FIN 300 Lecture Notes - Lecture 4: Financial Plan, Planning Horizon, Capital Budgeting

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1 Mar 2016

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Chapter 4- long-term financial planning and corporate growth. Establishes guidelines for change and growth in a firm. Short run, in practice, is ususally the coming 12 months. Planning horizon- financial planning over the logn run, usually the coming 2- Financial plans, all individual projects and investments that the firm undertakes are combined to determine how much investment is needed. Aggregation: combine capital budgeting (all small investment proposals) decisions into one big project. Sales forecast: the sales forecast is the driver, meaning that the user of the planning model supplies this value all other values are calculated based on it. Pro-forma: as a matter of form the financial statements are the forms we used to summarize the different events projected for the future: pro forma statements consist of income and financial position, and a statement of cash flow. Cash surplus or shortfall it is also known as plug .

Related Questions

Question 8

Which of the following is NOT one of the steps taken in the financial planning process?
Answer Forecast the funds that will be generated internally. If internal funds are insufficient to cover the required new investment, then identify sources from which the required external capital can be raised.
Monitor operations after implementing the plan to spot any deviations and then take corrective actions.
Determine the amount of capital that will be needed to support the plan.
Develop a set of forecasted financial statements under alternative versions of the operating plan in order to analyze the effects of different operating procedures on projected profits and financial ratios.
Consult with key competitors about the optimal set of prices to charge, i.e., the prices that will maximize profits for our firm and its competitors.
.2 points
Question 9

Which of the following statements is CORRECT?
Answer Since accounts payable and accrued liabilities must eventually be paid off, as these accounts increase, AFN as calculated by the AFN equation must also increase.
Suppose a firm is operating its fixed assets at below 100% of capacity, but it has no excess current assets. Based on the AFN equation, its AFN will be larger than if it had been operating with excess capacity in both fixed and current assets.
If a firm retains all of its earnings, then it cannot require any additional funds to support sales growth.
Additional funds needed (AFN) are typically raised using a combination of notes payable, long-term debt, and common stock. Such funds are non-spontaneous in the sense that they require explicit financing decisions to obtain them.
If a firm has a positive free cash flow, then it must have either a zero or a negative AFN.
.2 points
Question 10

Spontaneous funds are generally defined as follows:
Answer Assets required per dollar of sales.
A forecasting approach in which the forecasted percentage of sales for each item is held constant.
Funds that a firm must raise externally through short-term or long-term borrowing and/or by selling new common or preferred stock.
Funds that arise out of normal business operations from its suppliers, employees, and the government, and they include immediate increases in accounts payable, accrued wages, and accrued taxes.
The amount of cash raised in a given year minus the amount of cash needed to finance the additional capital expenditures and working capital needed to support the firm

