15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth

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Financial Management - Chapter 4 Long-Term Financial Planning and Growth

Chapter 4 Long-Term Financial Planning and Growth

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1. Phil is working on a financial plan for the next three years. This time period is referred
to as which one of the following?

A. financial range
Blog Archive
B. planning horizon
► 2013 (86)
► 2015 (62) C. planning agenda
▼ 2016 (69)
► October (17) D. short-run
▼ November (45)
E. current financing period
Financial Management - Chapter 1
Introduction to C...
Financial Management - Chapter 2
Financial Stateme...

Financial Management - Chapter 3

Working with Fina... 2. Atlas Industries combines the smaller investment proposals from each operational unit
Financial Management - Chapter 4 into a single project for planning purposes. This process is referred to as which one of
Long-Term Financi... the following?
Financial Management - Chapter 5
Introduction to V... A. conjoining
Financial Management - Chapter 6
Discounted Cash F... B. aggregation
Financial Management - Chapter 6
Discounted Cash F... C. conglomeration
Financial Management - Chapter 7
Interest Rates an... D. appropriation
Financial Management - Chapter 7
Interest Rates an... E. summation
Financial Management - Chapter 8
Stock Valuation

Financial Management - Chapter 8

Stock Valuation (...
Financial Management - Chapter 9 3. Which one of the following terms is applied to the financial planning method which
Net Present Value... uses the projected sales level as the basis for determining changes in balance sheet and
Financial Management - Chapter 10 income statement account values?
Making Capital I...
Financial Management - Chapter 10
Making Capital I...

Financial Management - Chapter 11

Project Analysis...
Financial Management - Chapter 11
Project Analysis...

Financial Management - Chapter 12

Some Lessons fro...
Financial Management - Chapter 12
Some Lessons fro...

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth
Financial Management - Chapter 13
Return, Risk, an... A. percentage of sales method
Financial Management - Chapter 13
Return, Risk, an...
B. sales dilution method
Financial Management - Chapter 14
Cost of Capital
C. sales reconciliation method
Financial Management - Chapter 14
Cost of Capital ...
D. common-size method
Financial Management - Chapter 15
Raising Capital
E. trend method
Financial Management - Chapter 15
Raising Capital ...
Financial Management - Chapter 16
Financial Levera...
Financial Management - Chapter 16 4. Which one of the following terms is defined as dividends paid expressed as a
Financial Levera...
percentage of net income?
Financial Management - Chapter 17
Dividends and Pa...
A. dividend retention ratio
Financial Management - Chapter 17
Dividends and Pa...
B. dividend yield
Financial Management - Chapter 18
Short-Term Finan...
C. dividend payout ratio
Financial Management - Chapter 18
Short-Term Finan...
D. dividend portion
Financial Management - Chapter 19
Cash and Liquidi...
E. dividend section
Financial Management - Chapter 19
Cash and Liquidi...
Financial Management - Chapter 20
Credit and Inven...
Financial Management - Chapter 20
Credit and Inven... 5. Which one of the following correctly defines the retention ratio?
Financial Management - Chapter 21
International Co... A. one plus the dividend payout ratio
Financial Management - Chapter 21
International Co... B. addition to retained earnings divided by net income
Financial Management - Chapter 22
Behavioral Finan... C. addition to retained earnings divided by dividends paid
Financial Management - Chapter 23
Enterprise Risk ... D. net income minus additions to retained earnings
Financial Management - Chapter 24
Options and Corp... E. net income minus cash dividends
Financial Management - Chapter 24
Options and Corp...
Financial Management - Chapter 25
Option Valuation
Financial Management - Chapter 25 6. Which one of the following ratios identifies the amount of assets a firm needs in order
Option Valuation... to generate $1 in sales?
Financial Management - Chapter 26
Mergers and Acqu... A. current ratio
Financial Management - Chapter 26
Mergers and Acqu... B. equity multiplier
Financial Management - Chapter 27
Leasing C. retention ratio
► December (7)
D. capital intensity ratio
► 2017 (18)

► 2019 (10) E. payout ratio

► 2020 (4)
► 2021 (2)

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

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth
A. minimum growth rate achievable assuming a 100 percent retention ratio.

B. minimum growth rate achievable if the firm maintains a constant equity multiplier.

C. maximum growth rate achievable excluding external financing of any kind.

D. maximum growth rate achievable excluding any external equity financing while
maintaining a constant debt-equity ratio.

E. maximum growth rate achievable with unlimited debt financing.

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

A. minimum growth rate achievable assuming a 100 percent retention ratio.

B. minimum growth rate achievable if the firm maintains a constant equity multiplier.

C. maximum growth rate achievable excluding external financing of any kind.

D. maximum growth rate achievable excluding any external equity financing while
maintaining a constant debt-equity ratio.

E. maximum growth rate achievable with unlimited debt financing.

9. You are developing a financial plan for a corporation. Which of the following questions
will be considered as you develop this plan?

I. How much net working capital will be needed?

II. Will additional fixed assets be required?
III. Will dividends be paid to shareholders?
IV. How much new debt must be obtained?

