Chapter 13 Dividend Policy and Internal Financing

3) If a firm currently has excess capacity, then using the percent of sales method to forecast its fixed asset balance will likely result in an overestimate of the fixed asset balance and an inflated amount of discretionary financing needed.

4) AFB, Inc. is expecting sales to increase by 20% next year, but its net fixed assets are expected to remain at their current level. This is an example of

A) economies of scale.

B) lumpy assets.

C) spontaneous financing.

D) discretionary financing.

5) Southeast Wood Products, Inc. reports sales of $20,000,000 and inventory of $4,000,000. Southeast's inventory possesses significant economies of scale. Therefore, if the firm's sales increase by 10%, Southeast's inventory will ________ and if Southeast's sales decrease by 10%, Southeast's inventory will ________.

A) increase by more than 10%, increase by more than 10%

B) decrease by more than 10%, decrease by more than 10%

C) increase by more than 10%, decrease by less than 10%

D) increase by less than 10%, decrease by less than 10%

6) MDX Sales Corp. is expecting a 10% increase in sales next year. MDX has an inventory balance of $1,000,000 and uses the percent of sales forecasting method. Which of the following could explain why the inventory forecast of $1,100,000 might be too high?

A) The current inventory balance of $1,000,000 is lower than usual because of a one-time end of year fire sale.

B) The company is going to change its depreciation method in the coming year.

C) The growth in sales could be as high as 15%.

D) A fixed amount of inventory is required to do business, so inventory doesn't increase proportionally with sales.

7) The percent of sales method does not accurately estimate the balances for lumpy assets. Which of the following statements best describes the possible errors?

A) If excess capacity exists, the percent of sales method will overestimate asset requirements.

B) The percent of sales method consistently underestimates the forecasted balances of lumpy assets.

C) The percent of sales method consistently overestimates the forecasted balances of lumpy assets.

D) If fixed assets are utilized at full capacity currently, the percent of sales method will underestimate the forecasted fixed asset balance.

8) The accuracy of the percent of sales forecast method is impaired if

A) scale economies are present for assets.

B) assets must be purchased in discrete quantities.

C) asset needs are independent of sales level.

D) all of the above impair the accuracy of the percent of sales forecast method.

9) The term "lumpy asset" means

A) the same thing as assets that exhibit scale economies.

B) assets that can be purchased in incremental units.

C) assets that have economies of scale but not economies of scope.

D) assets that must be purchased in discrete quantities.

Learning Objective 3

1) Budgets should not be used for performance evaluation because there is too much uncertainty involved and this makes it unfair to the person being evaluated.

2) The percent of sales method provides a more detailed plan for future financing needs than the cash budget because both pro forma income statements and balance sheets are used in the analysis.

3) Cash budgets do not provide reasonable predictions for asset requirements when the asset purchases are lumpy.