Exam 8: Financial Planning and Control

The degree of financial leverage (DFL)is an index number that measures the effect of a change in sales on the financial breakeven point.

A typical sales forecast,though concerned with future events,will usually be based on recent historical trends and events as well as on forecasts of economic prospects.

Compuvac Company has just completed its first pass forecast using the projected balance sheet method.The firm has determined that it needs $4 million in new debt which can be sold at par with a 10% annual coupon.Additionally,the firm will sell 500,000 shares of new common equity at $18.10 per share.Next year's expected dividend is $0.48 per share.The firm expects that taxes will be $160,000 less under the second pass than they were under the first pass based on a 40% tax rate.Given this information,what is the incremental change in AFN for Compuvac going from the first pass to the second pass?

Other things held constant,a high degree of total leverage will mean that a relatively small change in sales will result in a large change in EPS.

What is the next step in the financial planning process after a firm develops a sales forecast?

Hogan Inc.generated EBIT of $240,000 this past year using assets of $1,100,000.The interest rate on its existing long-term debt of $640,000 is 12.5 percent and the firm's tax rate is 40 percent.The firm paid a dividend of $1.27 on each of its 37,800 shares outstanding from net income of $96,000.The total book value of equity is $446,364 of which the common stock account equals $335,000.The firm's shares sell for $28.00 per share in the market.The firm forecasts a 10% increase in sales,assets,and EBIT next year,and a dividend of $1.40 per share.If the firm needs additional capital funds,it will raise 60% with debt and 40% with equity.The cost of any new debt will be 13%.Spontaneous liabilities are estimated at $15,000 for next year,representing an increase of 10% over this year.Except for spontaneous liabilities,the firm uses no other sources of current liabilities and will continue this policy in the future.What will be the cumulative AFN Hogan will need to balance its projected balance sheet using the projected balance sheet method through the first two passes?

You have been given the information below on the Crum Company.Crum expects sales to grow by 50% in 2011,and operating costs should increase at the same rate.Fixed assets were being operated at 40% of capacity in 2010,but all other assets were used to full capacity.Underutilized fixed assets cannot be sold.Current assets and spontaneous liabilities should increase at the same rate as sales during 2011.The company plans to finance any external funds needed as 35% notes payable and 65% common stock.After taking financing feedbacks into account,and after the second pass,what is Crum's projected ROE using the projected balance sheet method? Information on the Crum Company:

The degree of financial leverage gives an indication of how a change in EBIT will affect EPS.

Two key objectives of financial planning and control are to avoid cash squeezes and to improve profitability.

-Refer to Trident Food Corporation.How many units of inventory must Trident Foods sell if it wants to operate at its financial breakeven point?

The use of a high level of operating leverage can enable a firm to maintain a steady operating income despite large changes in the level of sales.

Today,computer simulations models can calculate multiple breakeven charts providing management with an idea of how the firm's breakeven point would change under different assumptions for key variables.

Which of the following is (are)typically part of the cash budget?

Martin Corporation currently sells 180,000 units per year at a price of $7.00 per unit;its variable cost is $4.20 per unit;and fixed operating costs are $400,000.Martin is considering expanding into two additional states which would increase its fixed costs to $650,000 and would increase its variable unit cost to an average of $4.48 per unit.If Martin expands it expects to sell 270,000 units at $7.00 per unit.By how much will Martin's operating breakeven sales dollar level change?

The objective of financing the income statement under the projected balance sheet method is to determine how much income the company will earn and then retain for reinvestment in the business during the period that is forecasted.

Other things held constant,if a firm operates at a profit and sales increase,the degree of financial leverage will decline.

Assume a portion of a firm's long-term funds includes either debt or preferred stock.Which of the following statements is correct?

The projected balance sheet forecasting method produces accurate results unless which of the following condition(s)is (are)present?

Potential changes in sales prices,fixed operating costs and/or variable costs should be taken into account when using breakeven analysis.

The closer a firm is to its operating breakeven point,the greater is the absolute value of the degree of operating leverage.