Garnett Jackson, the founder and CEO of Tech Tune-Ups, stared t the window as he finished his customary peanut butter and jelly dwich, contemplating the dilemma currently facing his firm. ech Tune-Ups is a start-up firm, offering a wide range of com- ter services to its clients, including online technical assistance, ote maintenance and backup of client computers through the temet, and virus prevention and recovery. The firm has been 'ghly successful in the 2 years since it was founded; its reputation fair pricing and good service is spreading, and Mr. Jackson lieves the firm is in a good position to expand its customer base idly. But he is not sure that the firm has the financing in place to rt that rapid growth. Tech Tune-Ups' main capital investments are its own powerful mputers, and its major operating expense is salary for its consul- ts. To a reasonably good approximation, both of these factors w in proportion to the number of clients the firm serves. Currently, the firm is a privately held corporation. Mr. Jackson his partners, two classmates from his undergraduate days, have tributed $250,000 in equity capital, largely raised from their nts and other family members. The firm has a line of credit a bank that allows it to borrow up to $400,000 at an interest of 8%. So far, the firm has used $200,000 of its credit line. If when the firm reaches its borrowing limit, it will need to raise ity capital and will probably seek funding from a venture capi- firm. The firm is growing rapidly, requiring continual invest- t in additional computers, and Mr. Jackson is concerned that it approaching its borrowing limit faster than anticipated. 525 Mr. Jackson thumbs through past financial statements and esti- mates that each of the firm's computers, costing $10,000, can sup- port revenues of $80,000 per year but that the salary and benefits paid to each consultant using one of the computers is $70,000. Sales revenue in 2011 was $1.2 million, and sales are expected to grow at a 20% annual rate in the next few years. The firm pays taxes at a rate of 35%. Its customers pay their bills with an average delay of 3 months, so accounts receivable at any time are usually around 25% of that year's sales. Mr. Jackson and his co-owners receive minimal formal salary from the firm, instead taking 70% of profits as a "dividend," which accounts for a substantial portion of their personal incomes. The remainder of the profits are reinvested in the firm. If reinvested profits are not suffi- cient to support new purchases of computers, the firm borrows the required additional funds using its line of credit with the bank. Mr. Jackson doesn't think Tech Tune-Ups can raise venture funding until after 2013. He decides to develop a financial plan to determine whether the firm can sustain its growth plans using its line of credit and reinvested earnings until then. If not, he and his partners will have to consider scaling back their hoped-for rate of growth, negotiate with their bankers to increase the line of credit, or consider taking a smaller share of profits out of the firm until further financing can be arranged. Mr. Jackson wiped the last piece of jelly from the keyboard and settled down to work. Can you help Mr. Jackson develop a financial plan? Do you think his growth plan is feasible? Prepare a 700-1,050 word response, plus Excel spreadsheet, for the Mini-case at the end of Chapter 18 in Fundamentals of Corporate Finance (Brealey). Specifically, the Learning Team will need to follow all assumptions in the Mini-case precisely and carefully to complete the following: a. Identify the steps necessary to financially plan and forecast for 2005, 2006, and 2007, b. Project future years using the growth rate assumptions in the Mini-case, c. Determine what type and amount of financing may be required, taking into account the impact on leverage ratios, d. Determine the impact of rising interest rates on future performance, e. Assess alternative capital structures and impact on debt ratio and return on equity. f. Separately, after completing (a) through (e) above, explain how outsourcing certain cost of goods sold items would impact this planning and budgeting process.

