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Chapter 4 Long-Term Financial Planning and Corporate Growth

1. Financial planning helps investigate the linkages between goals and the different aspects of a firm's
business.
Ans: True

Level: Basic

Subject: Financial Planning Models

Type: Concepts

2. Financial planning is important because the only way for a firm to prosper is for it to grow.
Ans: False

Level: Basic

Subject: Financial Planning

Type: Concepts

3. Conventional wisdom holds that financial plans don't work, but financial planning does.
Ans: True

Level: Basic

Subject: Financial Management Goals

Type: Concepts

4. With good financial planning, managers can be less vigilant in their day to day management of the firm.
Ans: False

Level: Basic

Subject: Financial Planning

Type: Concepts

5. The firm's investment and financing decisions are unrelated and should not be analyzed at the same time.
Ans: False

Level: Basic

Subject: Decision Making

Type: Concepts

6. There are no direct connections between the growth that a company can achieve and the financial policies
undertaken by the financial managers.
Ans: False

Level: Basic

Subject: Various Statements

Type: Concepts

7. In most industries, planning beyond the period of one year is not very useful.
Ans: False

Level: Basic

Subject: Planning Horizon

Type: Concepts

8. Aggregation refers to the process by which a firm first projects its aggregate investment requirement, then
it breaks that total up and allocates it to the investment proposals of the firm's smaller units.
Ans: False

Level: Basic

Subject: Aggregation

Type: Concepts

9. Very few financial planning models require an externally supplied sales forecast.
Ans: False

Level: Basic

Subject: Planning Models

Type: Concepts

10. One would expect the capital intensity ratio of an auto manufacturing firm to be lower than that of a
software development firm.
Ans: False

Level: Basic

Subject: Capital Intensity

Type: Concepts

11. An increase in a firm's capital intensity ratio implies a decrease in how efficiently it uses its assets to
generate sales.
Ans: True

Level: Basic

Subject: Capital Intensity

Type: Concepts

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 1

Chapter 4 Long-Term Financial Planning and Corporate Growth

12. All else equal, the lower the forecast growth the larger the level of external financing needed.
Ans: False

Level: Basic

Subject: External Financing Needed

Type: Concepts

13. Generally speaking, actions that increase the firm's ability to generate funds internally decrease its ability to
grow without obtaining external financing.
Ans: False

Level: Basic

Subject: External Financing Needed

Type: Concepts

14. All else equal, an increase in a firm's capital intensity ratio will increase its external financing needed.
Ans: True

Level: Basic

Subject: External Financing Needed

Type: Concepts

15. All else equal, a firm that utilizes assets inefficiently will have a higher sustainable growth rate than a firm
that does not.
Ans: False

Level: Basic

Subject: Sustainable Growth Rate

Type: Concepts

16. The long-range time period, usually the next two to five years, over which the financial planning process
focuses is known as the:
A)
Planning horizon.
B)
Planning strategy.
C)
Planning agenda.
D)
Short run.
E)
Current financing period.
Ans: A

Level: Basic

Subject: Planning Horizon

Type: Definitions

17. The process by which smaller investment proposals of each of a firm's operational units are added up and
treated as one big project is known as:
A)
Separation.
B)
Aggregation.
C)
Conglomeration.
D)
Appropriation.
E)
Striation.
Ans: B

Level: Basic

Subject: Aggregation

Type: Definitions

18. Pro forma financial statements are:


A)
Illegal.
B)
Accounting statements filed with the Securities and Exchange Commission (SEC) .
C)
Accounting statements filed with CCRA.
D)
Projections in the form of accounting statements, based on a sales forecast assumption.
E)
The most-recently compiled accounting statements of the firm released to the public.
Ans: D

Level: Basic

Subject: Pro Forma Statements

Type: Definitions

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 2

Chapter 4 Long-Term Financial Planning and Corporate Growth

19. The designated source(s) of external financing required to make the pro forma balance sheet balance is
called the:
A)
Retained earnings account.
B)
Common stock account.
C)
Debt-equity ratio.
D)
Cash flow variable.
E)
Plug variable.
Ans: E

Level: Basic

Subject: Plug Variable

Type: Definitions

20. The financial planning method in which accounts are varied depending on a firm's predicted sales level is
called the:
A)
Percentage of sales approach.
B)
Sales dilution approach.
C)
Sales reconciliation approach.
D)
Common-size approach.
E)
Time-trend approach.
Ans: A

Level: Basic

Subject: Percentage Of Sales

Type: Definitions

21. The dividend payout financial ratio is calculated as:


A)
Net income minus additions to retained earnings.
B)
Cash dividends divided by shares outstanding.
C)
Cash dividends divided by net income.
D)
Net income minus cash dividends.
E)
One plus the retention ratio.
Ans: C

Level: Basic

Subject: Dividend Payout Ratio

Type: Definitions

22. The retention ratio is calculated as:


A)
One plus the dividend payout ratio.
B)
Additions to retained earnings divided by net income.
C)
Additions to retained earnings divided by shares outstanding.
D)
Net income minus additions to retained earnings.
E)
Net income minus cash dividends.
Ans: B

Level: Basic

Subject: Retention Ratio

Type: Definitions

23. The retention ratio


I. is equal to one plus the dividend payout ratio.
II. is also known as the plowback ratio.
III. is a measure of a firm's willingness to provide internal funds for future growth.
A)
I only
B)
III only
C)
I and II only
D)
II and III only
E)
I, II, and III
Ans: D

Level: Basic

Subject: Retention Ratio

Type: Definitions

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 3

Chapter 4 Long-Term Financial Planning and Corporate Growth

24. The capital intensity ratio is calculated as:


A)
Long-term debt times total assets.
B)
Net fixed assets divided by credit sales.
C)
Net fixed assets times total sales.
D)
Total assets divided by total sales.
E)
Total sales divided by total assets.
Ans: D

Level: Basic

Subject: Capital Intensity Ratio

Type: Definitions

25. The _________ is the amount of assets needed to generate $1 in sales.


A)
capital intensity ratio
B)
fixed-asset utilization ratio
C)
internal growth rate
D)
plowback ratio
E)
long-term solvency ratio
Ans: A

Level: Basic

Subject: Capital Intensity Ratio

Type: Definitions

26. The internal growth rate of a firm is best described as:


A)
The minimum growth rate achievable if the firm does not pay out any cash dividends.
B)
The minimum growth rate achievable if the firm maintains a constant equity multiplier.
C)
The maximum growth rate achievable without external financing of any kind.
D)
The maximum growth rate achievable without using any external equity financing, while
maintaining a constant debt-equity ratio.
E)
The maximum growth rate achievable without any limits on the amount of debt financing used.
Ans: C

Level: Basic

Subject: Internal Growth Rate

Type: Definitions

27. All else equal, an increase in a firm's dividend payout ratio will decrease its __________.
I. sustainable growth rate
II. internal growth rate
III. external financing needed
A)
I only
B)
II only
C)
I and II only
D)
I and III only
E)
II and III only
Ans: C

Level: Basic

Subject: Internal Growth Rate

Type: Concepts

28. The sustainable growth rate of a firm is best described as:


A)
The minimum growth rate achievable if the firm does not pay out any cash dividends.
B)
The minimum growth rate achievable if the firm maintains a constant equity multiplier.
C)
The maximum growth rate achievable without external financing of any kind.
D)
The maximum growth rate achievable without using any external equity financing, while
maintaining a constant debt-equity ratio.
E)
The maximum growth rate achievable without any limits on the amount of debt financing used.
Ans: D

Level: Basic

Subject: Sustainable Growth Rate

Type: Definitions

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 4

Chapter 4 Long-Term Financial Planning and Corporate Growth

29. If a firm wants to maintain its current ratio of debt to equity, its current dividend payout ratio, and does not
want to sell any new equity, the firm's growth rate in sales and assets must be less than or equal to its
A)
dividend payout ratio
B)
retention ratio
C)
sustainable growth rate
D)
growth rate with no external financing
E)
projected sales growth rate
Ans: C

Level: Basic

Subject: Sustainable Growth Rate

Type: Definitions

30. When projecting growth, the point where the required increase in assets is equal to the addition to retained
earnings is called the:
A)
Equilibrium growth rate.
B)
External growth rate.
C)
Internal growth rate.
D)
Sustainable growth rate.
E)
Pro-forma growth rate.
Ans: C

Level: Basic

Subject: Internal Growth Rate

Type: Definitions

31. The two key dimensions of financial planning are:


A)
Capital budgeting and capital structure.
B)
The growth rate and dividend policy.
C)
The planning horizon and aggregation.
D)
Aggregation and capital structure.
E)
The growth rate and the market value of shareholders' equity.
Ans: C

Level: Basic

Subject: Financial Planning Dimensions

Type: Definitions

32. A projection using the most optimistic assumptions is called a(n):


A)
Focused projection.
B)
Base case scenario.
C)
Liquidity based pro-forma.
D)
Best case scenario.
E)
Aggregated financial plan.
Ans: D

