Exam1 Key
Exam1 Spring 2015 Key
1. Nelson's Landscaping Services just completed a pro forma statement using the percentage of sales approach. The pro forma has a projected external financing need of -$5,500. What are the firm's options in this case?
With a negative external financing need, the firm has a surplus of funds that it can use to reduce current liabilities, reduce long-term debt, buy back common stock, or increase dividends. If acceptable opportunities exist, the firm might also use the extra funds to purchase fixed assets thereby increasing its maximum capacity level, should that need be anticipated.
2. In the chapter, we used Rosengarten Corporation to demonstrate how to calculate EFN. The ROE for Rosengarten is about 7.3 percent, and the plowback ratio is about 67 percent. If you calculate the sustainable growth rate for Rosengarten, you will find it is only 5.14 percent. In our calculation for EFN, we used a growth rate of 25 percent. Is this possible?
Two assumptions of the sustainable growth formula are that the company does not want to sell new equity, and that financial policy is fixed. If the company raises outside equity, or increases its debt-equity ratio it can grow at a higher rate than the sustainable growth rate. Of course the company could also grow faster than its profit margin increases, if it changes its dividend policy by increasing the retention ratio, or its total asset turnover increases.
3. You are at your desk at work when a co-worker excitedly comes to your desk and shows you the scenario analysis that he has just completed for a potential new project. All three scenarios show a positive NPV. He states, “We have to take this project!” What is your initial reaction regarding this new project. Do you believe the results of the scenario analysis?
While that fact that the worst-case NPV is positive is interesting, it also indicates that there is likely a problem with the inputs and/or analysis. While we would like all of our projects to be
1. Nelson's Landscaping Services just completed a pro forma statement using the percentage of sales approach. The pro forma has a projected external financing need of -$5,500. What are the firm's options in this case?
With a negative external financing need, the firm has a surplus of funds that it can use to reduce current liabilities, reduce long-term debt, buy back common stock, or increase dividends. If acceptable opportunities exist, the firm might also use the extra funds to purchase fixed assets thereby increasing its maximum capacity level, should that need be anticipated.
2. In the chapter, we used Rosengarten Corporation to demonstrate how to calculate EFN. The ROE for Rosengarten is about 7.3 percent, and the plowback ratio is about 67 percent. If you calculate the sustainable growth rate for Rosengarten, you will find it is only 5.14 percent. In our calculation for EFN, we used a growth rate of 25 percent. Is this possible?
Two assumptions of the sustainable growth formula are that the company does not want to sell new equity, and that financial policy is fixed. If the company raises outside equity, or increases its debt-equity ratio it can grow at a higher rate than the sustainable growth rate. Of course the company could also grow faster than its profit margin increases, if it changes its dividend policy by increasing the retention ratio, or its total asset turnover increases.
3. You are at your desk at work when a co-worker excitedly comes to your desk and shows you the scenario analysis that he has just completed for a potential new project. All three scenarios show a positive NPV. He states, “We have to take this project!” What is your initial reaction regarding this new project. Do you believe the results of the scenario analysis?
While that fact that the worst-case NPV is positive is interesting, it also indicates that there is likely a problem with the inputs and/or analysis. While we would like all of our projects to be