Several factors affect a firm’s need for external funds. Evaluate the effect of each following factor and place a check next to each factor that is likely to increase a firm’s need for external capital—that is, its AFN (additional funds needed). Check all that apply.
a) The firm decreases its retention ratio.
b) The firm previously thought its fixed assets were being operated at full capacity, but now it learns that it actually has excess capacity.
c) The firm switches its supplier for the majority of its raw materials. The new supplier offers less favorable credit terms and thus reduces the trade credit available to the firm, resulting in a reduction in accounts payable.
Dividends to common shareholders are paid out of after-tax earnings. Do these payouts affect a firm’s AFN?
a) Yes, dividends still affect a firm’s AFN even though they are paid out of after-tax earnings.
b) No, dividends do not affect a firm’s AFN, because they are paid out of after-tax earnings.