BUSI-320 Corporate Finance-2013 Fall-B Assignment 2

Philip Morris is excited because sales for his clothing company are expected to double from $650,000 to $1,300,000 next year. Philip notes that net assets (Assets – Liabilities) will remain at 50 percent of Sales. His clothing firm will enjoy a 12 percent return on total sales. He will start the year with $250,000 in the bank and is already bragging about the two Mercedes he will buy and the European vacation he will take.

(a)

Compute his likely cash balance or deficit for the end of the year. Start with beginning cash and subtract the asset buildup (equal to 50 percent of the sales increase) and add in profit. (Negative amount should be indicated by a minus sign. Omit the “$” sign in your response.)

  Ending cash balance

$ [removed] 

(b)

Does his optimistic outlook for his cash position appear to be correct?

Galehouse Gas Stations, Inc., expects sales to increase from $1,710,000 to $1,910,000 next year. Mr. Galehouse believes that net assets (Assets – Liabilities) will represent 45 percent of sales. His firm has a 8 percent return on sales and pays 20 percent of profits out as dividends.

    The cash balance will change by $ [removed].

If the dividend payout is only 15 percent, what effect will this growth have on funds? (Omit the “$” sign in your response.)

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.

Outcome

Probability

Units

Price

.30     

260     

27  

.50     

440     

42  

.20     

650     

52  

What is the expected value of the total sales projection? (Omit the “$” sign in your response.)

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? (Omit the “$” sign in your response.)

  Net sales

Sales for Western Boot Stores are expected to be 49,000 units for October. The company likes to maintain 25 percent of unit sales for each month in ending inventory (i.e., the end of October). Beginning inventory for October is 13,000 units.

How many units should Western Boot produce for the coming month?

  Units to be produced

On December 31 of last year, Wolfson Corporation had in inventory 560 units of its product, which cost $18 per unit to produce. During January, the company produced 960 units at a cost of $21 per unit.

Assuming that Wolfson Corporation sold 1,020 units in January, what was the cost of goods sold (assume FIFO inventory accounting)? (Omit the “$” sign in your response.)

  Cost of goods sold

$ [removed]  

At the end of January, Mineral Labs had an inventory of 925 units, which cost $9 per unit to produce. During February the company produced 1,650 units at a cost of $13 per unit.

If the firm sold 2,350 units in February, what was the cost of goods sold? (Assume LIFO inventory accounting.) (Omit the “$” sign in your response.)

If the firm sold 2,350 units in February, what was the cost of goods sold? (Assume FIFO inventory accounting.) (Omit the “$” sign in your response.)

The Bradley Corporation produces a product with the following costs as of July 1, 2011:

  Material

4 per unit  

  Labor

2 per unit  

  Overhead

      Beginning inventory at these costs on July 1 was 3,650 units. From July 1 to December 1, 2011, Bradley produced 13,300 units. These units had a material cost of $2, labor of $4, and overhead of $2 per unit. Bradley uses FIFO inventory accounting.

Assuming that Bradley sold 14,300 units during the last six months of the year at $13 each, what would gross profit be? (Omit the “$” sign in your response.)

  Gross profit

What is the value of ending inventory? (Omit the “$” sign in your response.)

  Ending inventory

$ 4 per unit  

      Beginning inventory at these costs on July 1 was 3,750 units. From July 1 to December 1, 2011, Bradley produced 13,500 units. These units had a material cost of $4, labor of $6, and overhead of $3 per unit. Bradley uses LIFO inventory accounting.

Assuming that Bradley sold 16,000 units during the last six months of the year at $18 each, what would gross profit be? (Omit the “$” sign in your response.)

Watt’s Lighting Stores made the following sales projections for the next six months. All sales are credit sales.

  March

48,000  

    June

$ 52,000  

  April

54,000  

    July

60,000  

  May

43,000  

    August

62,000  

Sales in January and February were $51,000 and $50,000, respectively.       Experience has shown that of total sales, 10 percent are uncollectible, 35 percent are collected in the month of sale, 45 percent are collected in the following month, and 10 percent are collected two months after sale.

Prepare a monthly cash receipts schedule for the firm for March through August. (Omit the “$” sign in your response.)