A. I and IV only

B. II and III only

C. I, III, and IV only

D. II, III, and IV only

E. I, II, III, and

IV

10. Financial planning:

A. focuses solely on the short-term outlook for a firm.

B. is a process that firms employ only when major changes to a firm's operations are
anticipated.

C. is a process that firms undergo once every five years.

D. considers multiple options and scenarios for the next two to five years.

E. provides minimal benefits for firms that are highly responsive to economic changes.

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth

11. Financial planning accomplishes which of the following for a firm?

I. determination of asset requirements

II. development of plans to contend with unexpected events
III. establishment of priorities
IV. analysis of funding options

A. I and III only

B. II and IV only

C. I, III, and IV only

D. I, II, and III only

E. I, II, III, and

IV

12. Which of the following questions are appropriate to address during the financial
planning process?

I. Should the firm merge with a competitor?

II. Should additional shares of stock be sold?
III. Should a particular division be sold?
IV. Should a new product be introduced?

A. I, II, and III only

B. I, II, and IV only

C. I, III, and IV only

D. II, III, and IV only

E. I, II, III, and

IV

13. Which one of the following statements concerning financial planning for a firm is
correct?

A. Financial planning for fixed assets is done on a segregated basis within each
division.

B. Financial plans often contain alternative options based on economic developments.

C. Financial plans frequently contain conflicting goals.

D. Financial plans assume that firms obtain no additional external financing.

E. The financial planning process is based on a single set of economic assumptions.

14. You are getting ready to prepare pro forma statements for your business. Which one of
the following are you most apt to estimate first as you begin this process?

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth

A. fixed assets

B. current expenses

C. sales forecast

D. projected net income

E. external financing need

15. Which one of the following statements is correct?

A. Pro forma statements must assume that no new equity is issued.

B. Pro forma statements are projections, not guarantees.

C. Pro forma statements are limited to a balance sheet and income statement.

D. Pro forma financial statements must assume that no dividends will be paid.

E. Net working capital needs are excluded from pro forma computations.

16. When utilizing the percentage of sales approach, managers:

I. estimate company sales based on a desired level of net income and the current profit
margin.
II. consider only those assets that vary directly with sales.
III. consider the current production capacity level.
IV. can project both net income and net cash flows.

A. I and II only

B. II and III only

C. III and IV only

D. I, III, and IV only

E. II, III, and IV only

17. Which one of the following is correct in relation to pro forma statements?

A. Fixed assets must increase if sales are projected to increase.

B. Net working capital is affected only when a firm's sales are expected to exceed the
firm's current production capacity.

C. The addition to retained earnings is equal to net income plus dividends paid.

D. Long-term debt varies directly with sales when a firm is currently operating at
maximum capacity.

E. Inventory changes are directly proportional to sales changes.

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth
18. When constructing a pro forma statement, net working capital generally:

A. remains fixed.

B. varies only if the firm is currently producing at full capacity.

C. varies only if the firm maintains a fixed debt-equity ratio.

D. varies only if the firm is producing at less than full capacity.

E. varies proportionally with sales.

19. A pro forma statement indicates that both sales and fixed assets are projected to
increase by 7 percent over their current levels. Given this, you can safely assume that
the firm:

A. is projected to grow at the internal rate of growth.

B. is projected to grow at the sustainable rate of growth.

C. currently has excess capacity.

D. is currently operating at full capacity.

E. retains all of its net income.

20. A firm is currently operating at full capacity. Net working capital, costs, and all assets
vary directly with sales. The firm does not wish to obtain any additional equity
financing. The dividend payout ratio is constant at 40 percent. If the firm has a positive
external financing need, that need will be met by:

A. accounts payable.

B. long-term debt.

C. fixed assets.

D. retained earnings.

E. common stock.

21. Which one of the following policies most directly affects the projection of the retained
earnings balance to be used on a pro forma statement?

A. net working capital policy

B. capital structure policy

C. dividend policy

D. capital budgeting policy

E. capacity utilization policy

22. You are comparing the current income statement of a firm to the pro forma income

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth
statement for next year. The pro forma is based on a four percent increase in sales. The
firm is currently operating at 85 percent of capacity. Net working capital and all costs
vary directly with sales. The tax rate and the dividend payout ratio are fixed. Given this
information, which one of the following statements must be true?

A. The projected net income is equal to the current year's net income.

B. The tax rate will increase at the same rate as sales.

C. Retained earnings will increase by four percent over its current level.

D. Total assets will increase by less than four percent.

E. Total liabilities and owners' equity will increase by four percent.

23. A firm is operating at 90 percent of capacity. This information is primarily needed to

project which one of the following account values when compiling pro forma
statements?

A. sales

B. costs of goods sold

C. accounts receivable

D. fixed assets

E. long-term debt

24. Which one of the following capital intensity ratios indicates the largest need for fixed
assets per dollar of sales?

A. 0.70

B. 0.86

C. 1.00

D. 1.06

E. 1.15

25. Which of the following are needed to determine the amount of fixed assets required to
support each dollar of sales?

I. current amount of fixed assets

II. current sales
III. current level of operating capacity
IV. projected growth rate of sales

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth

A. I and III only

B. II and IV only

C. I, II, and III only

D. II, III, and IV only

E. I, II, III, and

IV

26. The plowback ratio is:

A. equal to net income divided by the change in total equity.

B. the percentage of net income available to the firm to fund future growth.

C. equal to one minus the retention ratio.

D. the change in retained earnings divided by the dividends paid.

E. the dollar increase in net income divided by the dollar increase in sales.

27. A firm's net working capital and all of its expenses vary directly with sales. The firm is
operating currently at 96 percent of capacity. The firm wants no additional external
financing of any kind. Which one of the following statements related to the firm's pro
forma statements for next year must be correct?

