Problem
Quantitative Question I: Beasley Industries' sales are expected to increase from $4 million in 2019 to $5 million in 2020, or by 25%. Its assets totaled $3 million at the end of 2019. Beasley is at full capacity, so its assets must grow in proportion to projected sales. At the end of 2019, current liabilities are $740,000, consisting of $140,000 of accounts payable, $450,000 of notes payable, and $150,000 of accrued liabilities. Its profit margin is forecasted to be 4%, and its dividend payout ratio is 60%. Using the AFN equation, forecast the additional funds Beasley will need for the coming year. Do not round intermediate calculations.
The AFN equation assumes that ratios remain constant. However, firms are not always operating at full capacity so adjustments need to be made to the existing asset forecast. Excess capacity adjustments are changes made to the existing asset forecast because the firm is not operating at full capacity. For example, a firm may not be at full capacity with respect to its fixed assets. First, the firm's management must find out the firm's full capacity sales as follows:
Next, management would calculate the firm's target fixed assets ratio as follows:
Finally, management would use the target fixed assets ratio with the projected sales to calculate the firm's required level of fixed assets as follows:
Required level of fixed assets = (Target fixed assets/Sales) × Projected sales
Quantitative Question II: Mitchell Manufacturing Company has $1,400,000,000 in sales and $240,000,000 in fixed assets. Currently, the company's fixed assets are operating at 75% of capacity.
i. What level of sales could Mitchell have obtained if it had been operating at full capacity? Do not round intermediate calculations.
ii. What is Mitchell's Target fixed assets/Sales ratio? Do not round intermediate calculations.
iii. If Mitchell's sales increase by 55%, how large of an increase in fixed assets will the company need to meet its Target fixed assets/Sales ratio? Do not round intermediate calculations.