Of the sales expected to be made during the six months from March through August, how much will still be uncollected at the end of August? How much of this is expected to be collected later? (Omit the “$” sign in your response.)

Amount

  Uncollected

  Expected to be collected

Philip Morris is excited because sales for his clothing company are expected to double from

$

650,000 to $1,300,000 next year. Philip notes that net assets (

A

ssets – Liabilities) will remain at 50 percent of Sales. His clothing firm will enjoy a 12 percent return on total sales. He will start the year with $250,000 in the bank and is already bragging about the two Mercedes he will buy and the European vacation he will take.

(a)

Compute his likely cash balance or deficit for the end of the year. Start with beginning cash and subtract the asset buildup (equal to 50 percent of the sales increase) and add in profit. (Negative amount should be indicated by a minus sign. Omit the “$” sign in your response.)

(b)

Does his optimistic outlook for his cash position appear to be correct?

Galehouse Gas Stations, Inc., expects sales to increase from $1,710,000 to $1,910,000 next year. Mr. Galehouse believes that net assets (Assets – Liabilities) will represent 45 percent of sales. His firm has a 8 percent return on sales and pays 20 percent of profits out as dividends.

What effect will this growth have on funds? (Negative amount should be indicated by a minus sign. Omit the “$” sign in your response.)

    The cash balance will change by $ .

If the dividend payout is only 15 percent, what effect will this growth have on funds? (Omit the “$” sign in your response.)

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.

Outcome

Probability

Units

Price

.30     

26

0   

27  

.50     

440     

42  

.20     

650     

52  

What is the expected value of the total sales projection? (Omit the “$” sign in your response.)

  Total expected value

$  

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? (Omit the “$” sign in your response.)

  Net sales

Sales for Western Boot Stores are expected to be 49,000 units for October. The company likes to maintain 25 percent of unit sales for each month in ending inventory (i.e., the end of October). Beginning inventory for October is 13,000 units.

How many units should Western Boot produce for the coming month?

  Units to be produced

On December 31 of last year, Wolfson Corporation had in inventory 560 units of its product, which cost $18 per unit to produce. During

January

, the company produced 960 units at a cost of $21 per unit.

Assuming that Wolfson Corporation sold 1,020 units in January, what was the cost of goods sold (assume FIFO inventory accounting)? (Omit the “$” sign in your response.)

  Cost of goods sold

$   

At the end of January, Mineral Labs had an inventory of 925 units, which cost $9 per unit to produce. During

February

the company produced 1,650 units at a cost of $13 per unit.

If the firm sold 2,350 units in February, what was the cost of goods sold? (Assume LIFO inventory accounting.) (Omit the “$” sign in your response.)

If the firm sold 2,350 units in February, what was the cost of goods sold? (Assume FIFO inventory accounting.) (Omit the “$” sign in your response.)

The Bradley Corporation produces a product with the following costs as of

July

1, 2011:

  Material

$

4 per unit  

  Labor

2 per unit  

  Overhead

Assuming that Bradley sold 14,300 units during the last six months of the year at $13 each, what would gross profit be? (Omit the “$” sign in your response.)

  Gross profit

What is the value of ending inventory? (Omit the “$” sign in your response.)

  Ending inventory

$ 4 per unit  

      Beginning inventory at these costs on July 1 was 3,750 units. From July 1 to December 1, 2011, Bradley produced 13,500 units. These units had a material cost of $4, labor of $6, and overhead of $3 per unit. Bradley uses LIFO inventory accounting.

Assuming that Bradley sold 16,000 units during the last six months of the year at $18 each, what would gross profit be? (Omit the “$” sign in your response.)

Watt’s Lighting Stores made the following sales projections for the next six months. All sales are credit sales.

March

48,000  

June

$ 52,000  

  April

54,000  

    July

60,000  

May

4

3,000  

    August

62,000  

Sales in January and February were $51,000 and $50,000, respectively.
      Experience has shown that of total sales, 10 percent are uncollectible, 35 percent are collected in the month of sale, 45 percent are collected in the following month, and 10 percent are collected two months after sale.

Prepare a monthly cash receipts schedule for the firm for March through August. (Omit the “$” sign in your response.)

Of the sales expected to be made during the six months from March through August, how much will still be uncollected at the end of August? How much of this is expected to be collected later? (Omit the “$” sign in your response.)