A. Total liabilities will remain constant at this year's value.

B. The maximum rate of sales increase is 4 percent.

C. The firm cannot exceed its internal rate of growth.

D. The projected owners' equity will equal this year's ending equity balance.

E. Fixed assets must remain constant at the current level.

28. Which one of the following will increase the maximum rate of growth a corporation
can achieve?

A. avoidance of external equity financing

B. increase in corporate tax rates

C. reduction in the retention ratio

D. decrease in the dividend payout ratio

E. decrease in sales given a positive profit margin

29. Martin Aerospace is currently operating at full capacity based on its current level of
assets. Sales are expected to increase by 4.5 percent next year, which is the firm's
internal rate of growth. Net working capital and operating costs are expected to

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth
increase directly with sales. The interest expense will remain constant at its current
level. The tax rate and the dividend payout ratio will be held constant. Current and
projected net income is positive. Which one of the following statements is correct
regarding the pro forma statement for next year?

A. The pro forma profit margin is equal to the current profit margin.

B. Retained earnings will increase at the same rate as sales.

C. Total assets will increase at the same rate as sales.

D. Long-term debt will increase in direct relation to sales.

E. Owners' equity will remain constant.

30. A firm's external financing need is financed by which of the following?

A. retained earnings

B. net working capital and retained earnings

C. net income and retained earnings

D. debt or equity

E. owners' equity, including retained earnings

31. Sales can often increase without increasing which one of the following?

A. accounts receivable

B. cost of goods sold

C. accounts payable

D. fixed assets

E. inventory

32. Blasco Industries is currently at full-capacity sales. Which one of the following is
limiting sales to this level?

A. net working capital

B. long-term debt

C. inventory

D. fixed assets

E. debt-equity ratio

33. All else constant, which one of the following will increase the internal rate of growth?

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth
A. decrease in the retention ratio

B. decrease in net income

C. increase in the dividend payout ratio

D. decrease in total assets

E. increase in costs of goods sold

34. The external financing need:

A. will limit growth if unfunded.

B. is unaffected by the dividend payout ratio.

C. must be funded by long-term debt.

D. ignores any changes in retained earnings.

E. considers only the required increase in fixed assets.

35. Which one of the following will cause the sustainable growth rate to equal to internal
growth rate?

A. dividend payout ratio greater than 1.0

B. debt-equity ratio of 1.0

C. retention ratio between 0.0 and 1.0

D. equity multiplier of 1.0

E. zero dividend payments

36. The sustainable growth rate:

A. assumes there is no external financing of any kind.

B. assumes no additional long-term debt is available.

C. assumes the debt-equity ratio is constant.

D. assumes the debt-equity ratio is 1.0.

E. assumes all income is retained by the firm.

37. If a firm equates its pro forma sales growth to the rate of sustainable growth, and has
positive net income and excess capacity, then the:

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth

A. maximum capacity level will have to increase at the same rate as sales growth.

B. total assets will have to increase at the same rate as sales growth.

C. debt-equity ratio will increase.

D. retained earnings will increase.

E. number of common shares outstanding will increase.

38. Sal's Pizza has a dividend payout ratio of 10 percent. The firm does not want to issue
additional equity shares but does want to maintain its current debt-equity ratio and its
current dividend policy. The firm is profitable. Which one of the following defines the
maximum rate at which this firm can grow?

A. internal growth rate × (1 - 0.10)

B. sustainable growth rate × (1 - 0.10)

C. internal growth rate

D. sustainable growth rate

E. zero percent

39. Which of the following can affect a firm's sustainable rate of growth?

I. capital intensity ratio

II. profit margin
III. dividend policy
IV. debt-equity ratio

A. III
only

B. I and III only

C. II, III, and IV only

D. I, II, and IV only

E. I, II, III, and

IV

40. Financial plans generally tend to ignore which one of the following?

A. dividend policy

B. manager's goals and objectives

C. risks associated with cash flows

D. operating capacity levels

E. capital structure policy

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth

41. The financial planning process tends to place the least emphasis on which one of the
following?

A. growth limitations

B. capacity utilization

C. market value of a firm

D. capital structure of a firm

E. dividend policy

42. The financial planning process:

I. involves internal negotiations among divisions.

II. quantifies senior manager's goals.
III. considers only internal factors.
IV. reconciles company activities across divisions.

A. III and IV only

B. II and III only

C. I, II, and IV only

D. II, III, and IV only

E. I, II, III, and

IV

43. A Procrustes approach to financial planning is based on:

A. a policy of producing a financial plan once every five years.

B. developing a plan around the goals of senior managers.

C. a proactive approach to the economic outlook.

D. a flexible capital budget.

E. a flexible capital structure.

44. Fresno Salads has current sales of $6,000 and a profit margin of 6.5 percent. The firm
estimates that sales will increase by 4 percent next year and that all costs will vary in
direct relationship to sales. What is the pro forma net income?

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth

A. $303.33

B. $327.18

C. $405.60

D. $438.70

E. $441.10

Net income = $6,000 × .065 × (1 + .04) = $405.60

45. Wagner Industrial Motors, which is currently operating at full capacity, has sales of
$29,000, current assets of $1,600, current liabilities of $1,200, net fixed assets of
$27,500, and a 5 percent profit margin. The firm has no long-term debt and does not
plan on acquiring any. The firm does not pay any dividends. Sales are expected to
increase by 4.5 percent next year. If all assets, short-term liabilities, and costs vary
directly with sales, how much additional equity financing is required for next year?