Level: Basic

Subject: Best Case Scenario

Type: Definitions

33. Determining the amount of liquidity needed by a firm is referred to as the:


A)
Capital budgeting decision.
B)
Capital structure policy.
C)
Working capital decision.
D)
Aggregation planning decision.
E)
Financing policy decision.
Ans: C

Level: Basic

Subject: Working Capital Decision

Type: Definitions

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 5

Chapter 4 Long-Term Financial Planning and Corporate Growth

34. The outputs of a financial planning model are called:


A)
Aggregated statements.
B)
Planning horizon statements.
C)
Projected statements of position.
D)
Working capital statements of position.
E)
Pro-forma statements.
Ans: E

Level: Basic

Subject: Pro-Forma Statements

Type: Definitions

35. The retention ratio is also called the _____ ratio.


A)
Plowback
B)
Earnings held
C)
Dividends payable
D)
Retained earnings
E)
Net income
Ans: A

Level: Basic

Subject: Retention Ratio

Type: Definitions

36. Total assets divided by sales is called the _____ ratio.


A)
Capital intensity
B)
Return on assets
C)
Capital budgeting
D)
Total asset turnover
E)
Interval measure
Ans: A

Level: Basic

Subject: Capital Intensity Ratio

Type: Definitions

37. The sustainable growth rate is defined as:


I Excluding additional equity financing.
II Excluding any kind of external financing.
III Including a variable debt-equity ratio.
IV Including a constant debt-equity ratio.
A)
II only.
B)
I and III only.
C)
II and III only.
D)
I and IV only.
E)
II and IV only.
Ans: D

Level: Basic

Subject: Sustainable Growth Rate

Type: Definitions

38. The internal growth rate is defined as:


A)
[(ROA)(R)] / [1 - (ROA)(R)].
B)
[(ROE)(R)] / [1 - (ROE)(R)].
C)
[(ROA)(R)] / [1 - (ROE)(R)].
D)
[(ROE)(R)] / [1 + (ROA)(R)].
E)
[(ROA)(R)] / [1 + (ROA)(R)].
Ans: A

Level: Basic

Subject: Internal Growth Rate

Type: Definitions

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 6

Chapter 4 Long-Term Financial Planning and Corporate Growth

39. The dividend payout ratio is defined as cash dividends divided by:
A)
Sales.
B)
Net income.
C)
Total assets.
D)
Retained earnings.
E)
Total equity.
Ans: B

Level: Basic

Subject: Dividend Payout Ratio

Type: Definitions

40. When a firm chooses to buy new fixed assets it is making a ______________ decision.
A)
capital budgeting
B)
capital structure
C)
financing
D)
working capital
E)
dividend policy
Ans: A

Level: Basic

Subject: Capital Budgeting

Type: Concepts

41. When a firm makes decisions regarding its investment in inventory and accounts receivable it is making a
________________ decision.
A)
capital budgeting
B)
capital structure
C)
financing
D)
working capital
E)
dividend policy
Ans: D

Level: Basic

Subject: Working Capital

Type: Concepts

42. Xman Corp. has just decided to lower its amount of debt outstanding, replacing it with the proceeds from a
new equity issue. This adjustment is a __________________ decision.
A)
capital budgeting
B)
capital structure
C)
financing
D)
working capital
E)
dividend policy
Ans: B

Level: Basic

Subject: Capital Structure

Type: Concepts

43. Which of the following is a basic policy element of financial planning?


I. The capital budgeting decision
II. The dividend policy decision
III. The net working capital decision
A)
I only
B)
II only
C)
I and II only
D)
II and III only
E)
I, II, and III
Ans: E

Level: Basic

Subject: Financial Planning

Type: Concepts

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 7

Chapter 4 Long-Term Financial Planning and Corporate Growth

44. Which of the following is NOT a basic policy element of financial planning?
A)
The firm's needed investment in new fixed assets.
B)
The degree of financial leverage a firm chooses to employ.
C)
The amount of cash the firm thinks is necessary and appropriate to pay shareholders.
D)
The level of sales growth the market will provide in future years.
E)
The amount of liquidity and working capital the firm needs on an ongoing basis.
Ans: D

Level: Basic

Subject: Financial Planning

Type: Concepts

45. Which of the following is the first dimension of the financial planning process?
A)
Establish a planning horizon.
B)
Set a dividend policy.
C)
Aggregate the firm's investment projects.
D)
Create alternative sets of assumptions about important variables.
E)
Construct pro forma financial statements.
Ans: A

Level: Basic

Subject: Financial Planning

Type: Concepts

46. For financial planning purposes, we generally define the short run as ___________, and the long run as
____________.
A)
2 years; 3-5 years
B)
1 year; 2-6 years
C)
1 year; 2-5 years
D)
2 years; 3-6 years
E)
1 years; 2-4 years
Ans: C

Level: Basic

Subject: Planning Horizon

Type: Concepts

47. Which of the following statements about financial planning is NOT correct?
A)
Financial planning provides a poor way of checking that the goals and plans made with regard to
specific areas of a firm's operations are feasible and internally consistent.
B)
The financial plan provides the opportunity for the firm to develop, analyze, and compare many
different scenarios in a consistent way.
C)
A financial plan makes explicit the consistency between planned growth and stated financial policies.
D)
One of the purposes of financial planning is to avoid surprises and develop contingency plans.
E)
Growth, by itself, is not an appropriate goal for the financial manager.
Ans: A

Level: Basic

Subject: Financial Planning

Type: Concepts

48. Which of the following statements regarding financial planning is accurate?


A)
Financial planning insures a firm will not be surprised by unforeseen future events.
B)
By using financial planning, a firm can clearly identify its options for the coming fifteen years.
C)
The use of financial planning allows a firm to eliminate the interactions between its operating
policies and its financing policies.
D)
Financial planning allows a firm to plan for the future in a systematic fashion.
E)
Financial planning takes the burden off the financial manager and places it on the operations
manager who must carry out the plan as laid out.
Ans: D

Level: Basic

Subject: Financial Planning

Type: Concepts

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 8

Chapter 4 Long-Term Financial Planning and Corporate Growth

49. When a firm uses a financial plan to develop, analyze, and compare various scenarios in a consistent way,
the firm benefits by better understanding:
A)
The interactions of its operations and changes in interest rates.
B)
The linkages between different investment proposals.
C)
The expected future state of the economy.
D)
The feasibility of its past capital budgeting decisions.
E)
The reliability of its employees and management.
Ans: B

Level: Basic

Subject: Financial Planning

Type: Concepts

50. By developing a financial plan a firm benefits by being forced to:


I. Think about and forecast the future.
II. Focus on best case scenarios.
III. Set goals and establish priorities.
A)
I only
B)
I and II only
C)
I and III only
D)
II and III only
E)
I, II, and III
Ans: C

Level: Basic

Subject: Financial Plan Benefits

Type: Concepts

51. Which of the following does NOT correctly complete this sentence. "The benefits of financial planning
include ___________________."
A)
making clear the linkages between investment proposals and financing needs
B)
avoiding surprises and developing contingency plans
C)
eliminating internal consistency of goals across firm divisions
D)
providing for the exploration of various investment and financing options
E)
understanding the impact sales growth will have on financing needs
Ans: C

Level: Basic

Subject: Financial Planning

Type: Concepts

52. Based on your financial plan, it is likely that your firm will be unable to sell all of the units of your product
produced over the planning horizon. This suggests a need to make changes in
A)
capital structure policy
B)
dividend policy
C)
net working capital decisions
D)
capital budgeting decisions
E)
wage policy decisions
Ans: D

Level: Basic

Subject: Financial Planning

Type: Concepts

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 9

Chapter 4 Long-Term Financial Planning and Corporate Growth

53. Which of the following is a common element among financial planning models?
I. Asset requirements
II. Pro forma statements
III. Sales forecasts
A)
I only
B)
II and III only
C)
I and II only
D)
I and III only
E)
I, II, and III
Ans: E

Level: Intermediate

Subject: Financial Planning

Type: Concepts

54. A financial plan should contain ______________ which provide a model of the firm's asset structure for the
years to come.
A)
pro forma sales forecasts
B)
pro forma income statements
C)
pro forma financial requirements
D)
pro forma balance sheets
E)
common-size balance sheets
Ans: D

Level: Intermediate

Subject: Pro Forma Balance Sheet

Type: Concepts

55. Which of the following can be computed directly from a pro forma balance sheet?
A)
Current ratio
B)
Inventory turnover
C)
Profit margin
D)
Additions to net fixed assets
E)
Interval measure
Ans: A

Level: Intermediate

Subject: Pro Forma Balance Sheet

Type: Concepts

56. In a financial plan, the _____________ of a firm provide a guide for changes in liabilities and capital.
A)
sales growth expectations
B)
financing and dividend policies
C)
sustainable growth rate expectations
D)
pro forma income statements
E)
working capital policies
Ans: B

