Transcript CHAPTER 17 Financial Planning and Forecasting

CHAPTER 16
Financial Planning and Forecasting

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Forecasting sales
Projecting the assets and internally
generated funds
Projecting outside funds needed
Deciding how to raise funds
16-1
Preliminary financial forecast:
Balance sheets (Assets)
Cash and equivalents
Accounts receivable
Inventories
Total current assets
Net fixed assets
Total assets
2005
$ 20
240
240
$ 500
500
$1,000
2006E
$ 25
300
300
$ 625
625
$1,250
16-2
Preliminary financial forecast:
Balance sheets (Liabilities and equity)
Accts payable & accrued liab.
Notes payable
Total current liabilities
Long-term debt
Common stock
Retained earnings
Total liabilities & equity
2005
$ 100
100
200
100
500
200
$1,000
2006E
$ 125
190
315
190
500
245
$1,250
16-3
Preliminary financial forecast:
Income statements
2005
Sales
2006E
$2,000.0
$2,500.0
1,200.0
1,500.0
700.0
875.0
$100.0
$125.0
16.0
16.0
$84.0
$109.0
Taxes (40%)
33.6
43.6
Net income
$50.4
$65.40
Dividends (30% of NI)
$15.12
$19.62
Addition to retained earnings
$35.28
$45.78
Less: Variable costs
Fixed costs
EBIT
Interest
EBT
16-4
Key financial ratios
Basic earning power
Profit margin
Return on equity
Days sales outstanding
Inventory turnover
Fixed assets turnover
Total assets turnover
Debt/assets
Times interest earned
Current ratio
Payout ratio
2005
10.00%
2.52%
2006E
10.00%
2.62%
Ind Avg
20.00%
4.00%
Comment
Poor
Poor
7.20%
8.77%
15.60%
Poor
43.8 days 43.8 days 32.0 days
8.33x
8.33x
11.00x
4.00x
4.00x
5.00x
2.00x
2.00x
2.50x
30.00%
40.34%
36.00%
6.25x
7.81x
9.40x
2.50x
1.99x
3.00x
30.00%
30.00%
30.00%
Poor
Poor
Poor
Poor
OK
Poor
Poor
OK
16-5
Key assumptions in preliminary
financial forecast for NWC
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Operating at full capacity in 2005.
Each type of asset grows proportionally with
sales.
Payables and accruals grow proportionally
with sales.
2005 profit margin (2.52%) and payout
(30%) will be maintained.
Sales are expected to increase by $500
million. (%DS = 25%)
16-6
Determining additional funds
needed, using the AFN equation
AFN = (A*/S0)ΔS – (L*/S0) ΔS – M(S1)(RR)
= ($1,000/$2,000)($500)
– ($100/$2,000)($500)
– 0.0252($2,500)(0.7)
= $180.9 million.
16-7
Management’s review of
the financial forecast
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Consultation with some key managers has yielded
the following revisions:
 Firm expects customers to pay quicker next year,
thus reducing DSO to 34 days without affecting
sales.
 A new facility will boost the firm’s net fixed assets
to $700 million.
 New inventory system to increase the firm’s
inventory turnover to 10x, without affecting sales.
These changes will lead to adjustments in the firm’s
assets and will have no effect on the firm’s liabilities
on equity section of the balance sheet or its income
statement.
16-8
Revised (final) financial forecast:
Balance sheets (Assets)
Cash and equivalents
Accounts receivable
Inventories
Total current assets
Net fixed assets
Total assets
2005
$ 20
240
240
$ 500
500
$1,000
2006E
$ 67
233
250
$ 550
700
$1,250
16-9
Key financial ratios – final forecast
Basic earning power
Profit margin
Return on equity
Days sales outstanding
Inventory turnover
Fixed assets turnover
Total assets turnover
Debt/assets
Times interest earned
Current ratio
Payout ratio
2005
10.00%
2.52%
2006F
10.00%
2.62%
Ind Avg
20.00%
4.00%
Comment
Poor
Poor
7.20%
8.77%
15.60%
Poor
43.8 days 34.0 days 32.0 days
8.33x
10.00x
11.00x
4.00x
3.57x
5.00x
2.00x
2.00x
2.50x
30.00%
40.34%
36.00%
6.25x
7.81x
9.40x
2.50x
1.75x
3.00x
30.00%
30.00%
30.00%
OK
OK
Poor
Poor
OK
Poor
Poor
OK
16-10
What was the net investment in
operating capital?
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OC2006 = NOWC + Net FA
= $625 - $125 + $625
= $1,125
OC2005 = $900
Net investment in OC = $1,125 - $900
= $225
16-11
How much free cash flow is expected
to be generated in 2006?
FCF =
=
=
=
=
NOPAT – Net inv. in OC
EBIT (1 – T) – Net inv. in OC
$125 (0.6) – $225
$75 – $225
-$150.
16-12
Suppose fixed assets had only been
operating at 85% of capacity in 2005
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The maximum amount of sales that can be
supported by the 2005 level of assets is:
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Capacity sales = Actual sales / % of capacity
= $2,000 / 0.85 = $2,353
2006 forecast sales exceed the capacity sales,
so new fixed assets are required to support
2006 sales.
16-13
How can excess capacity
affect the forecasted ratios?
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Sales wouldn’t change but assets
would be lower, so turnovers would
improve.
Less new debt, hence lower interest
and higher profits
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EPS, ROE, debt ratio, and TIE would
improve.
16-14
How would the following items
affect the AFN?
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Higher dividend payout ratio?
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Higher profit margin?
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Decrease AFN: Higher profits, more retained
earnings.
Higher capital intensity ratio?
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Increase AFN: Less retained earnings.
Increase AFN: Need more assets for given sales.
Pay suppliers in 60 days, rather than 30 days?
 Decrease AFN: Trade creditors supply more
capital (i.e., L*/S0 increases).
16-15