A. -$259.75

B. -$201.19

C. $967.30

D. $1,099.08

E. $1,515.25

Projected assets = ($1,600 + $27,500) × 1.045 = $30,409.50

Projected liabilities = $1,200 × 1.045 = $1,254
Current equity = $1,600 + $27,500 - $1,200 = $27,900
Projected increase in retained earnings = $29,000 × .05 × 1.045 = $1,515.25
Equity funding need = $30,409.50 - $1,254 - $27,900 - $1,515.25 = -$259.75

46. The Cookie Shoppe expects sales of $437,500 next year. The profit margin is 5.3
percent and the firm has a 30 percent dividend payout ratio. What is the projected
increase in retained earnings?

A. $16,231

B. $17,500

C. $18,300

D. $20,600

E. $21,000

Change in retained earnings = $437,500 × .053 × (1 - 0.30) = $16,231

47. Gladsden Refinishers currently has $21,900 in sales and is operating at 45 percent of
the firm's capacity. What is the full capacity level of sales?

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth

A. $31,755

B. $36,250

C. $48,667

D. $51,333

E. $54,500

Full-capacity sales = $21,900/0.45 = $48,667

48. The Corner Store has $219,000 of sales and $193,000 of total assets. The firm is
operating at 87 percent of capacity. What is the capital intensity ratio at full capacity?

A. 0.62

B. 0.68

C. 0.77

D. 1.35

E. 1.47

Full-capacity sales = $219,000/0.87 = $251,724.14

Capital intensity ratio = $193,000/$251,724.14 = 0.77

49. Miller Bros. Hardware is operating at full capacity with a sales level of $689,700 and
fixed assets of $468,000. The profit margin is 7 percent. What is the required addition
to fixed assets if sales are to increase by 10 percent?

A. $3,276

B. $4,680

C. $28,400

D. $32,760

E. $46,800

Required addition to fixed assets = $468,000 × 0.10 = $46,800

Or, Capital intensity ratio = $468,000/$689,700 = 0.678556
Required addition to fixed assets = $689,700 × 0.10 × 0.678556 = $46,800

50. Designer's Outlet has a capital intensity ratio of 0.92 at full capacity. Currently, total
assets are $48,900 and current sales are $51,200. At what level of capacity is the firm
currently operating?

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth

A. 89.1 percent

B. 91.6 percent

C. 96.3 percent

D. 96.8 percent

E. 98.2 percent

Total capacity sales = $48,900/0.92 = $53,152.17

Current capacity utilization = $51,200/$53,152.17 = 96.3 percent

51. Monika's Dinor is operating at 94 percent of its fixed asset capacity and has current
sales of $611,000. How much can the firm grow before any new fixed assets are
needed?

A. 4.99 percent

B. 5.78 percent

C. 6.02 percent

D. 6.38 percent

E. 6.79 percent

Full-capacity sales = $611,000/0.94 = $650,000

Maximum growth without additional assets = ($650,000/$611,000) - 1 = 6.38 percent

52. Stop and Go has a 4.5 percent profit margin and an 18 percent dividend payout ratio.
The total asset turnover is 1.6 and the debt-equity ratio is 0.45. What is the sustainable
rate of growth?

A. 8.13 percent

B. 8.54 percent

C. 8.89 percent

D. 9.26 percent

E. 9.36 percent

Return on equity = 0.045 × 1.60 × (1 + 0.45) = 0.1044

Sustainable growth = [0.1044 × (1 - 0.18)]/{1 - [.1044 × (1 - 0.18)]} = 9.36 percent

53. R. N. C., Inc. desires a sustainable growth rate of 4.5 percent while maintaining a 40
percent dividend payout ratio and a 6 percent profit margin. The company has a capital
intensity ratio of 1.23. What equity multiplier is required to achieve the company's
desired rate of growth?

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth

A. 1.33

B. 1.38

C. 1.42

D. 1.47

E. 1.53

0.045 = [ROE × (1 - 0.40)]/{1 - [ROE × (1 - 0.40)]}; ROE = .07177

0.07177 = 0.06 × (1/1.23) × EM; EM = 1.47

54. A firm has a retention ratio of 45 percent and a sustainable growth rate of 6.2 percent.
The capital intensity ratio is 1.2 and the debt-equity ratio is 0.64. What is the profit
margin?

A. 6.28 percent

B. 7.67 percent

C. 9.49 percent

D. 12.38 percent

E. 14.63 percent

0.062 = [ROE × 0.45]/[1 - (ROE × 0.45)]; ROE = .129734

0.129734 = PM × (1/1.2) × (1 + .64); PM = 9.49 percent

55. Frasier Cabinets wants to maintain a growth rate of 5 percent without incurring any
additional equity financing. The firm maintains a constant debt-equity ratio of .0.55, a
total asset turnover ratio of 1.30, and a profit margin of 9.0 percent. What must the
dividend payout ratio be?

A. 26.26 percent

B. 38.87 percent

C. 49.29 percent

D. 61.13 percent

E. 73.74 percent

Return on equity = 0.09 × 1.30 × (1 + 0.55) = 0.18135

Sustainable growth = [0.18135 × b]/[1 - (0.18135 × b)] = .05; b = 0.2626
Payout ratio = 1 - 0.2626 = 73.74 percent

56. Cross Town Express has sales of $137,000, net income of $14,000, total assets of
$98,000, and total equity of $45,000. The firm paid $7,560 in dividends and maintains
a constant dividend payout ratio. Currently, the firm is operating at full capacity. All
costs and assets vary directly with sales. The firm does not want to obtain any
additional external equity. At the sustainable rate of growth, how much new total debt
must the firm acquire?