Level: Intermediate

Subject: Financial Plan

Type: Concepts

57. The _________ portion of a firm's financial plan contains the firm's dividend and debt policies.
A)
sales forecast
B)
asset requirement
C)
financial requirements
D)
capital budgeting
E)
liquidity needs
Ans: C

Level: Basic

Subject: Financial Requirements

Type: Concepts

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 10

Chapter 4 Long-Term Financial Planning and Corporate Growth

58. The "plug" figure in a financial plan represents the:


A)
Increase in assets necessary to support projected sales.
B)
External financing needed to support the financial plan.
C)
Change in retained earnings attributable to projected sales.
D)
Level of new fixed assets contained in the financial plan.
E)
Level of dividends the firm has paid over recent years.
Ans: B

Level: Basic

Subject: Financial Planning

Type: Concepts

59. In creating pro forma statements, if we assume that costs, assets, and short-term debt vary directly with
changes in sales, that the payout ratio is fixed, and that the change in long-term debt only results from
payments made as required on the debt contracts, then the "plug" required for the balance sheet to balance
will probably be:
A)
Dividends.
B)
Total debt.
C)
Long-term debt.
D)
New equity sales.
E)
Retained earnings.
Ans: D

Level: Intermediate

Subject: Plug Variables

Type: Concepts

60. The percentage of sales approach to financial planning requires:


A)
All assets and liabilities change at the same rate as sales.
B)
The dividend policy remain unchanged from year to year.
C)
The firm be operating at full capacity.
D)
Separating accounts into those that vary with sales and those that do not.
E)
The firm's sales to increase each year.
Ans: D

Level: Basic

Subject: Percentage Of Sales

Type: Concepts

61. If total assets increase by the same percentage as sales increase,


I. it is likely assets and sales will increase by identical dollar amounts.
II. the larger the increase in sales, the more likely there will be a need for external financing.
III. the firm is assumed to be operating at full capacity.
A)
I only
B)
III only
C)
I and III only
D)
II and III only
E)
I, II, and III
Ans: D

Level: Intermediate

Subject: Percentage Of Sales

Type: Concepts

62. Assume Xylon, Inc. is currently operating at less than full capacity. Which of the following would be
LEAST likely to vary directly with sales?
A)
Notes payable
B)
Accounts receivable
C)
Accounts payable
D)
Inventory
E)
Cash
Ans: A

Level: Intermediate

Subject: Percentage Of Sales

Type: Concepts

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 11

Chapter 4 Long-Term Financial Planning and Corporate Growth

63. If we assume for forecasting purposes that the firm's fixed assets will increase directly with sales, we are
effectively assuming that the firm:
A)
Has no unused capacity in its fixed assets.
B)
Is currently utilizing its current assets at 100%.
C)
Is producing more goods than it sells.
D)
Has no excess working capital.
E)
Can increase production without any external financing needed.
Ans: A

Level: Basic

Subject: Percentage Of Sales

Type: Concepts

64. The Limberger Institute is currently operating at full capacity. Which balance sheet items would most
likely vary directly with sales?
I. Fixed assets
II. Long-term debt
III. Accounts receivable
A)
I only
B)
II only
C)
I and III only
D)
II and III only
E)
I, II, and III
Ans: C

Level: Basic

Subject: Percentage Of Sales

Type: Concepts

65. All else the same, a firm's capital intensity ratio will increase if __________________.
A)
accounts payable decrease
B)
net income increases
C)
sales decrease
D)
assets decrease
E)
cost of goods sold increase
Ans: C

Level: Basic

Subject: Capital Intensity Ratio

Type: Concepts

66. Assume a firm is currently operating at full capacity. Sales are forecast to increase by 20% next year.
Management could do each of the following EXCEPT:
A)
Attempt to restrain sales growth so that no new fixed assets are needed.
B)
Increase the firm's investment in fixed assets to meet the added demand.
C)
Subcontract with other manufacturers to increase production and meet the added demand.
D)
Lease additional equipment to meet the added demand.
E)
Acquire more current assets in order to meet the added demand.
Ans: E

Level: Intermediate

Subject: Firm Capacity

Type: Concepts

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 12

Chapter 4 Long-Term Financial Planning and Corporate Growth

67. All else the same, which of the following would likely be associated with a firm which has a high capital
intensity ratio, relative to other firms in the same industry?
I. Lower fixed asset turnover ratio
II. Lower return on assets (ROA) ratio
III. Greater depreciation expense
A)
I and II only
B)
II only
C)
I and III only
D)
II and III only
E)
I, II, and III
Ans: E

Level: Intermediate

Subject: Capital Intensity Ratio

Type: Concepts

68. All else the same, the level of external financing needed (EFN) increases with increases in the:
A)
Profit margin.
B)
Retention ratio.
C)
Accounts receivable turnover ratio.
D)
Capital intensity ratio.
E)
Fixed asset utilization ratio.
Ans: D

Level: Intermediate

Subject: External Financing Needed

Type: Concepts

69. Suppose a firm is working at full capacity and that assets, costs, and all liabilities are tied directly to the
level of sales. In addition, the firm pays out all its earnings as dividends, and sales are expected to increase
by 10% next period. The firm is financed half with equity and half with debt. The external financing
needed to support this growth:
A)
Is zero since all liabilities are tied directly to the level of sales.
B)
Depends on the profit margin.
C)
Is equal to half the dollar increase in assets.
D)
Is equal to twice the dollar increase in liabilities.
E)
Is equal to the growth rate times total assets.
Ans: C

Level: Challenge

Subject: External Financing Needed

Type: Concepts

70. Sales growth _________________.


A)
will typically lead to growth in current assets
B)
will automatically lead to increases in long-term debt
C)
is the least important item to forecast in the financial planning process
D)
will require additions to net fixed assets for firms operating at less than full capacity
E)
of less than 10% will make EFN negative, creating a surplus
Ans: A

Level: Intermediate

Subject: EFN And Sales Growth

Type: Concepts

71. If your firm is currently operating at full capacity and you expect strong sales growth over the next few
years, you should most likely:
A)
Expect that assets will not grow.
B)
Raise your dividend payout to accommodate the growth.
C)
Put off any further financial planning until sales growth moderates.
D)
Expect external financing will be needed.
E)
Expect the growth in retained earnings to outpace the growth in sales.
Ans: D

Level: Intermediate

Subject: Sales Growth

Type: Concepts

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 13

Chapter 4 Long-Term Financial Planning and Corporate Growth

72. Why is it important to determine if a firm is operating at full capacity or not?


A)
Because a firm that is operating at less than full capacity will not need any external financing.
B)
Because in a firm that is operating at less than full capacity, fixed assets will typically increase at the
same percent as sales.
C)
Because a firm with excess capacity has some room to expand sales without increasing the
investment in fixed assets.
D)
Because, for a given increase in sales, firms operating at less than full capacity will experience more
rapid asset growth than firms that do operate at full capacity.
E)
Because only firms operating at full capacity can grow rapidly.
Ans: C

Level: Intermediate

Subject: Capacity Usage

Type: Concepts

73. You wish to compute a firm's internal growth rate from its accounting statements. To do so, you could use
the values of
A)
total assets, net income, and the retention ratio
B)
current assets, interest paid, and stockholders' equity
C)
net income, equity, and the dividend payout ratio
D)
current liabilities, fixed assets, and total assets
E)
net income, equity, and total assets
Ans: A

Level: Intermediate

Subject: Internal Growth Rate

Type: Concepts

74. Choose the most complete definition of the "best" financial plan for a firm.
A)
The plan that results in the lowest level of external financing needed
B)
The plan that incorporates the firm's long range policies while maintaining sales growth at or below
the sustainable growth rate
C)
The plan which addresses the firm's long range policies and whose focus is to increase shareholder
wealth
D)
The plan that results in the largest sales growth each year while maintaining external financing
needed at or near zero
E)
The plan that is the simplest to use yet is complex enough to cover every possible state of nature that
might occur
Ans: C

Level: Intermediate

Subject: Financial Plan

Type: Concepts

75. All else the same, sustainable growth will decrease with increases in _____________.
A)
earnings retention
B)
net income
C)
total asset turnover
D)
profit margin
E)
total equity
Ans: E

Level: Intermediate

Subject: Sustainable Growth Rate

Type: Concepts

76. Which of the following is a factor in calculating sustainable growth?


A)
Current ratio
B)
Profit margin
C)
Inventory turnover
D)
Cash ratio
E)
Cash coverage ratio
Ans: B

Level: Intermediate

Subject: Sustainable Growth

Type: Concepts

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 14

Chapter 4 Long-Term Financial Planning and Corporate Growth

77. Which of the following is NOT a determinant of the sustainable growth rate?
A)
Inventory turnover
B)
Profit margin
C)
Debt-equity ratio
D)
Total asset turnover
E)
Dividend payout ratio
Ans: A

