even point for operating expenses before and after expansion (in sales dollars). (Enter your answers in dollars not in millions, i.e, $1,234,567.)

 

b. The degree of operating leverage before and after expansion. Assume sales of $7.2 million before expansion and $8.2 million after expansion. Use the formula: DOL = (S − TVC) / (S − TVC − FC). (Round your answers to 2 decimal places.)

 

c-1. The degree of financial leverage before expansion. (Round your answers to 2 decimal places.)

 

c-2. The degree of financial leverage for all three methods after expansion. Assume sales of $8.2 million for this question. (Round your answers to 2 decimal places.)

 

d. Compute EPS under all three methods of financing the expansion at $8.2 million in sales (first year) and $10.0 million in sales (last year). (Round your answers to 2 decimal places.)