Question 19.2: Empire’s Ambitious Growth Plan SITUATION: You are part of th...
Empire’s Ambitious Growth Plan
SITUATION: You are part of the Empire Enterprises finance team. The firm’s strategic plan calls for revenues to grow at 20 percent next year. As mentioned, the board of directors is not interested in using any additional external equity financing. Some members of the team question whether these goals are realistic.
You have just been asked to comment on the proposed growth plan at a meeting. You have a little over an hour to prepare. During the time available, you completed the fol- lowing calculations using data from the most recent and the pro forma income statements and balance sheets (Exhibits 19.9 and 19.10):
• EFN = (Growth rate × Initial assets) − Addition to retained earnings = (0.20 × $50 million) − $4.8 million = $5.2 million
• IGR = Addition to retained earnings/initial assets = $4.8 million/$50 million = 0.96, or 9.6%
• SGR = Plowback ratio × ROE = 0.40 × 0.333 = 13.3%
Given the above information, what can you say about this ambitious growth plan?
\begin{matrix} &Income \ Statement& \\\\ Net \ sales &&& \$ 100.0 \\ Costs &&& \underline{ 90.0} \\ Net \ income &&& \underline{\underline{\$ 10.0}} \\ Dividends &&& \$ 6.0 \\ Addition \ to \ retained \ earnings &&& \$ 4.0 \end{matrix}
Balance Sheet | |||||
Assets | Liabilities and Stockholders’ Equity | ||||
Precentage of Sales | Precentage of Sales | ||||
Assets | \underline{\$50.0} | 20.0% | Total debt | $20.00 | n/a |
Total assets | \underline{\underline{\$50.0}} | Equity | \underline{30.0} | n/a | |
Total liabilities and stockholders’ equity | \underline{\underline{\$50.0}} |
\begin{matrix} &Income \ Statement(Pro \ Forma)& \\\\ Net \ sales &&& \$ 120.0 \\ Costs &&& \underline{ 108.0} \\ Net \ income &&& \underline{\underline{\$ 12.0}} \\ Dividends &&& \$ 7.2 \\ Addition \ to \ retained \ earnings &&& \$ 4.8 \end{matrix}
Balance Sheet | |||||
Assets | Liabilities and Stockholders’ Equity | ||||
Projected | Change | Projected | Change | ||
Assets | \underline{\$60.0} | \underline{\$10.0} | Total debt | $20.0 | $0.0 |
Total assets | \underline{\underline{\$60.0}} | \underline{\underline{\$10.0}} | Equity | \underline{34.8} | \underline{4.8} |
Total liabilities and stockholders’ equity | \underline{\underline{\$54.8}} | \underline{\underline{\$4.8}} | |||
External financing needed (EFN) | $5.20 | $5.2 |
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