Download when the firm does not issue equity

What Determines Growth?
• Firms frequently make growth forecasts on explicit part
of financial planning.
• On the other hand, the focus of this course has been on
shareholder wealth maximization, often expressed
through the NPV criterion.
• One way to reconcile the two is to think of growth as an
intermediate goal that leads to higher value.
• Alternatively, if the firm is willing to accept negative NPV
projects just to grow in size, the shareholders (but not
necessarily the mangers) will be worse off.
What Determines Growth?
• There is a linkage between the ability of a firm to
grow and its financial policy when the firm does
not issue equity.
• The Sustainable Growth Rate in Sales is given by:
D
p  (1  d )  (1  )
S
E

S 0 T  ( p  (1  d )  (1  D )
E
The Sustainable
Growth Rate in Sales
D
p  (1  d )  (1  )
S
E

S 0 T  ( p  (1  d )  (1  D )
E
T = ratio of total assets to sales
p = net profit margin on sales
d = dividend payout ratio
• A good use of the sustainable growth rate is to compare
a firm’s sustainable growth rate with their actual growth
rate to determine if there is a balance between growth
and profitability.
Uses of the Sustainable Growth Rate
• A commercial lender would want to compare
a potential borrower’s actual growth rate with
their sustainable growth rate.
• If the actual growth rate is much higher than
the sustainable growth rate, the borrower
runs the risk of “growing broke” and any
lending must be viewed as a down payment
on a much more comprehensive lending
arrangement than just one round of financing.
Increasing the Sustainable
Growth Rate
• A firm can do several things to increase its
sustainable growth rate:
– Sell new shares of stock
– Increase its reliance on debt
– Reduce its dividend-payout ratio
– Increase profit margins
– Decrease its asset-requirement ratio
Cash Receipts Budget
All sales are on account.
Basket’s collection pattern is:
70 percent collected in month of sale
25 percent collected in month after sale
5 percent will be uncollectible
Accounts receivable on March 31 is
$30,000, all of which is collectible.
Cash Receipts Budget
Budgeted unit sales
Price per unit
Budgeted sales revenue
Receipts from March sales
Receipts from April sales
Receipts from May sales
Receipts from June sales
Total cash receipts
April
20,000
$
10
$ 200,000
$ 30,000
May
50,000
$
10
$ 500,000
June
30,000
$
10
$ 300,000
Cash Receipts Budget
Budgeted unit sales
Price per unit
Budgeted sales revenue
Receipts from March sales
Receipts from April sales
Receipts from May sales
Receipts from June sales
Total cash receipts
April
20,000
$
10
$ 200,000
May
50,000
$
10
$ 500,000
$ 30,000
140,000
$ 50,000
June
30,000
$
10
$ 300,000
$ 170,000
April: .70 × $200,000 = $140,000 and .25 × $200,000 = $50,000
Cash Receipts Budget
Budgeted unit sales
Price per unit
Budgeted sales revenue
Receipts from March sales
Receipts from April sales
Receipts from May sales
Receipts from June sales
Total cash receipts
April
20,000
$
10
$ 200,000
$ 30,000
140,000
$ 170,000
May
50,000
$
10
$ 500,000
June
30,000
$
10
$ 300,000
$ 50,000
350,000
$ 125,000
$ 400,000
April: .70 × $200,000 = $140,000 and .25 × $200,000 = $50,000
May: .70 × $500,000 = $350,000 and .25 × $500,000 = $125,000
Cash Receipts Budget
Budgeted unit sales
Price per unit
Budgeted sales revenue
Receipts from March sales
Receipts from April sales
Receipts from May sales
Receipts from June sales
Total cash receipts
April
20,000
$
10
$ 200,000
$ 30,000
140,000
$ 170,000
May
50,000
$
10
$ 500,000
$ 50,000
350,000
$ 400,000
June
30,000
$
10
$ 300,000
$ 125,000
210,000
$ 335,000
April: .70 × $200,000 = $140,000 and .25 × $200,000 = $50,000
May: .70 × $500,000 = $350,000 and .25 × $500,000 = $125,000
June: .70 × $300,000 = $210,000
Comprehensive Cash Budget
Additional Information
Basket Company:







