B

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8/2/2007

Chapter 12. Tool Kit for Financial Planning and Forecasting Financial Statements

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MicroDrive's
5
recent financial statements are shown below.
6
7 INCOME STATEMENT
8 (in millions of dollars)
2007
2008
9
10 Sales
$2,850.0
$3,000.0
11 Costs except depreciation
$2,497.0
$2,616.2
12 Depreciation
$90.0
$100.0
13 Total operating costs
$2,587.0
$2,716.2
14 EBIT
$263.0
$283.8
15 Less Interest
$60.0
$88.0
16 Earnings before taxes (EBT)
$203.0
$195.8
17 Taxes (40%)
$81.2
$78.3
18 NI before preferred dividends
$121.8
$117.5
19 Preferred dividends
$4.0
$4.0
20 NI available to common
$117.8
$113.5
21
22 Dividends to common
$53.0
$57.5
$113.5
23 Add. to retained earnings (RE)
$64.8
$56.0
24
25 Shares of common equity
50
50
26 Dividends per share
$1.06
$1.15
27 Price per share
$26.00
$23.00
28
29 BALANCE SHEET
30 (in millions of dollars)
31
2007
2008
32 Assets
33 Cash
$15.0
$10.0
34 ST Investments
$65.0
$0.0
35 Accounts receivable
$315.0
$375.0
36 Inventories
$415.0
$615.0
37 Total current assets
$810.0
$1,000.0
38 Net plant and equipment
$870.0
$1,000.0
$1,680.0
$2,000.0
39 Total assets
40
41
2007
2008
42 Liabilities and equity
43 Accounts payable
$30.0
$60.0
44 Accruals
$130.0
$140.0
45 Notes payable
$60.0
$110.0
46 Total current liabilities
$220.0
$310.0
47 Long-term bonds
$580.0
$754.0
48 Total liabilities
$800.0
$1,064.0
49 Preferred stock
$40.0
$40.0
50 Common stock
$130.0
$130.0
51 Retained earnings
$710.0
$766.0
52 Total common equity
$840.0
$896.0
53 Total liabilities and equity
$1,680.0
$2,000.0
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SALES FORECAST (Section 12.2)
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58
Strategic planning is one of the core functions of an organization, and it involves the coordination of operating plans with
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financial plans. While operational plans outline how the firm intends to reach its corporate objectives, financial plans
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outline the manner in which the firm will obtain the necessary productive assets to operate. Financial planning generally
begins with a sales forecast, and that forecast generally starts with a review of the firm's recent history. Here are
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MicroDrive Inc.'s sales over the past 5 years:
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63
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Annual Growth
Rate
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Sales
Ln(Sales)
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2004
$2,058
7.63
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2005
2,534
23.1%
7.84
68
2006
2,472
-2.4%
7.81
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2007
2,850
15.3%
7.96
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2008
3,000
5.3%
8.01
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Average =
10.3%
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THE SALES FORECAST
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The first step in a sales forecast are several ways to estimate the historical growth rate, ranging from the simple to the complicated. The
simplest are to estimate the average annual growth rate and the compound annual growth rate.

B
C
D
E
F
G
H
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The first step in a sales forecast are several ways to estimate the historical growth rate, ranging from the simple to the complicated. The
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simplest are to estimate the average annual growth rate and the compound annual growth rate.
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Average annual growth rate =
10.3%
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Compound annual growth rate =
9.9% (Use the RATE function.)
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9.9% ((FV/PV)^1/n)-1
9.9%
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202

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C
D
E
F
G
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THE AFN FORMULA (Section 12.3)
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We can look at the additional funds needed using the AFN equation described in the text. This method
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identifies the additional funds needed as being the difference between the change in assets and 'the cumulative
change in spontaneous liabilities and retained earnings.
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208
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Forecast growth rate in sales =
10%
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211