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth

A. $0

B. $6,311

C. $6,989

D. $7,207

E. $8,852

Dividend payout ratio = $7,560/$14,000 = 0.54

Retention ratio = 1 - 0.54 = 0.46
Sustainable growth = [($14,000/$45,000) × 0.46]/{1 - [($14,000/$45,000) × 0.46]} =
0.167012
Projected total assets = $98,000 × 1.167012 = $114,367.22
Current debt = $98,000 - $45,000 = $53,000
Projected equity = $45,000 + ($14,000 × 1.167012 × 0.46) = $52,515.56
New debt required = $114,367.22 - $53,000 - $52,515.56 = $8,852

57. The Two Sisters has a 9 percent return on assets and a 75 percent retention ratio. What
is the internal growth rate?

A. 6.50 percent

B. 6.75 percent

C. 6.97 percent

D. 7.24 percent

E. 7.38 percent

Internal growth rate = (0.09 × 0.75)/[1 - (0.09 × 0.75)] = 7.24 percent

58. The Dog House has net income of $3,450 and total equity of $8,600. The debt-equity
ratio is 0.60 and the payout ratio is 30 percent. What is the internal growth rate?

A. 14.47 percent

B. 17.78 percent

C. 21.29 percent

D. 29.40 percent

E. 33.33 percent

Total assets = $8,600 × (1 + 0.60) = $13,760

Return on assets = $3,450/$13,760 = .250727
Internal growth = [.250727 × (1 - 0.30]/[1 - (.250727 × (1 - 0.30)] = 21.29 percent

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59.

What is Major Manuscripts, Inc.'s retention ratio?

A. 33 percent

B. 40 percent

C. 50 percent

D. 63 percent

E. 67 percent

Retention ratio = ($2,600 - $950)/$2,600 = 63 percent

60.

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth

Major Manuscripts, Inc. does not want to incur any additional external financing. The
dividend payout ratio is constant. What is the firm's maximum rate of growth?

A. 8.69 percent

B. 8.78 percent

C. 9.26 percent

D. 9.75 percent

E. 10.90 percent

Retention ratio = ($2,600 - $950)/$2,600 = 0.63

Internal growth rate = [($2,600/$20,640) × 0.63]/{1 - [($2,600/$20,640) × 0.63]} =
8.69 percent

61.

If Major Manuscripts, Inc. decides to maintain a constant debt-equity ratio, what rate of
growth can it maintain assuming that no additional external equity financing is
available.

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth

A. 11.23 percent

B. 12.49 percent

C. 12.83 percent

D. 13.27 percent

E. 13.65 percent

Retention ratio = ($2,600 - $950)/$2,600 = 0.63

Sustainable growth rate = {[$2,600/($10,000 + $4,510)] × 0.63}/{1-
[2,600/(10,000+4,510) x 0.63]} = 12.83 percent

62.

Major Manuscripts, Inc. is currently operating at maximum capacity. All costs, assets,
and current liabilities vary directly with sales. The tax rate and the dividend payout
ratio will remain constant. How much additional debt is required if no new equity is
raised and sales are projected to increase by 6 percent?

A. -$712

B. -$668

C. $241

D. $348

E. $367

Projected total assets = $20,640 × 1.06 = $21,878

Projected accounts payable = $3,350 × 1.06 = $3,551
Current long-term debt = $2,780
Current common stock = $10,000

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth
Projected retained earnings = $4,510 + [($2,600 - $950) × 1.06] = $6,259
Additional debt required = $21,878 - $3,551 - $2,780 - $10,000 - $6,259 = -$712

63.

Major Manuscripts, Inc. is currently operating at 82 percent of capacity. All costs and
net working capital vary directly with sales. The tax rate, the profit margin, and the
dividend payout ratio will remain constant. How much additional debt is required if no
new equity is raised and sales are projected to increase by 15 percent?

A. -$1,810

B. -$1,014

C. -$642

D. $244

E. $358

Projected current assets = $9,240 × 1.15 = $10,626

Projected capacity level = 0.82 × 1.15 = 0.943 (Will not exceed excess capacity.)
Projected fixed assets = $11,400
Projected accounts payable = $3,350 × 1.15 = $3,852.50
Current long-term debt = $2,780
Current common stock = $10,000
Projected retained earnings = $4,510 + [($2,600 - $950) × 1.15] = $6,407.5
Additional debt required = $10,626 + $11,400 - $3,852.5 - $2,780 - $10,000 - $6,407.5
= -$1,014

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth
64.

Assume the profit margin and the payout ratio of Major Manuscripts, Inc. are constant.
If sales increase by 9 percent, what is the pro forma retained earnings?

A. $5,220.18

B. $5,721.42

C. $6,308.50

D. $6,648.42

E. $7,028.56

Pro forma retained earnings = $4,510 + [($2,600 - $950) × 1.09)] = $6,308.50

65.

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth

Assume that Major Manuscripts, Inc. is currently operating at 97 percent of capacity

and that sales are projected to increase to $20,000. What is the projected addition to
fixed assets?

A. $0

B. $1,533

C. $1,629

D. $1,646

E. $1,688

Current maximum capacity = $17,100/.97 = $17,628.87

Required addition to fixed assets = [($11,400/$17,628.87) × $20,000] - $11,400 =
$1,533

66.