Amount

  Uncollected

  Expected to be collected

The Volt Battery Company has forecast its sales in units as follows:

  January

2,600

3,150  

  February

2,450

3,300  

2,400

2,900

Volt Battery always keeps an ending inventory equal to 120% of the next month’s expected sales. The ending inventory for December (January’s beginning inventory) is 3,120 units, which is consistent with this policy.

      Materials cost $15 per unit and are paid for in the month after purchase. Labor cost is $8 per unit and is paid in the month the cost is incurred. Overhead costs are $15,000 per month. Interest of $9,800 is scheduled to be paid in March, and employee bonuses of $15,000 will be paid in June.

Prepare a monthly production schedule for January through June.

Prepare a monthly summary of cash payments for January through June. Volt  produced 2,400 units in December. (Omit the “$” sign in your response.)

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:

Actual

Forecast

Additional Information

  November

$ 380,000

$ 640,000

April forecast

$

520,000  

  December

580,000

680,000

530,000

Of the firm’s sales, 50 percent are for cash and the remaining 50 percent are on credit. Of credit sales, 20 percent are paid in the month after sale and 80 percent are paid in the second month after the sale. Materials cost 20 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 $37,000 in cash per month.

     Depreciation expense is $11,800 per month. Taxes of $9,800 will be paid in January, and dividends of $11,000 will be paid in March. Cash at the beginning of January is $116,000, and the minimum desired cash balance is $111,000.

Prepare a schedule of monthly cash receipts for January, February and March. (Omit the “$” sign in your response.)

Prepare a schedule of  monthly cash payments for January, February and March. (Omit the “$” sign in your response.)

(c)

Prepare a schedule of monthly cash budget with borrowings and repayments for January, February and March. (Leave no cells blank – be certain to enter “0” wherever required. Negative amounts should be indicated by a minus sign. Omit the “$” sign in your response.)

The Manning Company has financial statements as shown below, 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.

Income Statement

  Sales

220,000  

  Expenses

171,200  

  Earnings before interest and taxes

48,800  

  Interest

8,300  

  Earnings before taxes

40,500  

  Taxes

16,300  

  Earnings after taxes

24,200  

  Dividends

7,260  

Balance Sheet

Assets

Liabilities and Stockholders’ Equity

  Cash

8,000  

  Accounts payable

23,400  

  Accounts receivable

33,000  

  Accrued wages

1,850  

  Inventory

69,000  

  Accrued taxes

3,350  

  Current

assets

110,000  

    Current liabilities

28,600  

  Fixed assets

93,000  

  Notes payable

  Long-term debt

21,500  

  Common stock

117,000  

  Retained earnings

27,600  

  Total assets

203,000  

  Total liabilities and
    stockholders’ equity

Using the percent-of-sales method, determine the amount of external financing needs, or a surplus of funds required by the company. (Hint: A profit margin and payout ratio must be found from the income statement.) (Do not round intermediate calculations. Input the amount as positive value. Omit the “$” sign in your response.)

  The firm needs $  in external funds.

The Hartnett Corporation manufactures baseball bats with Pudge Rodriguez’s autograph stamped on them. Each bat sells for $25 and has a variable cost of $14. There are $25,850 in fixed costs involved in the production process.

Compute the break-even point in units. (Round your answer to the nearest whole number.)

Break-even point

 units  

Find the sales (in units) needed to earn a profit of $20,130.

Eaton Tool Company has fixed costs of $407,400, sells its units for $90, and has variable costs of $48 per unit.

Compute the break-even point.

Ms. Eaton comes up with a new plan to cut fixed costs to $320,000. However, more labor will now be required, which will increase variable costs per unit to $51. The sales price will remain at $90. What is the new break-even point? (Round your answer to the nearest whole number.)

  New break-even point

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

Air Purifier, Inc., computes its break-even point strictly on the basis of cash expenditures related to fixed costs. Its total fixed costs are $2,570,000, but 15 percent of this value is represented by depreciation. Its contribution margin (price minus variable cost) for each unit is $64. How many units does the firm need to sell to reach the cash break-even point? (Round your answer to the nearest whole number.)

