Exam 9: Forecasting

a firm's sales grow, its current assets also tend to increase For instance, as sales increase, the firm's inventories generally increase, and purchases of inventories result in more accounts payable Thus, spontaneous liabilities that reduce AFN arise from transactions brought on by sales increases.

a firm with a positive net worth is operating its fixed assets at full capacity, if its dividend payout ratio is 100%, and if it wants to hold all financial ratios constant, then for any positive growth rate in sales, it will require external financing.

mission statement is a statement of the firm's overall purpose.

Firms with high capital intensity ratios have found ways to lower this ratio permitting them to achieve a given level of growth with fewer assets and consequently less external capital For example, just-in-time inventory systems, multiple shifts for labor, and outsourcing production are all feasible ways for firms to reduce their capital intensity ratios.

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.

Errors in the sales forecast can be offset by similar errors in costs and income forecasts Thus, as long as the errors are not large, sales forecast accuracy is not critical to the well being of the firm.

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.

a firm has defined its purpose, scope, and objectives, it must develop a strategy for achieving its goals Corporate strategies are detailed plans rather than broad approaches.

Which of the following statements is CORRECT?

Weber Interstate Paving Cohad $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?

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?

Which of the following statements is CORRECT?

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.

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.

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.

capital intensity ratio is generally defined as follows:

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?

firm will use spontaneous funds to the extent possible; however, due to credit terms, contracts with workers, and tax laws there is little flexibility in their usage.

North Construction had $850 million of sales last year, and it had $425 million of fixed assets that were used at only 60% of capacity What is the maximum sales growth rate North could achieve before it had to increase its fixed assets?

first, and most critical, step in constructing a set of forecasted financial statements is the sales forecast.