All of Fake Stone's costs and net working capital vary directly with sales. Sales are
projected to increase by 3.5 percent. What is the pro forma accounts receivable balance
for next year?

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth

A. $1,659.80

B. $1,661.84

C. $1,780.20

D. $1,787.80

E. $1,800.46

Pro forma accounts receivable = $1,720 × (1 + .035) = $1,780.20

67.

The profit margin, the debt-equity ratio, and the dividend payout ratio for Fake Stone,
Inc. are constant. Sales are expected to increase by $1,062 next year. What is the
projected addition to retained earnings for next year?

A. $92.34

B. $188.55

C. $1,909.16

D. $2,144.34

E. $2,386.08

Projected change in retained earnings = [($23,600 + $1,062)/$23,600] × ($3,420 -

$1,368) = $2,144.34

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth
68.

Assume that Fake Stone, Inc. is operating at full capacity. Also assume that all costs,
net working capital, and fixed assets vary directly with sales. The debt-equity ratio and
the dividend payout ratio are constant. What is the pro forma net fixed asset value for
next year if sales are projected to increase by 7.5 percent?

A. $19,800

B. $21,070

C. $23,600

D. $24,240

E. $26,810

Pro forma net fixed assets = $19,600 × (1 + 0.075) = $21,070

69.

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth

Assume that Fake Stone, Inc. is operating at 88 percent of capacity. All costs and net
working capital vary directly with sales. What is the amount of the pro forma net fixed
assets for next year if sales are projected to increase by 13 percent?

A. $19,600

B. $20,406

C. $21,500

D. $21,667

E. $22,148

Pro forma capacity level = 0.88 × (1 + 0.13) = 99.44 percent.

No additional fixed assets are required. Thus, fixed assets will remain at $19,600.

70.

Assume that Fake Stone, Inc. is operating at full capacity. Also assume that assets,
costs, and current liabilities vary directly with sales. The dividend payout ratio is
constant. What is the external financing need if sales increase by 12 percent?

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth

A. -$318.09

B. -$268.49

C. $103.13

D. $350.40

E. $460.56

External financing needed = (1.12 × $25,460) - (1.12 × $2,470) - $8,800 - $10,000 -

$4,190 - [$3,420 - $1,368 × 1.12] = $460.56

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth
71.

Fake Stone, Inc. is projecting sales to decrease by 4 percent next year while the profit
margin remains constant. The firm wants to increase the dividend payout ratio by 2
percent. What is the projected increase in retained earnings for next year?

A. $1,711.15

B. $1,898.67

C. $1,904.26

D. $1,969.92

E. $2,105.63

Projected dividend payout ratio = ($1,368/$3,420) = 40% + 2% = 42%

Retention ratio = 1 - 0.42 = 0.58
Projected increase in retained earnings = $3,420 × (1 - 0.04) × 0.58 = $1,904.26

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth
72.

What is the internal growth rate of Fake Stone, Inc. assuming the payout ratio remains
constant?

A. 5.20 percent

B. 5.55 percent

C. 7.36 percent

D. 7.49 percent

E. 8.77 percent

Internal growth = [($3,420/$25,460) × 0.6]/{1 - [($1,368/$3,420) × 0.6]} = 8.77

percent

73.

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth

What are the pro forma retained earnings for next year if Fake Stone, Inc. grows at a
rate of 2.5 percent and both the profit margin and the dividend payout ratio remain
constant?

A. $4,946.90

B. $5,023.10

C. $5,592.20

D. $5,920.67

E. $6,293.30

Pro forma retained earnings = $4,190 + [($3,420 - $1,368) × 1.025)] = $6,293.30

74.

Assume that net working capital and all of the costs of Fake Stone, Inc. increase
directly with sales. Also assume that the tax rate and the dividend payout ratio are
constant. The firm is currently operating at full capacity. What is the external financing
need if sales increase by 4 percent?

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth

A. -$1,214.48

B. -$804.15

C. -$397.19

D. $201.16

E. $525.38

Projected total assets = $25,460 × 1.04 = $26,478.40

Projected accounts payable = $2,470 × 1.04 = $2,568.80
Projected retained earnings = $4,190 + [($3,420 - $1,368) × 1.04] = $6,324.08
External financing need = $26,478.40 - $2,568.80 - $8,800 - $10,000 - $6,324.08 =
-$1,214.48

75-80

Hungry Howie's is currently operating at 80 percent of capacity. What is the full-

capacity level of sales?

A. $21,106.00

B. $21,580.62

C. $21,625.00

D. $24,506.17

E. $25,301.91

Full-capacity sales = $17,300/0.80 = $21,625.00

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth
76. Hungry Howie's is currently operating at 84 percent of capacity. What is the total asset
turnover ratio at full capacity?

A. .68

B. .78

C. .95

D. 1.29

E. 1.42

Full-capacity sales = $17,300/0.84 = $20,595.24

Total asset turnover at full-capacity = $20,595.24/$14,550 = 1.42

77. Hungry Howie's is currently operating at 96 percent of capacity. The profit margin and
the dividend payout ratio are projected to remain constant. Sales are projected to
increase by 5 percent next year. What is the projected addition to retained earnings for
next year?