  Cash break-even point

Boise Timber co. computes its break-even point strictly on the basis of cash expenditures related to fixed costs. Its total fixed costs are $8,500,000, but 10 percent of this value is represented by depreciation. Its contribution margin (price minus variable cost) for each unit is $29. How many units does the firm need to sell to reach the cash break-even point? (Round your answer to the nearest whole number.)

The Harding Company manufactures skates. The company’s income statement for 2010 is as follows:

Compute the degree of operating leverage. (Enter only numeric value rounded to 2 decimal places.)

   Degree of operating leverage

Compute the degree of financial leverage. (Enter only numeric value rounded to 2 decimal places.)

  Degree of financial leverage

Compute the degree of combined leverage. (Enter only numeric value rounded to 2 decimal places.)

  Degree of combined leverage

(d)

Compute the break-even point in units (number of skates). (Round your answer to the nearest whole number.)

Mo & Chris’s Delicious Burgers, Inc., sells food to Military Cafeterias for $21 a box. The fixed costs of this operation are $104,000, while the variable cost per box is $13.

What is the break-even point in boxes?

Calculate the profit or loss on 12,000 boxes and on 27,000 boxes. (Input all amounts as positive values. Omit the “$” sign in your response.)

Boxes

Profit/Loss

12,000     

27,000     

What is the degree of operating leverage at 17,000 boxes and at 27,000 boxes? (Enter only numeric value rounded to 2 decimal places.)

Degree of
operating leverage

17,000       

27,000       

If the firm has an annual interest expense of $10,300, calculate the degree of financial leverage at both 17,000 and 27,000 boxes.(Enter only numeric value rounded to 2 decimal places.)

Degree of
financial leverage

27,000       

(e)

What is the degree of combined leverage at both sales levels? (Enter only numeric value rounded to 2 decimal places.)

Degree of
combined leverage

International Data Systems information on revenue and costs is only relevant 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.

Compute operating income at 119,000 units. (Omit the “$” sign in your response.)

  Operating income

 $  

Compute operating income at 219,000 units. (Omit the “$” sign in your response.)

Cain

Auto Supplies and

Able

Auto Parts are competitors in the aftermarket for auto supplies. The separate capital structures for Cain and Able are presented below.

Debt @ 9%

440,000  

Common stock, $10 par

   Total

660,000  

Common shares

44,000  

22,000  

Compute earnings per share if earnings before interest and taxes are $44,000, $59,400, and $67,000 (assume a 20 percent tax rate). (Round your answers to 2 decimal places. Leave no cells blank – be certain to enter “0” wherever required. Omit the “$” sign in your response.)

  Earnings per share

at $44,000

  Earnings per share at $59,400

  Earnings per share at $67,000

What is the relationship between earnings per share and the level of EBIT?

  1. Before tax return on assets is less than cost of Debt

  2. Before tax return on assets equals cost of Debt

  3. Before tax return on assets is greater than cost of Debt

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? (Omit the “$” sign in your response.)

  Break-even level

Sterling

Optical and

Royal

Optical both make glass frames and each is able to generate earnings before interest and taxes of $180,000.  
   The separate capital structures for Sterling and Royal are shown below:

  Debt @ 12%

900,000  

300,000  

  Common stock, $5 par

600,000  

1,200,000  

    Total

1,500,000  

 120,000  

240,000  

Compute earnings per share for both firms. Assume a 20 percent tax rate. (Round your answers to 2 decimal places. Omit the “$” sign in your response.) 

  Sterling

  Royal

In part a, you should have gotten the same answer for both companies’ earnings per share. Assuming a P/E ratio of 21 for each company, what would its stock price be? (Use rounded Earnings per share.Round your answer to 2 decimal places. Omit the “$” sign in your response.)

 Stock price

Now as part of your analysis, assume the P/E ratio would be 15 for the riskier company in terms of heavy debt utilization in the capital structure and 20 for the less risky company. What would the stock prices for the two firms be under these assumptions? (Note: Although interest rates also would likely be different based on risk, we will hold them constant for ease of analysis.) (Use rounded Earnings per share. Round your answers to 2 decimal places. Omit the “$” sign in your response.)   