Level: Intermediate

Subject: Sustainable Growth Rate

Type: Concepts

78. The sustainable growth rate depends on all of the following EXCEPT
A)
The firm's ability to turn sales into income
B)
The firm's projections of expected dividend payouts
C)
The degree of financial leverage a firm expects to utilize
D)
The level of new assets required as sales grow
E)
The firm's ratio of accounts receivable to inventory
Ans: E

Level: Intermediate

Subject: Sustainable Growth Rate

Type: Concepts

79. The determinants of growth include which of the following?


I. Equity multiplier
II. Profit margin
III. Total asset turnover
A)
I only
B)
II only
C)
II and III only
D)
I and III
E)
I, II, and III
Ans: E

Level: Intermediate

Subject: Growth Factors

Type: Concepts

80. All else the same, an increase in a firm's dividend payout ratio will decrease its:
I. Sustainable growth rate.
II. Internal growth rate.
III. External financing needed.
A)
I only
B)
II only
C)
I and II only
D)
I and III only
E)
II and III only
Ans: C

Level: Intermediate

Subject: Growth Rates

Type: Concepts

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 15

Chapter 4 Long-Term Financial Planning and Corporate Growth

81. If a firm believes its costs and assets grow at the same rate as sales, the dividend payout ratio is fixed, no
new equity is possible, and the current debt-equity ratio is optimal, then which of the following is true?
I. The sustainable growth rate gives the maximum rate at which sales can grow.
II. External financing will be zero.
III. Asset growth must completely come from increases in accounts payable and retained earnings.
IV. If the firm pays out in dividends all of its net income, sales cannot grow.
A)
I only
B)
I, II, and III only
C)
I and IV only
D)
II, III, and IV only
E)
I, II, III, and IV
Ans: C

Level: Intermediate

Subject: Sustainable Growth

Type: Concepts

82. If a firm is to grow at its sustainable growth rate, its growth depends on which of the following factors?
I. Profit margin
II. Financial policy
III. Dividend policy
A)
I only
B)
I and II only
C)
I and III only
D)
II and III only
E)
I, II, and III
Ans: E

Level: Intermediate

Subject: Sustainable Growth Rate

Type: Concepts

83. Which of the following firms would most likely be interested in knowing their sustainable growth rate?
A)
A firm that believes its equity multiplier is at its optimal level
B)
A firm that has no capacity to raise new debt
C)
A firm in a mature industry that expects limited sales growth in the future
D)
A firm that pays no dividends
E)
A firm that has a low level of investment in fixed assets
Ans: A

Level: Intermediate

Subject: Sustainable Growth Rate

Type: Concepts

84. You wish to compute a firm's sustainable growth rate from its accounting statements. To do so, you could
use the values of
A)
total assets, net income, and the retention ratio
B)
total assets, interest paid, and equity
C)
net income, equity, and the dividend payout ratio
D)
interest paid, equity, and total assets
E)
net income, equity, and total assets
Ans: C

Level: Basic

Subject: Sustainable Growth Rate

Type: Concepts

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 16

Chapter 4 Long-Term Financial Planning and Corporate Growth

85. Which of the following are constant under the percentage of sales approach?
A)
Profit margin and dividend payout ratio
B)
Addition to retained earnings and net income
C)
Dividends paid and the profit margin
D)
Costs as a percentage of sales and dividends paid
E)
Costs as a percentage of sales and the addition to retained earnings
Ans: A

Level: Intermediate

Subject: Percentage Of Sales Approach

Type: Concepts

86. The elements of financial planning include:


I The results of the net working capital decisions.
II Consideration of the degree of financial leverage to be employed.
III Investment opportunities the firm chooses to pursue.
IV The amount of cash needed to pay dividends.
A)
I and IV only.
B)
I, II, and III only.
C)
II, III, and IV only.
D)
I, III, and IV only.
E)
I, II, III, and IV.
Ans: E

Level: Intermediate

Subject: Elements Of Financial Planning

Type: Concepts

87. Financial planning generally considers:


A)
Two to five proposals over the short-term.
B)
A two to five year time frame while aggregating smaller proposals.
C)
The details of each individual project over the long-term.
D)
Three alternative scenarios over the short-term.
E)
An aggregation of projects over the next twenty-four months.
Ans: B

Level: Intermediate

Subject: Planning Horizon

Type: Concepts

88. Financial planning allows firms to:


I. Avoid future losses.
II. Develop contingency plans.
III. Ascertain expected financing needs.
IV. Explore and evaluate various options.
A)
I and IV only.
B)
III and IV only.
C)
II and III only.
D)
II, III, and IV only.
E)
I, II, III, and IV.
Ans: D

Level: Intermediate

Subject: Financial Planning

Type: Concepts

89. The sales forecast for most financial plans is:


A)
Developed based upon the net income figure provided by management.
B)
Projected based on the anticipated level of debt financing.
C)
Used as the plug figure.
D)
Derived from the output of the financial planning process.
E)
Externally supplied.
Ans: E

Level: Basic

Subject: Sales Forecast

Type: Concepts

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 17

Chapter 4 Long-Term Financial Planning and Corporate Growth

90. Two of the more important economic factors that must be considered when doing a financial plan for a firm
are the:
A)
GDP growth rate and the interest rate.
B)
Unemployment rate and the GDP growth rate.
C)
Marginal tax rate and the interest rate.
D)
GDP growth rate and the marginal tax rate.
E)
Inflation rate and the interest rate.
Ans: C

Level: Intermediate

Subject: Economic Assumptions

Type: Concepts

91. Increasing all accounts by a fixed percentage may not be the best financial planning model because:
A)
The debt-equity ratio would vary.
B)
Not all accounts vary directly with sales.
C)
The model is difficult to use.
D)
The growth percentage is difficult to predict.
E)
The retention ratio must be held constant.
Ans: B

Level: Intermediate

Subject: Financial Planning Model

Type: Concepts

92. If a firm lowers its dividend payout ratio, then the firm's:
A)
Retention ratio will decrease.
B)
Dividends per share will increase.
C)
Net income will increase.
D)
Sustainable growth rate will increase.
E)
Internal growth rate will decrease.
Ans: D

Level: Intermediate

Subject: Sustainable Growth Rate

Type: Concepts

93. Which one of the following assumptions applies to a worst case scenario?
A)
Sales are projected using the highest expected value.
B)
The most likely level of sales is used.
C)
The best economic assumptions are made.
D)
The highest level of expansion is assumed.
E)
Costs are projected using the highest expected value.
Ans: E

Level: Intermediate

Subject: Worst Case Scenario

Type: Concepts

94. Which one of the following is the key driver of most financial plans?
A)
Net income target
B)
Sales forecast
C)
Available net working capital
D)
Cost of goods sold
E)
Return on equity
Ans: B

Level: Intermediate

Subject: Financial Planning Process

Copyright 2005 McGraw-Hill Ryerson Limited.

Type: Concepts

Page 18

Chapter 4 Long-Term Financial Planning and Corporate Growth

95. Which one of the following statements is correct concerning the capital intensity ratio?
A)
The capital intensity ratio is the reciprocal of the total asset turnover ratio.
B)
The capital intensity ratio provides the amount of sales generated for each $1 in total assets.
C)
The higher the capital intensity ratio, the less emphasis the firm puts on capital.
D)
The capital intensity ratio is used to compute the internal rate of growth.
E)
The capital intensity ratio relates the amount of current assets to long-term assets.
Ans: A

Level: Intermediate

Subject: Capital Intensity Ratio

Type: Concepts

96. Which of the following tend to vary directly with sales?


I Inventory
II Accounts payable
III Long-term debt
IV Notes payable
A)
I and II only
B)
III and IV only
C)
I, II, and IV only
D)
I, II, and III only
E)
I, II, III, and IV
Ans: A

Level: Intermediate

Subject: Percentage Of Sales Method

Type: Concepts

97. Which one of the following statements is true if a firm is operating at less than full capacity?
A)
The EFN computed using the straight percentage method will be understated.
B)
The EFN computed using the straight percentage method will be accurate.
C)
The EFN computed using the percentage of sales approach will be understated.
D)
The EFN computed using the percentage of sales approach will be accurate.
E)
The EFN computed using the percentage of sales approach will be overstated.
Ans: E

Level: Intermediate

Subject: Efn And Full Capacity

Type: Concepts

98. Which one of the following statements is correct concerning the external financing need (EFN) and the
dividend payout ratio? Assume EFN is a positive number.
A)
The dividend payout ratio has no effect on the EFN.
B)
An increase in the dividend payout ratio will decrease the EFN.
C)
An increase in the dividend payout ratio will increase the EFN.
D)
The effect on EFN caused by an increase in the dividend payout ratio can not be predicted.
E)
An increase in EFN causes the dividend payout ratio to decrease.
Ans: C

Level: Intermediate

Subject: Efn And Dividend Payout Ratio

Type: Concepts

99. The external financing need tends to ______ as the projected growth rate in sales increases.
A)
decrease
B)
increase
C)
remain constant
D)
vary in an unpredictable manner
E)
increase and then decrease
Ans: B

Level: Intermediate

Subject: EFN And Growth Rates

Copyright 2005 McGraw-Hill Ryerson Limited.