A. $1,309.19

B. $11,753.50

C. $1,884.90

D. $2,667.78

E. $3,001.40

Projected addition to retained earnings = $1,670 × (1 + .05) = $1,753.50

78. Hungry Howie's is currently operating at full capacity. The profit margin and the
dividend payout ratio are held constant. Net working capital and fixed assets vary
directly with sales. Sales are projected to increase by 9 percent. What is the external
financing needed?

A. -$696.50

B. -$683.60

C. -$97.20

D. -$14.50

E. $26.80

Projected total assets = $14,550 × 1.09 = $15,859.5

Projected accounts payable = $1,920 × 1.09 = $2,092.8
Projected retained earnings = $1,530 + ($1,670 × 1.09) = $3,350.3
External financing need = $15,859.5 - $2,092.8 - $3,600 - $7,500 - $3,350.3 = -$683.60

79. Hungry Howie's maintains a constant payout ratio. The firm is currently operating at
full capacity. What is the maximum rate at which the firm can grow without acquiring
any additional external financing?

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth

A. 9.74 percent

B. 12.97 percent

C. 13.06 percent

D. 13.58 percent

E. 14.23 percent

Internal growth = [($2,120/$14,550) × ($1,670/$2,120)]/{1 - [($2,120/$14,550) ×

($1,670/$2,120)]} = 12.97 percent

80. Hungry Howie's is currently operating at 96 percent of capacity. What is the required
increase in fixed assets if sales are projected to increase by 14 percent?

A. $0

B. $811

C. $833

D. $908

E. $1,024

Full-capacity sales = $17,300/.96 = $18,020.83

Required increase in fixed assets = ($10,850/$18,020.83) × ($17,300 × 1.14) - $10,850
= $1,024

81. The most recent financial statements for Watchtower, Inc. are shown here (assuming no
income taxes):

Assets and costs are proportional to sales. Debt and equity are not. No dividends are
paid. Next year's sales are projected to be $4,750. What is the amount of the external
financing needed?

A. $797

B. $808

C. $811

D. $818

E. $823

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth
82. The most recent financial statements for Last in Line, Inc. are shown here:

Assets and costs are proportional to sales. Debt and equity are not. A dividend of $992
was paid, and the company wishes to maintain a constant payout ratio. Next year's sales
are projected to be $21,830. What is the amount of the external financing need?

A. $12,711

B. $13,333

C. $13,556

D. $13,809

E. $14,357

83. The most recent financial statements for 7 Seas, Inc. are shown here:

Assets, costs, and current liabilities are proportional to sales. Long-term debt and
equity are not. The company maintains a constant 50 percent dividend payout ratio.
Like every other firm in its industry, next year's sales are projected to increase by
exactly 16 percent. What is the external financing need?

A. $1,317.16

B. $1,411.16

C. $1,583.09

D. $2,211.87

E. $2,349.98

84. The most recent financial statements for Benatar Co. are shown here:

Assets and costs are proportional to sales. Debt and equity are not. The company
maintains a constant 40 percent dividend payout ratio. No external equity financing is
possible. What is the internal growth rate?

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth

A. 2.91 percent

B. 3.44 percent

C. 3.87 percent

D. 4.02 percent

E. 4.14 percent

Internal growth rate = [($2,665.26/$42,883) × (1 - 0.40)]/{1 - [($2,665.26/$42,883) ×

(1 - 0.40)]} = 3.87 percent

85. The most recent financial statements for Heng Co. are shown here:

Assets and costs are proportional to sales. The company maintains a constant 45
percent dividend payout ratio and a constant debt-equity ratio. What is the maximum
increase in sales that can be sustained next year assuming no new equity is issued?

A. $4,808.12

B. $5,211.17

C. $5,887.48

D. $5,894.60

E. $6,666.67

Return on equity = $13,068/$74,250 = 0.176

Retention ratio = 1 - .45 = .55
Sustainable growth rate = (0.176 × .55)/[1 - (0.176 × .55)] = .107174
Maximum increase in sales = $55,000 × .107174 = $5,894.60

86. Consider the income statement for Heir Jordan Corporation:

A 22 percent growth rate in sales is projected. What is the pro forma addition to
retained earnings assuming all costs vary proportionately with sales?

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth

A. $6,299

B. $7,303

C. $7,890

D. $8,011

E. $8,164

87. The Soccer Shoppe has a 9 percent return on assets and a 25 percent payout ratio. What
is its internal growth rate?

A. 4.72 percent

B. 5.08 percent

C. 5.49 percent

D. 6.23 percent

E. 7.24 percent

Retention ratio = 1 - 0.25 = 0.75

Internal growth rate = (0.09 × 0.75)/[1 - (0.09 × 0.75)] = 7.24 percent

88. The Parodies Corp. has a 22 percent return on equity and a 23 percent payout ratio.
What is its sustainable growth rate?

A. 18.68 percent

B. 19.25 percent

C. 19.49 percent

D. 20.39 percent

E. 22.00 percent

Retention ratio = 1 - 0.23 = 0.77

Sustainable growth rate = (0.22 × 0.77)/[1 - (0.22 × 0.77)] = 20.39 percent

89. Consider the following information for Kaleb's Kickboxing:

What is the sustainable rate of growth?