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The goal of the firm is to ____ because _____. Answer maximize shareholders' wealth; it considers all risks invest funds in real estate; the return is longer maximize shareholders' profit; it is a short term outlook closely matching management goals Mike is paying $8,000 a year on his mortgage at 6% nominal annual interest. He has 15 more years to make payments. He wants to sell his house today. The lowest [minimum] price he can sell the house without losing any money on the house would be about ___. Answer $120,000 $ 50,000 $77,698 $ 186,208 A firm's net income before tax, EBT [NIBT] (on the income statement) is affected by _____. Answer taxes interest dividends Common Stock as listed on the Balance Sheet could include which of the following? Answer A) retained earnings B) additional paid in capital over par value C) preferred capital Both A) and B) If an asset is sold for ___ than its basis, the tax effect would be ____. Answer A) more; capital gain and depreciation recapture B) less; depreciation recapture C) more; capital loss Both A) and B) The main reason for a firm to have assets is to _______. Answer generate revenue match the liabilities and equity both of the above be able to borrow money and pay its debts none of the above The only risk you would NOT have in loaning money to the United States Government (Uncle Sugar) is _____ risk. Answer liquidity maturity default A(n) ____ shows _____. Answer balance sheet; sources and uses of funds income statement; net income as of a specific date cash flow statement; how well the firm is doing relative to its competition You can compare dollars _____ because ______. Answer computed using equations; any math is always correct at any point in time; time is never a factor if they are at nominal value; that is when decisions are made only at the same point in time; dollars can be invested to earn interest There ___ a tax benefit to the company with paying preferred dividends because _______. Answer is; investors can write them off is not; investors declare them as income is; the company can use the payments as an expense is not; the company cannot use the payments as an expense XYZ issued a 6% coupon, $1,000 par, 30 year to maturity bond. It is now 6 years to maturity. What is the price of the bond if the yield to maturity [market interest rate] is 10%? Answer $1,000 $659.46 $825.79 $705.33 The valuation process can be described as ______. Answer calculating the present value of an expected future cash flow using the investor's required rate of return as the discount rate calculating the future value of an expected future cash flow using the investor's required rate of return as the discount rate amortizing the value of the asset over its holding period The ______ is the minimum required rate of return a firm must earn on its investments. Answer net present value opportunity cost of capital or weighted average cost of capital. internal rate of return gross profit margin The value of an asset is the _____ dollar price someone is willing to pay for it. Answer usual maximum minimum Companies use ____ in capital budgeting project analysis because ________. Answer accounting profit; that is the total net income after tax cash flow; that is what the owners would receive from the project and reinvest accounting profit; that is what the owners would receive from the project and reinvest after tax cash flow; that is the result of prudent accounting When borrowing money, you want to know the ____ interest rate because ____. Answer nominal; it is the easiest to find. effective; it is the true cost of borrowing risk free; that is what the government pays Fed funds; that is what you would pay the bank Cash available to pay out to the investors after the firm pays for new investments or additions to working capital is _____. Answer a statement of cash flows operating after tax cash flow free cash flow net income An organization that raises money from investors and provides financing for individuals and businesses is a ___. Answer factor federal government regulatory unit state government taxing authority financial intermediary Negatives/cons of the Net Present Value (NPV) technique include: Answer least conservative reinvestment assumption multiple rates of return for non-conventional cash flows all of the above none of the above A fixed exchange rate means a country _____. Answer can only use gold coins as money is limited in the amount of paper money it can print can print money as the economy demands Your company is considering an investment with the following expected cash flows: Initial Investment = $407,596 Operating Cash Flows = $73,428 per year Terminal Cash Flow = $11,872. The company's WACC is 11% for similar risk projects. The proposed project would have an expected life of 9 years. Your boss asks you to do the analysis. You would tell your boss this proposed project ___ because ____. Answer is acceptable; NPV is about $3,620 is acceptable; NPV is zero should be rejected; NPV is about -$5,660 [negative $5,660]. should be rejected; NPV is zero All ratios are ___ and a reason to analyze ratios is ____. Answer good; to continue to look productive good and bad; because seemingly good ratios can be masking something bad bad; to try to rework the numbers to have them look good basically irrelevant; there really is no need to analyze financial statements When analyzing financial statements, ratio analysis gives ____ and provides insight into ____. Answer very little useful information; practically nothing good practice in logical thinking; what has occurred and the logic behind it financiers something to do during slow periods; how the financier spends his time accountants a reason to provide financial statements; why accountants do what they do while at work Given: Economic State[i]: Good Average Expected Return[i]: 10% 8% Probability[i]: 30% 70% What is the Standard Deviation? Answer 3% 8.4% 0.92% 5.6% Chapter 9: XYZ has a projected project to install a new press. The expected cash revenue is $175,000 per year. Expected yearly expenses are: Operatinf costs of $50,000; Rental of $17,000; Utilities of $20,500; and Depreciation of $10,000. The tax rate is 35%. What is the expected After-Tax Operating Cash Flow for the first year? Answer $65,500 $60,375 $77,500 $97,500 A stock just paid a dividend of $1.60 per year. The dividend is expected to grow at 3% per year indefinately. Equally risky stocks offer expected rates of return of 8%. What should be the stock price? Answer 53.33 $16.00 $32.96 None of the above. A plot of the CAPM is the _____. Answer wrong thing to do Security Market Line a function showing how to calculate TVM All of the above. Derivatives are used to ___. Answer divide one number by another find old ways to do things hedge risk none of the above With the end of the Gold Standard in the 1970's, what new risk did business face in the international market? Answer Comjpetition Exchange rate Worker compensation Property taxes One of the positive aspects [pros] of a Floating Exchange Rate System is ____. Answer money can be printed as needed to support financial/economic growth no/reduced inflation economic growth is reduced as a result of reduced liquidity [lower money supply] business planning is more difficult A(n) ____ contract obligates the seller to execute the contract and the contract is executed. Answer backwards forward future option What policies did countries institute after the Great War that help lead to the Great Depression? Answer A. Mandatory military service B. Trade restrictions C. High tariffs D. Isolationism Only B., C. and D. All of the above

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FIN 300 Lecture Notes - Lecture 4: Financial Plan, Planning Horizon, Capital Budgeting

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