Has a $100,000 line of credit at its bank, with a zero balance on April 1.
Maintains a $30,000 minimum cash balance.
Borrows at the beginning of a month and repays at the end of a month.
Pays interest at 16 percent when a principal payment is made.
Pays a $51,000 cash dividend in April.
Purchases equipment costing $143,700 in May and $48,800 in June.
Has a $40,000 cash balance on April 1.
Comprehensive Cash Budget
Beginning cash balance
Cash receipts
Cash available
Cash payments:
Materials budget
Labor budget
Manufacturing OH budget
S&A expense budget
Equipment purchases
Dividends
Total cash payments
Balance before financing
Borrowing
Principal repayment
Interest
Ending cash balance
April
$ 40,000
May
June
Comprehensive Cash Budget
Beginning cash balance
Cash receipts
Cash available
Cash payments:
Materials budget
Labor budget
Manufacturing OH budget
S&A expense budget
Equipment purchases
Dividends
Total cash payments
Balance before financing
Borrowing
Principal repayment
Interest
Ending cash balance
April
$ 40,000
170,000
$ 210,000
May
400,000
June
335,000
Comprehensive Cash Budget
Beginning cash balance
Cash receipts
Cash available
April
$ 40,000
170,000
$ 210,000
Cash payments:
Materials budget
Labor budget
Manufacturing OH budget
S&A expense budget
Equipment purchases
Dividends
Total cash payments
$ 40,000
13,000
56,000
70,000
0
51,000
$ 230,000
Balance before financing
$ (20,000)
Borrowing
Principal repayment
Interest
Ending cash balance
May
June
400,000
335,000
$ 72,300
23,000
76,000
85,000
143,700
0
$ 400,000
$ 72,700
14,500
59,000
75,000
48,800
0
$ 270,000
Comprehensive Cash Budget
Beginning cash balance
Cash receipts
Cash available
April
$ 40,000
170,000
$ 210,000
May
$ 30,000
400,000
$ 430,000
Cash payments:
Materials budget
Labor budget
Manufacturing OH budget
S&A expense budget
Equipment purchases
Dividends
Total cash payments
$ 40,000
13,000
56,000
70,000
0
51,000
$ 230,000
$ 72,300
23,000
76,000
85,000
143,700
0
$ 400,000
Balance before financing
$ (20,000)
$ 30,000
Borrowing
Principal repayment
Interest
Ending cash balance
50,000
0
0
$ 30,000
June
335,000
$ 72,700
14,500
59,000
75,000
48,800
0
$ 270,000
Comprehensive Cash Budget
Beginning cash balance
Cash receipts
Cash available
April
$ 40,000
170,000
$ 210,000
May
$ 30,000
400,000
$ 430,000
June
$ 30,000
335,000
$ 365,000
Cash payments:
Materials budget
Labor budget
Manufacturing OH budget
S&A expense budget
Equipment purchases
Dividends
Total cash payments
$ 40,000
13,000
56,000
70,000
0
51,000
$ 230,000
$ 72,300
23,000
76,000
85,000
143,700
0
$ 400,000
$ 72,700
14,500
59,000
75,000
48,800
0
$ 270,000
Balance before financing
$ (20,000)
$ 30,000
$ 95,000
Borrowing
Principal repayment
Interest
Ending cash balance
50,000
0
0
$ 30,000
0
0
0
$ 30,000
Comprehensive Cash Budget
Beginning cash balance
Cash receipts
Cash available
April
$ 40,000
170,000
$ 210,000
May
$ 30,000
400,000
$ 430,000
June
$ 30,000
335,000
$ 365,000
Cash payments:
Materials budget
Labor budget
Manufacturing OH budget
S&A expense budget
Equipment purchases
Dividends
Total cash payments
$ 40,000
13,000
56,000
70,000
0
51,000
$ 230,000
$ 72,300
23,000
76,000
85,000
143,700
0
$ 400,000
$ 72,700
14,500
59,000
75,000
48,800
0
$ 270,000
Balance before financing
$ (20,000)
$ 30,000
$ 95,000
Borrowing
Principal repayment
Interest
Ending cash balance
50,000
0
0
0
$50,000 × .16 × 3/12
0 = $2,000 0
$ 30,000
$ 30,000
0
(50,000)
(2,000)
$ 43,000