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth

A. 11.87 percent

B. 12.29 percent

C. 12.52 percent

D. 13.42 percent

E. 13.58 percent

Return on equity = .088 × (1/0.62) × (1 + 0.60) = 0.2270968

Retention ratio = 1 - ($15,810/$31,000) = 0.49
Sustainable growth rate = (.2270968 × 0.49)/[1 - (.2270968 × 0.49)] = 12.52 percent

90. What is the sustainable growth rate assuming the following ratios are constant?

A. 10.30 percent

B. 10.53 percent

C. 10.67 percent

D. 10.89 percent

E. 11.01 percent

Return on equity = .08 × 1.46 × 1.20 = 0.14016

Retention ratio = 1 - 0.32 = 0.68
Sustainable growth rate = (.14016 × 0.68)/[1 - (0.14016 × 0.68)] = 10.53 percent

91. Seaweed Mfg., Inc. is currently operating at only 84 percent of fixed asset capacity.
Current sales are $550,000. What is the maximum rate at which sales can grow before
any new fixed assets are needed?

A. 17.23 percent

B. 17.47 percent

C. 18.03 percent

D. 18.87 percent

E. 19.05 percent

Full capacity sales = $550,000/0.84 = $654,761.90

Maximum sales growth = (654,761.90/$550,000) - 1 = 19.05 percent

92. Seaweed Mfg., Inc. is currently operating at only 86 percent of fixed asset capacity.
Fixed assets are $387,000. Current sales are $510,000 and are projected to grow to
$664,000. What amount must be spent on new fixed assets to support this growth in
sales?

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A. $0

B. $22,654

C. $46,319

D. $79,408

E. $93,608

Full capacity sales = $510,000/0.86 = $593,023.26

Capital intensity ratio = $387,000/$593,023.26 = 0.652588231
Fixed asset need = ($664,000 × 0.652588231) - $387,000 = $46,319

93. Fixed Appliance Co. wishes to maintain a growth rate of 8 percent a year, a constant
debt-equity ratio of 0.42, and a dividend payout ratio of 50 percent. The ratio of total
assets to sales is constant at 1.3. What profit margin must the firm achieve?

A. 12.92 percent

B. 13.46 percent

C. 13.56 percent

D. 14.33 percent

E. 14.74 percent

Retention ratio = 1 - 0.50 = 0.50

Sustainable growth rate = 0.08 = (ROE × 0.50)/[1 - (ROE × 0.50)]; ROE = 0.14815
Return on equity = 0.14815 = PM × (1/1.3) × (1 + 0.42); Profit margin = 13.56 percent

94. A firm wishes to maintain a growth rate of 8 percent and a dividend payout ratio of 62
percent. The ratio of total assets to sales is constant at 1, and the profit margin is 10
percent. What must the debt-equity ratio be if the firm wishes to keep that ratio
constant?

A. 0.05

B. 0.40

C. 0.55

D. 0.60

E. 0.95

Retention ratio = 1 - 0.62 = 0.38

Sustainable growth rate = 0.08 = (ROE × 0.38)/[1 - (ROE × 0.38)]; ROE = 0.1949
Return on equity = 0.1949 = 0.10 × (1/1) × (1 + D/E); D/E = 0.95

95. A firm wishes to maintain an internal growth rate of 11 percent and a dividend payout
ratio of 24 percent. The current profit margin is 7 percent and the firm uses no external
financing sources. What must the total asset turnover rate be?

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A. 0.87 times

B. 0.90 times

C. 1.01 times

D. 1.15 times

E. 1.86 times

Retention ratio = 1 - 0.24 = 0.76

Internal growth rate = 0.11 = (ROA × 0.76)/[1 - (ROA × 0.76)]; ROA = 0.1304
Return on assets = 0.1304 = 0.07 × TAT; Total asset turnover = 1.86 times

96. Based on the following information, what is the sustainable growth rate of Hendrix
Guitars, Inc.?

A. 7.68 percent

B. 9.52 percent

C. 11.12 percent

D. 13.49 percent

E. 14.41 percent

Total debt ratio = 0.66 = TD/TA

TA/TD = 1/0.66
1 + TD/TE = 1/0.66
D/E = 1/[(1/0.66) - 1] = 1.941176
Return on equity = 0.056 × 1.76 × (1 + 1.941176) = 0.289882
Retention ratio = 1 - 0.7 = 0.3
Sustainable growth rate = (0.289882 × 0.3)/[1 - (0.289882 × 0.3)] = 9.52 percent

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15:34 20/5/25 Orange: Financial Management - Chapter 4 Long-Term Financial Planning and Growth
97. Country Comfort, Inc. had equity of $150,000 at the beginning of the year. At the end
of the year, the company had total assets of $195,000. During the year, the company
sold no new equity. Net income for the year was $63,000 and dividends were $44,640.
What is the sustainable growth rate?

A. 10.32 percent

B. 10.79 percent

C. 11.78 percent

D. 12.01 percent

E. 12.24 percent

Ending equity = $150,000 + ($63,000 - $44,640) = $168,360

Return on equity = $63,000/$168,360 = 0.3742
Retention ratio = ($63,000 - $44,640)/$63,000 = 0.2914
Sustainable growth rate = (0.3742 × 0.2914)/[1 - (0.3742 × 0.2914)] = 12.24 percent

98. The most recent financial statements for Moose Tours, Inc. follow. Sales for 2009 are
projected to grow by 16 percent. Interest expense will remain constant; the tax rate and
dividend payout rate will also remain constant. Costs, other expenses, current assets,
and accounts payable increase spontaneously will sales. If the firm is operating at full
capacity and no new debt or equity is issued, how much external financing is needed to
support the 16 percent growth rate in sales?

A. $-10,246

B. -$8,122

C. -$6,708

D. $2,407

E. $3,309

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