Sinclair

Manufacturing and

Boswell

Brothers Inc. are both involved in the production of brick for the homebuilding industry. Their financial information is as follows:

Capital Structure

  Debt @ 11%

1,980,000   

  Common stock, $10 per share

1,320,000   

3,300,000  

132,000   

330,000   

  Operating Plan

  Sales (73,000 units at $20 each)

1,460,000   

    Less: Variable costs

1,168,000   

730,000   

($

16 per unit)  

10 per unit)  

323,000   

292,000   

407,000   

If you combine Sinclair’s capital structure with Boswell’s operating plan, what is the degree of combined leverage? (Enter only numeric value rounded to 2 decimal places.) 

If you combine Boswell’s capital structure with Sinclair’s operating plan, what is the degree of combined leverage? (Enter only numeric value.)

In part b, if sales double, by what percentage will EPS increase? (Omit the “%” sign in your response.)

  EPS will increase by

Dickinson Company has $11,980,000 in assets. Currently half of these assets are financed with long-term debt at 9.9 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 9.9 percent. The tax rate is 40 percent.

     Under

Plan D

, a $2,995,000 long-term bond would be sold at an interest rate of 11.9 percent and 374,375 shares of stock would be purchased in the market at $8 per share and retired.

     Under

Plan E

, 374,375 shares of stock would be sold at $8 per share and the $2,995,000 in proceeds would be used to reduce long-term debt.

(a)  

Compute the earnings per share for the current plan and the two new plans. (Round your answers to 2 decimal places. Omit the “$” sign in your response.)

Current Plan

(b-1)

Compute the earnings per share if return on assets fell to 4.95 percent. (Round your answers to 2 decimal places. Leave no cells blank – be certain to enter “0” wherever required. Negative amounts should be indicated by a minus sign. Omit the “$” sign in your response.)

(b-2)

Which plan would be most favorable if return on assets fell to 4.95 percent? Consider the current plan and the two new plans.

(b-3)

Compute the earnings per share if return on assets increased to 14.9 percent. (Round your answers to 2 decimal places. Omit the “$” sign in your response.)

(b-4)

Which plan would be most favorable if return on assets increased to 14.9 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 $2,995,000 in debt will be used to retire stock in Plan D and $2,995,000 of new equity will be sold to retire debt in Plan E. Also assume that return on assets is 9.9 percent. (Round your answers to 2 decimal places. Omit the “$” sign in your response.)

(c-2)

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

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.

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. Omit the “$” sign in your response.)

  Plan A

  Plan B

What is the degree of financial leverage under each of the three plans? (Enter only numeric values rounded to 2 decimal places.)

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

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

6,600,000  

    Less: Variable expense (50% of sales)

             Fixed expense

1,960,000  

1,340,000  

  Interest (10% cost)

820,000  

  Tax (35%)

287,000  

533,000  

  Shares of common stock

360,000  

1.48  

    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 $3.6 million in additional financing. His investment banker has laid out three plans for him to consider:

1.Sell $3.6 million of debt at 12 percent.

2.Sell $3.6 million of common stock at $30 per share.

3.Sell $1.80 million of debt at 11 percent and $1.80 million of common stock at $40 per share.

Variable costs are expected to stay at 50 percent of sales, while fixed expenses will increase to $2,460,000 per year. Delsing is not sure how much this expansion will add to sales, but he estimates that sales will rise by $1.80 million per year for the next five years.
    Delsing is interested in a thorough analysis of his expansion plans and methods of financing.

The break-even point for operating expenses before and after expansion. (Enter your answers in dollars not in millions. Omit the “$” sign in your response.)

  Before expansion

 $   

  After expansion

The degree of operating leverage before and after expansion. Assume sales of $6.6 million before expansion and $7.6 million after expansion. (Enter only numeric values rounded to 2 decimal places.)

   Degree of
operating leverage

The degree of financial leverage before expansion. (Enter only numeric value rounded to 2 decimal places.)

The degree of financial leverage for all three methods after expansion. Assume sales of $7.6 million for this question. (Round your answers to 2 decimal places.)

  100% Debt

  100% Equity

  50% Debt & 50% Equity

Compute EPS under all three methods of financing the expansion at $7.6 million in sales (first year) and $10.5 million in sales (last year). (Round your answers to 2 decimal places. Omit the “$” sign in your response.)

First year

Last year