Type: Concepts

Page 19

Chapter 4 Long-Term Financial Planning and Corporate Growth

100. Financial planning focuses on:


A)
The individual components of the financial policy.
B)
The major elements of the financial and investment policies.
C)
Anticipated changes only in the short-run.
D)
The income statement but not the balance sheet.
E)
Capital structure and dividend policy only.
Ans: B

Level: Basic

Subject: Financial Planning

Type: Concepts

101. Because Jerry's Ice Cream is currently producing at less than full capacity, the pro-forma for next year
should project:
A)
A decrease in sales.
B)
A net loss.
C)
A decrease in net working capital.
D)
Fixed assets growing slower than sales.
E)
A negative plowback ratio.
Ans: D

Level: Intermediate

Subject: Capacity And Growth

Type: Concepts

102. A firm's ability to sustain growth depends upon the:


I. Profit margin.
II. Dividend policy.
III. Total asset turnover.
IV. Financial policy.
A)
I and II only.
B)
III and IV only.
C)
II, III, and IV only.
D)
I, III, and IV only.
E)
I, II, III, and IV.
Ans: E

Level: Intermediate

Subject: Growth Factors

Type: Concepts

103. Financial planning:


A)
Is a static model.
B)
Should be a purely accounting procedure.
C)
Is an iterative process.
D)
Focuses on net income.
E)
Concentrates on the present operations.
Ans: C

Level: Basic

Subject: Financial Planning

Type: Concepts

104. The sustainable growth rate rises as the _______ declines.


A)
Profit margin
B)
Retention ratio
C)
Debt-equity ratio
D)
Dividend payout ratio
E)
Total asset turnover
Ans: D

Level: Intermediate

Subject: Growth Rate

Type: Concepts

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 20

Chapter 4 Long-Term Financial Planning and Corporate Growth

105. Given the following information:sales = $450; costs = $400; tax rate = 34%. Assuming costs run at a
constant percentage of sales, if sales rise by 10% next year, what will net income be?
A)
$3.30
B)
$33.00
C)
$36.30
D)
$146.00
E)
$197.22
Ans: C

Level: Basic

Subject: Percentage Of Sales

Type: Problems

106. A firm earns net income of $25,000 in a given year and the firm's retained earnings increase $15,000 for
that same year. The retention ratio is:
A)
25%
B)
40%
C)
60%
D)
75%
E)
100%
Ans: C

Level: Basic

Subject: Retention Ratio

Type: Problems

107. Given the following information: sales = $450, costs = $350, tax rate = 34%, retention ratio = 30%,
production = 95% of capacity, sales increase = 10%. What is the expected addition to retained earnings?
(Assume costs change directly with sales.)
A)
$1.98
B)
$11.22
C)
$19.80
D)
$21.78
E)
$50.82
Ans: D

Level: Intermediate

Subject: Retained Earnings

Type: Problems

108. Pickup Industries has a profit margin of 15% and a dividend payout of 40%. Last year's sales were $600
million and total assets were $400 million. None of the liabilities vary directly with sales, but assets and
costs do. If the sales growth rate for Pickup is 20%, how much external financing is needed?
A)
$5.2 million
B)
$13.1 million
C)
$15.2 million
D)
$21.3 million
E)
$26.0 million
Ans: C

Level: Intermediate

Subject: External Financing Needed

Copyright 2005 McGraw-Hill Ryerson Limited.

Type: Problems

Page 21

Chapter 4 Long-Term Financial Planning and Corporate Growth

109. Given the following information: assets = $900; accounts payable = $110; notes payable = $100; long-term
debt = $150; equity = $540; sales = $450; costs = $400; tax rate = 34%; dividends = $16. 50. Costs, assets,
and accounts payable maintain a constant ratio to sales. How much external financing is needed if sales
increase 15% and the dividend payout ratio is constant?
A)
$81
B)
$94
C)
$100
D)
$106
E)
$122
Ans: C

Level: Challenge

Subject: External Financing Needed

Type: Problems

110. Suppose a firm has net income of $100 and a profit margin equal to 14%. If the firm is working at 2/3
capacity, then full capacity sales are:
A)
$476
B)
$539
C)
$714
D)
$ 823
E)
$1,071
Ans: E

Level: Intermediate

Subject: Full Capacity Sales

Type: Problems

111. Knudsen, Inc. 's firm's full-capacity sales level is $3,000,000. If the firm is currently operating at 80% of
capacity, what is the current level of sales?
A)
$600,000
B)
$1,500,000
C)
$1,750,000
D)
$2,400,000
E)
$3,750,000
Ans: D

Level: Intermediate

Subject: Full Capacity Sales

Type: Problems

112. Given the following information: current assets = $400; fixed assets = $500; accounts payable = $100;
notes payable = $45; long-term debt = $455; equity = $300; sales = $450; costs = $400; tax rate = 34%.
Suppose that current assets, costs, and accounts payable maintain a constant ratio to sales. If the firm is
producing at 80% capacity, what is the total external financing needed if sales increase 25%? Assume the
firm pays no dividends.
A)
$33.75
B)
$66.25
C)
$143.75
D)
$172.50
E)
$380.25
Ans: A

Level: Intermediate

Subject: Excess Capacity & External...

Copyright 2005 McGraw-Hill Ryerson Limited.

Type: Problems

Page 22

Chapter 4 Long-Term Financial Planning and Corporate Growth

113. Moore Money Inc has a profit margin of 11% and a retention ratio of 70%. Last year, the firm had sales of
$500 and total assets of $1,000. What is the internal growth rate?
A)
1.7%
B)
2.6%
C)
3.7%
D)
4.0%
E)
5.9%
Ans: D

Level: Intermediate

Subject: Internal Growth Rate

Type: Problems

114. Given the following information: profit margin = 10%; sales = $100; retention ratio = 40%; assets = $200;
equity multiplier = 2.0. If the firm maintains a constant debt-equity ratio and no new equity is used, what is
the maximum growth rate? (Assume a constant profit margin.)
A)
2.04%
B)
2.34%
C)
3.68%
D)
4.17%
E)
5.93%
Ans: D

Level: Intermediate

Subject: Sustainable Growth Rate

Type: Problems

115. Simply Red, Inc. has a return on equity of 14%, a dividend payout ratio of 20%, an equity multiplier of
1.4, and a profit margin of 1.2%. What is the sustainable growth rate?
A)
2.0%
B)
2.9%
C)
5.3%
D)
8.7%
E)
12.6%
Ans: E

Level: Intermediate

Subject: Sustainable Growth Rate

Type: Problems

116. Moore Money Inc has a profit margin of 11% and a retention ratio of 70%. Last year, the firm had sales of
$500 and total assets of $1,000. The desired total debt ratio is 75%. What is the firm's sustainable growth
rate?
A)
2.5%
B)
4.0%
C)
7. 1%
D)
11.3%
E)
18.2%
Ans: E

Level: Intermediate

Subject: Sustainable Growth Rate

Type: Problems

117. Suppose a firm has net income of $50, dividends of $15, assets of $1,200 and a debt-equity ratio of 3.0.
What is the sustainable growth rate?
A)
1.5%
B)
4.0%
C)
9.6%
D)
13.2%
E)
18.1%
Ans: D

Level: Intermediate

Subject: Sustainable Growth

Type: Problems

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 23

Chapter 4 Long-Term Financial Planning and Corporate Growth

118. Assume a firm has sales of $4,750 on assets totaling $2,500, net income of $375, and dividends of $150.
What is the sustainable growth rate if the equity has a value of $1,500?
A)
22.9%
B)
17.6%
C)
13.0%
D)
11.1%
E)
9.9%
Ans: B

Level: Intermediate

Subject: Sustainable Growth Rate

Type: Problems

Use the following to answer questions 119-121:


Net income = $150; Total assets = $1,000; Total liabilities = $400; Total asset turnover = 4. 0
119. What is the capital intensity ratio assuming dividends paid total $100?
A)
0.00
B)
0.25
C)
0.50
D)
2.00
E)
4.00
Ans: B

Level: Intermediate

Subject: Capital Intensity Ratio

Type: Problems

120. What is the internal growth rate assuming dividends paid total $100?
A)
1.1%
B)
2.5%
C)
5.3%
D)
8.3%
E)
9.1%
Ans: C

Level: Intermediate

Subject: Internal Growth Rate

Type: Problems

121. What is the sustainable growth rate assuming dividends paid total $50?
A)
2.5%
B)
5.3%
C)
8.3%
D)
9.1%
E)
11.11%
Ans: E

Level: Intermediate

Subject: Sustainable Growth Rate

Copyright 2005 McGraw-Hill Ryerson Limited.

Type: Problems

Page 24

Chapter 4 Long-Term Financial Planning and Corporate Growth


Use the following to answer questions 122-125:

Cash
Inventory
Fixed assets

$ 50
$150
$600

Total assets

$800

Stone Roses Co.