AFN=

Required
Assets

Spontaneous
Liabilities

Required
Assets

Asset to Sales Ratio

Sales

=
=

0.6667
$200.00

$300.00

Spontaneous Liab.
to Sales Ratio

Sales

=
=

0.067
$20.00

$300.00

Profit Margin

Sales

=
=

0.0378
$61.58

$ 3,300.0

Spontaneous
Liabilities

Retained
Earnings

Retained
Earnings

212
213
214
215
216
Spontaneous
Liabilities

217
218
219
220

Retained
Earnings

221
222
223
224
225

AFN=

Required
Assets

Retention
Ratio
0.493

226
=
$200.00
$20.00
$61.58
227
AFN=
$118.42
228
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FINANCIAL STATEMENT FORECASTING: THE PERCENT OF SALES METHOD (Section 12.4)
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The text examines a forecast for a firm using the percentage of sales of method. This forecasting method assumes that many items on the
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financial statements are proportional to sales. In particular, it assumes that the following items are proportional to sales: (1) Costs; (2)
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Cash (i.e., the company needs a certain amount of cash on hand, since it does not know exactly when the checks it writes or deposits will
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clear the bank); (3) Accounts receivable; (4) Inventories; (5) Net plant and equipment (this is reasonable for the long-term; in the short246
term, firm's often have excess capacity, which we discuss later in this model); (6) Accounts payable; and (7) Accruals. It also assumes that
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Depreciation is proportional to Net plant and equipment. Other items on the financial statements are a direct result of the firm's financial
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policies (i.e., dividend policy and capital structure policy), which we discuss below.
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250
251
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The next step is to analyze the historical "Pro Forma" ratios. The actual historical statements are shown above in Rows 7-53. The ratios
needed for the Pro Forma analysis are shown below.
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254

Note: If you change the inputs below, you

can view a summary of results beginning
in Row 374.

255
256 Pro Forma Ratios
Actual
Historical
257
2007
2008
Average
258
259 Costs / Sales
87.614%
87.207%
87.410%
260 Depreciation / Net plant & equip.
10.345%
10.000%
10.172%
261 Cash / Sales
0.526%
0.333%
0.429%
262 Accounts Rec. / Sales
11.053%
12.500%
11.776%
263 Inventory / Sales
14.561%
20.500%
17.531%
264 Net plant & equip. / sales
30.526%
33.333%
31.930%
265 Accounts Pay. / Sales
1.053%
2.000%
1.526%
266 Accruals / Sales
4.561%
4.667%
4.614%
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268
269 Other Inputs
270
271 Sales Growth Rate
272 Tax rate
273 Dividend growth rate
274 Interest rate on notes payable and short-term investments
275 Interest rate on long-term bonds
276 Coupon rate on preferred stock
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278
279
Table 12-2 MicroDrive, Inc.: Actual and Projected Income Statements (Millions of Dollars)
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Actual
281
2008
Forecast basis
282
(1)
(2)
283 Sales
$ 3,000.0
110% x 2008 Sales =
284 Costs except depreciation
2,616.2
87.2% x 2009 Sales =
285 Depreciation
100.0
10% x 2009 Net plant =
286 Total operating costs
$ 2,716.2

Industry
Composite
87.064%
10.200%
1.000%
10.000%
11.111%
33.333%
1.000%
2.000%

Forecast
2009
87.200%
10.000%
0.333%
12.500%
20.500%
33.333%
2.000%
4.667%

10%
40%
8%
9%
11%
10%

Forecast
2009
(3)
$ 3,300.0 Note: we have used the ROUND function
$ 2,877.6
to make the calculations consistent with
the textbook.
$
110.0
$ 2,987.6

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0.872
0.1
0.003326667
0.125
0.205
0.333333333
0.02
0.046666667

0.1
0.4
0.08
0.09
0.11
0.1

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0.86
0.1
0.003326667
0.118
0.167
0.333333333
0.02
0.046666667

0.1
0.4
0.08
0.09
0.11
0.1

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0.86
0.1
0.003326667
0.118
0.167
0.333333333
0.02
0.046666667

0.2
0.4
0.08
0.09
0.11
0.1

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