Chapter 13 Dividend Policy and Internal Financing

71) What differentiates "discretionary financing needs" from "external financing needs"?

A) assets

B) retained earnings

C) sales

D) spontaneous liabilities

72) Which of the following is a limitation of the "percent of sales method" of preparing pro forma financial statements?

A) A firm's investment in accounts receivable is seldom related to sales volume.

B) Not all assets and liabilities increase or decrease as a constant percent of sales.

C) Inventory levels are seldom affected by changes in sales volume.

D) The dividend payout ratio may change from one year to the next.

73) At a minimum, the sales forecast for the coming year would reflect

A) any future trend in sales that is expected to begin in the new year.

B) the influence of any anticipated events that might materially affect the sales trend.

C) both of the above are correct.

D) neither of the above are correct.

74) A budget

A) records the amount and timing of the firm's past financing needs.

B) provides a basis for taking corrective action in the event that budgeted figures do not match actual or realized figures.

C) remains independent of the human resource performance evaluation task.

D) only makes sense for annual periods of time.

75) All of the following are examples of sources of discretionary financing EXCEPT

A) bank loans.

B) notes payable.

C) trade credit.

D) common stock.

76) Predicting a firm's future financial needs includes all of the following steps EXCEPT

A) review of the firm's sales revenues and expenses over all past planning periods.

B) estimation of investment levels for current and fixed assets.

C) determination of the firm's financing needs for the period.

D) estimation of projected sales and expenses.

77) Using the 2012 financial statements for DRE Corporation and this additional information, prepare a pro forma income statement and balance sheet for the year 2013. Determine the discretionary financing needed (DFN) and assume that if the DFN is positive, the company will increase long-term debt, and if DFN is negative, the company will pay back some long-term debt.

Sales for next year (2013) are expected to increase by $300,000 to $1,800,000. The firm is running efficiently and at full capacity so that all assets and spontaneous liabilities are expected to increase proportionally with sales. The dividend payout ratio for 2013 will be 40%.

DRE Corporation

2012 Financial Statements

Income Statement ($)
Sales		1,500,000
Net Income		250,000
Balance Sheet ($)
Cash		400,000
Accounts Receivable		450,000
Inventory		350,000
Property, Plant, & Equipment		650,000
Total Assets		1,850,000
Accounts Payable		200,000
Short Term Notes Payable		250,000
Long-term Debt		550,000
Common Stock		200,000
Retained Earnings		650,000
Total Liabilities and Equity		1,850,000

78) Lindsey Insurance Co. has current sales of $10 million and predicts next year's sales will grow to $14 million. Current assets are $3 million and fixed assets are $4 million. The firm's net profit margin is 7 percent after taxes. Presently, Lindsey has $900,000 in accounts payable, $1.1 million in long-term debt, and $5 million (including $2.5 million in retained earnings) in common equity. Next year, Lindsey projects that current assets will rise in direct proportion to the forecasted sales, and that fixed assets will rise by $500,000. Lindsey also plans to pay dividends of $400,000 to common shareholders.

a. What are Lindsey's total financing needs for the upcoming year?

b. Given the above information, what are Lindsey's discretionary financing needs?

Learning Objective 2

1) The percent of sales forecasting method works well because it accounts for economies of scale in assets such as inventory.

2) When economies of scale exist, the percent of sales method will overestimate the assets required and therefore overestimate the amount of discretionary financing needed.