2. Austin Boston Corporation\'s balance sheet for last year is presented below:

Question

2. Austin Boston Corporation's balance sheet for last year is presented below: Cash Accounts receivable Inventory Fixed assets $ 400,000 2,000,000 3,000,000 3,600,000 Accounts payable $1,500,000 Notes payable Mortgage Common stock Retained earnings 1,500,000 1,000,000 2,500,000 2,500,000 Total liabilities Total assets $9,000,000 and equity $9,000,000 Sales last year were $10,000,000 and they are expected to increase by 20 percent next year. Net profit margin is forecasted to be 8 percent. Austin Boston plans to pay dividends of 60%. Management expects that the sales increase can be handled by existing fixed assets. How much external funds does Austin Boston need next year? S396,000

Explanation / Answer

1. Computation of Increase in Retained Earnings in next year

Increase in Retained earnings = Sales in Next year * Profit margin * (1 – Dividend Pay-out ratio)

Increase in Retained earnings = 10000000 * 1.20 * 8% * (1 – 60%)

Increase in Retained earnings = 12000000 * 8% * (1 – 60%)

Increase in Retained earnings = 960000 * (1 – 60%)

Increase in Retained earnings = $384000

2. Computation of External Funds Needed

External Funds Needed = Increase in Current Assets – Increase in Current Liabilities – Increase in Retained Earnings

External Funds Needed = 5400000 * 20% – 1500000 * 20% – 384000

External Funds Needed = 1080000 – 300000 – 384000

External Funds Needed = $396000

Working Notes:

3. Current Assets = Cash + AR + Inventory = $5400000

4. Current Liabilities = AP = $1500000 (Note Payable should not be considered while calculating EFN)

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