Balance Sheet
Accounts payable
Notes payable
Long-term debt
Equity
Total liabilities & equity

$100
100
350
250
$800

Stone Roses Co.


Income statement
Sales
Costs
EBT
Taxes (34%)
Net income

$800
600
$200
68
$132

122. Suppose that current assets, costs, and accounts payable maintain a constant ratio to sales. The firm retains
40% of earnings. If the firm is producing at only 90% capacity, what is the total external financing needed
if sales increase 25%?
A)
$1
B)
$34
C)
$41
D)
$47
E)
$94
Ans: B

Level: Challenge

Subject: External Financing Needed

Type: Problems

123. Suppose the firm retains 28% of earnings, while assets and costs maintain a constant percentage of sales. If
the firm is producing at full capacity, what is the internal growth rate?
A)
1.9%
B)
4.8%
C)
10.1%
D)
13.5%
E)
17.3%
Ans: B

Level: Challenge

Subject: Internal Growth Rate

Type: Problems

124. Suppose that assets and costs maintain a constant ratio to sales. The firm retains 30% of earnings. If the
firm is producing at full capacity, what is the maximum growth rate, assuming no equity sales, that will
maintain a constant debt-equity ratio?
A)
5.2%
B)
15.6%
C)
18.8%
D)
21.0%
E)
29.2%
Ans: C

Level: Challenge

Subject: Sustainable Growth Rate

Type: Problems

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 25

Chapter 4 Long-Term Financial Planning and Corporate Growth

125. Suppose the firm wishes to maintain a constant debt-equity ratio, retains 60% of net income, and raises no
new equity. Assets and costs maintain a constant ratio to sales. What is the maximum increase in sales the
firm can achieve?
A)
$88
B)
$249
C)
$371
D)
$429
E)
$580
Ans: C

Level: Challenge

Subject: Sustainable Growth Rate

Type: Problems

Use the following to answer questions 126-132:


Stansfield Corporation
Income Statement
($ in millions)
Sales
Costs
EBT
Taxes (34%)
Net income
Retained earnings
Dividends

$300
250
$ 50
17
$ 33
$ 22
$ 11

Cash
Accounts receivables
Inventory
Current assets
Net plant & equip.
Total assets

Stansfield Corporation
Balance Sheet
($ in millions)
$5
Accounts payable
40
Notes payable
65
Current liabilities
$110
Long-term debt
290
Common stock
Retained earnings
$400
Total liab. & equity

$ 40
30
$ 70
155
75
100
$400

126. Assuming a constant profit margin, what will Stansfield Corporation's net income be if sales increase by
10%?
A)
$33.0 million
B)
$34.5 million
C)
$36.3 million
D)
$39.6 million
E)
$60.0 million
Ans: C

Level: Challenge

Subject: Percentage Of Sales

Type: Problems

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 26

Chapter 4 Long-Term Financial Planning and Corporate Growth

127. What is Stansfield Corporation's addition to retained earnings with a 10% increase in sales? Assume the
dividend payout ratio and profit margin remain fixed.
A)
$22.0 million
B)
$24.2 million
C)
$26.4 million
D)
$29.7 million
E)
$39.0 million
Ans: B

Level: Challenge

Subject: Retained Earnings

Type: Problems

128. Assume Stansfield Corporation is operating at full capacity. What will total assets be if sales increase by
10%? Assume costs, current liabilities, and current assets vary directly with sales and that the dividend
payout ratio remains unchanged.
A)
$225.0 million
B)
$231.6 million
C)
$246.7 million
D)
$330.5 million
E)
$440.0 million
Ans: E

Level: Challenge

Subject: Total Assets

Type: Problems

129. Assume Stansfield Corporation is utilizing its fixed assets at 90% capacity. Assume costs, current
liabilities, and current assets vary directly with sales, and that the dividend payout ratio remains unchanged.
If sales increase by 20%, what will total fixed assets be?
A)
$256 million
B)
$286 million
C)
$313 million
D)
$359 million
E)
$470 million
Ans: C

Level: Challenge

Subject: Full Capacity Sales

Type: Problems

130. How much external financing is needed for a 20% increase in sales if the Corporation is currently operating
at full capacity? Assume assets and costs vary directly with sales but no current liabilities increase with
sales and that the dividend payout ratio remains fixed.
A)
$0
B)
$23.2 million
C)
$27.6 million
D)
$37.4 million
E)
$53.6 million
Ans: E

Level: Challenge

Subject: External Financing Needed

Type: Problems

131. What is the addition to retained earnings if Stansfield grows at the internal growth rate? (Assume the
dividend payout ratio is fixed.)
A)
$5.8 million
B)
$13.3 million
C)
$23.3 million
D)
$24.9 million
E)
$33.0 million
Ans: C

Level: Challenge

Subject: Internal Growth Rate

Type: Problems

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 27

Chapter 4 Long-Term Financial Planning and Corporate Growth

132. What is Stansfield Corporation's addition to total assets if they grow at the sustainable growth rate?
(Assume the dividend payout ratio is fixed.)
A)
$15 million
B)
$23 million
C)
$32 million
D)
$44 million
E)
$58 million
Ans: E

Level: Challenge

Subject: Sustainable Growth Rate

Type: Problems

Use the following to answer questions 133-141:


Marble Comics Group
Balance Sheet for Years Ending 2002 and 2003
($ in millions)
2002
2003
Cash
Accounts receivable
Inventory
Current assets
Fixed assets
Total assets

$ 75
230
240
545
788

$ 135
214
188
537
890

$1,333

$1,427

Accounts payable
Notes payable
Current liabilities
Long-term debt
Common stock
Retained earnings
Total liab. & equity

Marble Comics Group


2003 Income Statement
($ in millions)
Net sales
Less:
Cost of goods sold
Less:
General & adm. expenses
Less:
Depreciation
Earnings before interest and taxes
Less:
Interest paid
Earnings before taxes
Less:
Taxes
Net income

$905
522
93
110
180
61
119
30
$ 89

133. What is Marble's earnings retention ratio for 2003?


A)
0.37
B)
0.49
C)
0.63
D)
0.89
E)
0.92
Ans: C

Level: Basic

Subject: Retention Ratio

Type: Problems

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 28

2002

2003

$ 89
227
316
615
55
347
$1,333

$110
442
552
440
55
380
$1,427

Chapter 4 Long-Term Financial Planning and Corporate Growth

134. Suppose Marble is projecting a 20% increase in sales for the coming year, and that cost of goods sold and
general/administrative expenses remain a constant percentage of sales. Also assume that depreciation,
interest paid, and the firm's tax rate remain unchanged. What will the firm pay out in dividends in 2004?
Assume the firm's dividend payout is 40%.
A)
$30
B)
$32
C)
$48
D)
$53
E)
$67
Ans: D

Level: Intermediate

Subject: Dividends

Type: Problems

135. Based on the 2003 data, what is Marble's capital intensity ratio?
A)
1.20
B)
1.23
C)
1.35
D)
1.47
E)
1.58
Ans: E

Level: Basic

Subject: Capital Intensity

Type: Problems

136. Suppose Marble is currently operating at 70% of capacity. What are full capacity sales?
A)
$271
B)
$633
C)
$986
D)
$1,293
E)
$3,017
Ans: D

Level: Intermediate

Subject: Full Capacity Sales

Type: Problems

137. Assume Marble is projecting a 20% increase in sales for the coming year, and that assets, all costs, and
current liabilities are proportional to sales. Long-term debt is not proportional to sales. Assume the firm's
tax rate remains unchanged and the dividend payout is 40%. What is the external financing needed (EFN)
for 2004?
A)
$64.1
B)
$110.9
C)
$132.3
D)
$146.7
E)
$152.9
Ans: B

Level: Challenge

Subject: External Financing Needed

Copyright 2005 McGraw-Hill Ryerson Limited.

Type: Problems

Page 29

Chapter 4 Long-Term Financial Planning and Corporate Growth

138. Assume Marble is projecting a 20% increase in sales for the coming year, with current assets, all costs, and
current liabilities proportional to sales. Long-term debt is not proportional to sales. If the firm's tax rate
remains unchanged, the dividend payout is 40%, and Marble is operating at 70% of capacity, what is the
external financing needed (EFN) for 2004?
A)
EFN is negative
B)
$21.94
C)
$48.31
D)
$76.32
E)
$89.85
Ans: A

Level: Challenge

Subject: External Financing Needed

Type: Problems

139. Which of the following describes the components of Marble's 2003 ROE from the Du Pont identity?
A)
.098; .634; 3.28
B)
.098; .679; 3.28
C)
.098; .679; 3.06
D)
.098; .634; 3.06
E)
.098; .679; 3.76
Ans: A

Level: Intermediate

Subject: Determinants Of Growth

Type: Problems

140. Based on the 2003 financial statement data, Marble's internal growth rate is ______. (Assume the dividend
payout ratio is fixed.)
A)
2.4%
B)
2.5%
C)
4.1%
D)
8.2%
E)
9.5%
Ans: A

Level: Intermediate

Subject: Internal Growth Rate

Type: Problems

141. Based on the 2003 financial statement data, Marble's sustainable growth rate is _______. (Assume the
dividend payout ratio is fixed.)
A)
2.4%
B)
2.5%
C)
4.1%
D)
8.2%
E)
9.5%
Ans: D

Level: Intermediate

Subject: Sustainable Growth Rate

Type: Problems

Use the following to answer questions 142-144:


Current Assets
Net Fixed A.

$100
$200

Total Assets

$300

Accts. Pay.
Long term debt
Equity
Total L&E
Net Income

$50
$100
$150
$300
$132

Sales
Costs
Taxable income
Taxes

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 30

$1,000
$800
$200
$68

Chapter 4 Long-Term Financial Planning and Corporate Growth

142. Assume costs, assets, and accounts payable all increase at the same rate as sales. Also assume 80% of net
income is paid out in dividends. If sales grow at 25%, compute external financing needed.
A)
$0.00
B)
$4.50
C)
$22.50
D)
$29.50
E)
$52.00
Ans: D

Level: Challenge

Subject: External Financing Needed

Type: Problems

143. Assume costs, accounts payable, and current assets all increase at the same rate as sales. Also assume 80%
of net income is paid out in dividends and that the firm is currently operating at 90% of capacity. If sales
grow at 25%, compute external financing needed.
A)
$0.00
B)
$4.50
C)
$22.50
D)
$29.50
E)
$52.00
Ans: B

Level: Challenge

Subject: External Financing Needed

Type: Problems

144. Assume costs and assets increase at the same rate as sales. Also assume 40% of net income is paid out in
dividends. What is the maximum growth rate achievable assuming no external debt or equity is available?
A)
11.2%
B)
25.4%
C)
35.8%
D)
51.6%
E)
111.8%
Ans: C

Level: Challenge

Subject: Internal Growth Rate

Type: Problems

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 31

Chapter 4 Long-Term Financial Planning and Corporate Growth


Use the following to answer question 145:
Marble Comics Group
Balance Sheet for Year Ending 2002 and 2003
($ in millions)
2002
2003
2002
Cash
Accounts receivable
Inventory
Current assets
Fixed assets
Total assets

$ 75
230
240
545
788

$ 135
214
188
537
890

$1,333

$1,427

2003

Accounts payable
Notes payable
Current liabilities
Long-term debt
Common stock
Retained earnings
Total liab. & equity

$ 89
227
316
615
55
347
$1,333

$110
442
552
440
55
380
$1,427

Marble Comics Group


2003 Income Statement
($ in millions)
Net sales
$905
Less:
Cost of goods sold
Less:
General & adm. expenses
Less:
Depreciation
Earnings before interest and taxes
Less:
Interest paid
Earnings before taxes
Less:
Taxes
Net income

522
93
110
180
61
119
30
$ 89

145. Assume costs and assets increase at the same rate as sales. Also assume 40% of net income is paid out in
dividends, the current debt to equity ratio is optimal, and that no new equity sales are possible) Forecast the
addition to retained earnings assuming the firm's sales increase at the maximum percent possible given
these assumptions.
A)
$43.2
B)
$88.5
C)
$113.3
D)
$146.7
E)
$167.8
Ans: E

Level: Challenge

Subject: Sustainable Growth Rate

Type: Problems

146. A firm currently has sales of $630,000 and costs of $553,636. The marginal tax rate is 34%. Under the
percentage of sales approach, what is the projected net income if sales are expected to increase by 15%?
A)
$50,400
B)
$54,432
C)
$57,961
D)
$72,641
E)
$94,500
Ans: C

Level: Intermediate

Subject: Percentage Of Sales Approach

Copyright 2005 McGraw-Hill Ryerson Limited.

Type: Concepts

Page 32

Chapter 4 Long-Term Financial Planning and Corporate Growth

147. A firm currently has sales of $550,000, a 6% profit margin and a 40% dividend payout ratio. What is the
anticipated amount of dividends to be paid to shareholders if sales are expected to increase by 5%?
A)
$13,200
B)
$13,860
C)
$34,650
D)
$220,000
E)
$231,000
Ans: B

Level: Intermediate

Subject: Dividend Payout Ratio

Type: Concepts

148. A firm currently has sales of $864,000, a 34% marginal tax rate, and a dividend payout ratio of 55%. Costs
equal 85% of sales. What is the anticipated increase to retained earnings if sales are expected to increase by
6%?
A)
$38,492
B)
$40,801
C)
$47,044
D)
$49,867
E)
$90,668
Ans: B

Level: Intermediate

Subject: Plowback Ratio

Type: Concepts

149. At the end of last year, a firm had a current ratio of 1.4, net fixed assets of $2,500, notes payable of $0, and
total assets of $5,100. Based on pro-forma sales, current liabilities will increase by $500 and current assets
will increase by $900. By how much can notes payable increase on the pro forma statement without
changing the current ratio?
A)
$0
B)
$143
C)
$400
D)
$667
E)
$760
Ans: B

Level: Challenge

Subject: Pro-Forma Net Working Capital

Type: Concepts

150. A firm has sales of $650,969 and is operating at 83% capacity. The firm has total assets of $498,300 and
current assets of $86,900. What is the capital intensity ratio at full capacity?
A)
.52
B)
.64
C)
1.04
D)
1.58
E)
1.92
Ans: B

Level: Intermediate

Subject: Capacity Usage

Type: Concepts

151. A firm has an ROE of 7.5% and an ROA of 13.5%. What is the internal growth rate if the firm has a 40%
dividend payout ratio?
A)
4.71%
B)
5.71%
C)
8.10%
D)
8.81%
E)
9.19%
Ans: D

Level: Intermediate

Subject: Internal Growth Rate

Type: Concepts

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 33

Chapter 4 Long-Term Financial Planning and Corporate Growth

152. Assuming the following ratios are constant, what is the sustainable growth rate?
Total asset turnover
Profit margin
Equity multiplier
Payout ratio
A)
8.00%
B)
10.62%
C)
14.40%
D)
16.82%
E)
24.00%
Ans: B

= 2.00
= .0%
= 1.50
= 60%

Level: Intermediate

Subject: Sustainable Growth Rate

Type: Concepts

153. Based on the following information, what is the sustainable growth rate?
Dividends
Net income
Debt-equity ratio
Capital intensity ratio
Profit margin
= 8%
A)
3.09%
B)
3.99
C)
5.42%
D)
6.11%
E)
9.90%
Ans: D

Level: Challenge

= $12,000
= $30,000
= .50
= 1.25

Subject: Sustainable Growth Rate

Type: Concepts

154. A firm currently has sales of $1.32 million and $964,500 in fixed assets. Currently operations are at 84% of
capacity. By how much can sales increase without requiring the firm to purchase any additional fixed
assets?
A)
$154,320
B)
$183,714
C)
$211,200
D)
$251,429
E)
$355,500
Ans: D

Level: Intermediate

Subject: Full Capacity

Type: Concepts

155. A firm has an 8% profit margin and a .9 ratio of sales to total assets. The firm maintains a 40% dividend
payout ratio and a 10% rate of growth. If the debt-equity ratio is held constant, what must that rate be?
A)
.70
B)
.89
C)
1.11
D)
1.52
E)
1.70
Ans: A

Level: Challenge

Subject: Growth And Debt-Equity Ratio

Copyright 2005 McGraw-Hill Ryerson Limited.

Type: Concepts

Page 34

Chapter 4 Long-Term Financial Planning and Corporate Growth


Use the following to answer questions 156-160:
Wintergreen, Inc
Income Statement for the Present Year
Net sales
Costs
Taxable income
Taxes
Net income

$14,650
$12,103
$2,547
$866
$1,681
Wintergreen, Inc.
Balance Sheet for the Present Year

Cash
Accounts receivable
Inventory
Total
Net fixed assets

$525
$3,135
$976
$4,636
$23,770

Total assets

$28,406
$28,406

Accounts payable
Notes payable
Total
Long-term debt
Common stock
Retained earnings
Total liabilities and equity

$1,963
$2,618
$4,581
$6,600
$7,500
$9,725

Assets, accounts payable and costs are proportional to sales. Debt and equity are not.
156. Sales of Wintergreen, Inc. are expected to increase by 7% next year. Wintergreen is currently operating at
maximum capacity. Wintergreen does not pay a dividend. Given this projection, which one of the following
statements is correct concerning next year's pro forma statement for Wintergreen Inc. if the percentage of
sales approach is used?
A)
Costs are projected to be $11,311.
B)
Net income is projected to be $1,986.
C)
The projected retained earnings is $11,406.
D)
The long-term debt is projected to be $7,062.
E)
The EFN is projected to be $52.
Ans: E

Level: Intermediate

Subject: Percentage Of Sales Method

Type: Concepts

157. Sales of Wintergreen, Inc are expected to increase by 6% next year. Wintergreen is currently operating at
maximum capacity. Wintergreen has a 20% dividend payout ratio. What is the external financing need?
A)
-$196
B)
-$161
C)
$161
D)
$196
E)
$279
Ans: C

Level: Intermediate

Subject: External Financing Need

Copyright 2005 McGraw-Hill Ryerson Limited.

Type: Concepts

Page 35

Chapter 4 Long-Term Financial Planning and Corporate Growth

158. Sales of Wintergreen, Inc. are expected to increase by 12% next year. Wintergreen is currently operating at
85% of capacity. The plowback ratio is 60%. What is the external financing need?
A)
-$810
B)
-$433
C)
$1,290
D)
$1,563
E)
$2,043
Ans: A

Level: Challenge

Subject: External Financing Need

Type: Concepts

159. Wintergreen, Inc. is producing at 82% of capacity. What is the capital intensity ratio at maximum capacity?
A)
.53
B)
.63
C)
1.22
D)
1.44
E)
1.59
Ans: E

Level: Intermediate

Subject: Capital Intensity Ratio

Type: Concepts

160. Sales of Wintergreen, Inc. are expected to increase by 13% next year. The dividend payout ratio is 35%.
The company is currently operating at 93% of capacity. What is the projected retained earnings balance at
the end of next year?
A)
$132
B)
$414
C)
$1,235
D)
$2,087
E)
$2,203
Ans: C

Level: Intermediate

Subject: Retained Earnings

Type: Concepts

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 36

Chapter 4 Long-Term Financial Planning and Corporate Growth


Use the following to answer questions 161-165:
Douglass Enterprises
Income Statement for the Present Year
Sales
Costs
Taxable Income
Taxes
Net Income
Dividends
Addition to ret. earnings

$4,840
$4,120
$720
$245
$475
$190
$285

Douglass Enterprises
Balance Sheet for the Present Year
Cash
Accounts rec.
Inventory
Current assets
Fixed assets

$1,010
$302
$361
$1,673
$5,200

Total assets

$6,873

Accounts payable
Notes payable
Current liabilities
Long-term debt
Common stock
Retained earnings
Total liabilities. & equity

$536
$1,500
$2,036
$1,200
$3,000
$637
$6,873

Assets, accounts payable and costs are proportional to sales. Debt and equity are not.
161. What is the internal rate of growth for Douglass Enterprises?
A)
4.33%
B)
6.00%
C)
6.91%
D)
7.39%
E)
11.24%
Ans: A

Level: Intermediate

Subject: Internal Rate Of Growth

Type: Concepts

162. What is the sustainable rate of growth for Douglass Enterprises?


A)
7.84%
B)
8.50%
C)
8.69%
D)
9.22%
E)
15.02%
Ans: B

Level: Intermediate

Subject: Sustainable Rate Of Growth

Copyright 2005 McGraw-Hill Ryerson Limited.

Type: Concepts

Page 37

Chapter 4 Long-Term Financial Planning and Corporate Growth

163. The sales of Douglass Enterprises are expected to increase by 14% next year. The firm is currently
producing at full capacity. Management wants to maintain a constant debt-equity ratio and a constant
dividend payout ratio. What is the external financing need?
A)
-$325
B)
-$238
C)
$542
D)
$562
E)
$962
Ans: D

Level: Intermediate

Subject: External Financing Need

Type: Concepts

164. The sales of Douglass Enterprises are expected to increase by 9% next year. The debt-equity ratio and the
dividend payout ratio are to be held constant. Currently the firm is producing at 82% of capacity. What is
the addition to retained earnings?
A)
$311
B)
$385
C)
$437
D)
$475
E)
$518
Ans: A

Level: Intermediate

Subject: Addition To Retained Earnings

Type: Concepts

165. The sales of Douglass Enterprises are expected to increase by 10% next year. The debt-equity ratio and the
dividend payout ratio are to be held constant. Currently the firm is producing at 88% of capacity. What is
the required increase in net fixed assets?
A)
$0
B)
$176
C)
$281
D)
$312
E)
$520
Ans: A

Level: Intermediate

Subject: Increase In Net Fixed Assets

Type: Concepts

166. The authors state that "conventional business wisdom holds that financial plans don't work, but financial
planning does. " What is meant by this? Ignoring the accuracy of the numbers in a financial plan (which
can only be determined after the fact anyway), what does the process of financial planning accomplish?
Ans: An underlying theme of the chapter is that, while no one can predict future events, the act of
planning for various contingencies forces decision-makers to consider what might happen, as well as
the interactions between investment and financing decisions and the implications of their decisions
on other aspects of firm performance. In other words, alert students will pick up on the integrative
nature of financial planning.
Level: Challenge

Subject: Financial Planning

Type: Essays

167. How would you respond to a business owner who says "I see no need in putting together a financial plan
for the future. All of the numbers in the plan are just guesses anyway, no one knows what will happen for
sure. I have a good idea what sales will be and beyond that, if sales are good, who needs a plan?"
Ans: This is an open-ended question that basically asks students to list the advantages to be gained from
financial planning. More importantly, it may be a question the student has not thought about in
these terms.
Level: Challenge

Subject: Benefits of Planning

Type: Essays

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 38

Chapter 4 Long-Term Financial Planning and Corporate Growth

168. What do you think will happen to a growing business whose owner can forecast sales quite accurately but
has no idea what impact sales growth will have on assets?
Ans: The business will need to add assets to grow, and will likely experience external financing needs. In
addition, the firm will likely experience liquidity problems and the manager will need to devote time
and energy to solving those problems.
Level: Challenge

Subject: Financial Planning

Type: Essays

169. It is stated in the text that the planner's assumptions about future sales growth serves as the "driver" for the
financial plan. What factors and/or types of decisions determine how much sales growth the firm can
accommodate?
Ans: This is an open-ended question which really gets to the heart of the financial planning process; i.e.,
the management of growth. Some instructors may wish to emphasize in their lectures that (to
paraphrase Higgins) a firm can "grow itself out of business". In other words, rapid, unexpected sales
increases can result in poor capital budgeting, financing, or working capital decisions. By
understanding what factors contribute to the firm's internal and sustainable growth rates, students can
better understand the nature of the decisions necessary to accommodate growth.
Level: Challenge

Subject: Sales Growth

Type: Essays

170. Suppose a firm calculates its EFN and finds that it is negative. What are the firm's options in this case?
Ans: With negative EFN, 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. As a least-best alternative, the firm
could choose to add assets, but this requires some additional assumptions about NPVs, etc.
Level: Challenge

Subject: Negative EFN

Type: Essays

171. State the assumptions that underlie the sustainable growth rate and interpret what the sustainable growth
rate means.
Ans: The usual assumptions are: Costs and assets increase proportionately with sales, the dividend payout
ratio is fixed (or is given), the current debt-equity ratio is optimal, no new equity sales are possible.
The sustainable growth rate is the maximum rate at which sales can increase with the restriction that
no new equity sales are possible and long-term debt increases only in an amount that keeps the debtequity ratio fixed.
Level: Challenge

Subject: Sustainable Growth

Type: Essays

172. Consider a firm which forecasts that costs, assets, and current liabilities will all change proportionately with
sales and the dividend payout ratio will remain fixed. How will the firm's ROE change as a result of a
forecast 30% increase in sales? How will the individual components of ROE (the Du Pont identity) change?
Why?
Ans: The ROE and all of its componentsprofit margin, total asset turnover, and equity multiplierwill
all remain unchanged. This is the essence of the percentage of sales approach to forecasting.
Level: Intermediate

Subject: Interpreting Growth

Type: Essays

Copyright 2005 McGraw-Hill Ryerson Limited.

Page 39

Chapter 4 Long-Term Financial Planning and Corporate Growth

173. Fixed assets are often said to grow in a "stair-step" like manner. What does this mean? Why is this a better
way to explain the growth of fixed assets as compared to saying that fixed assets grow proportionally with
sales?
Ans: The nature of fixed assets prevents them from rising proportionately with each unit increase in sales.
Instead, a firm will purchase new equipment or build a new facility as it nears full capacity. The new
assets will then increase the capacity level and cause the firm to produce below that level. This will
continue until such time as sales begin to reach the new maximum level of production, at which time
the firm will consider additional fixed asset purchases. Thus, fixed assets increase in a "stair-step"
like pattern rather than as a straight linear function.
Level: Intermediate

Subject: Fixed Asset Growth

Type: Essays

174. In general, would firms tend to follow the internal rate of growth or the sustainable rate of growth? Explain
the reasoning behind your answer.
Ans: While opinions may vary, this question should get students thinking about the differences and the
meaning of each growth rate. Since many firms tend to hold their debt-equity ratio fairly constant,
the primary argument should be that the sustainable growth rate is more commonly used.
Level: Intermediate

Subject: Internal Versus Sustainable Rate Of Growth

Copyright 2005 McGraw-Hill Ryerson Limited.

Type: Essays

Page 40