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Transport Management & Theory Practices (4)

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• A sales projection is the amount of revenue a company expects to earn at some point in the future. It&apos;s a prediction that is synonymous with a sales forecast. Both help determine the health of a company and whether sales will trend upward or downward. Small companies use various input to determine sales projections. The initiative usually commences in the sales department. There are certain inherent advantages to calculating and using sales projections.
• Dividends are a mangement decision and generally do not vary directly with sales-this affects addition to retained earnnings
• Net PP&amp;E is short for Net Property Plant and Equipment. Property Plant and Equipment is the value of all buildings, land, furniture, and other physical capital that a business has purchased to run its business. The term &quot;Net&quot; means that it is &quot;Net&quot; of accumulated depreciation expenses. For example, assume that a company buys a building worth \$1,000,000, along with \$50,000 of furniture. Their Net PP&amp;E at the moment of purchase is \$1,050,000. Each year, however, the company must depreciate the value of that PP&amp;E to account for the fact that it will wear out an need to be fixed or re-purchased in the future. Assume that in the first year, the company depreciates the building and furniture by \$105,000 (or 10% of the original value). Then, at the end of the year, its Net PP&amp;E is: \$1,050,000 - \$105,000 = \$945,000 As the company buys more PP&amp;E, the value of its Net PP&amp;E will increase, and as time passes, the value will decrease according to depreciation expenses.
• Transport Management & Theory Practices (4)

1. 1. Long-Term Financial Planning and Growth 4
2. 2. Objectives 4-2 To discuss the financial planning process To explain the uses ofAdditional Funds Needed (AFN) model in order to determine the external financing needed To prepare pro forma financial statements Sales forecasts Percent of sales method
3. 3. Financial Planning Model Ingredients 4-3 Sales Forecast – many cash flows depend directly on the level of sales (often estimated sales growth rate) Pro Forma Statements – setting up the plan as projected financial statements allows for consistency and ease of interpretation Asset Requirements – the additional assets that will be required to meet sales projections Financial Requirements – the amount of financing needed to pay for the required assets PlugVariable – determined by management decisions about what type of financing will be used (makes the balance sheet balance) EconomicAssumptions – explicit assumptions about the coming economic environment
4. 4. Example: Historical Financial Statements 4-4 Gourmet Coffee Inc. Balance Sheet December 31, 2004 Assets 1000 Debt 400 Equity 600 Total 1000 Total 1000 Gourmet Coffee Inc. Income Statement For Year Ended December 31, 2004 Revenues 2000 Costs 1600 Net Income 400
5. 5. Example: Pro Forma Income Statement InitialAssumptions Revenues will grow at 15% (2000*1.15) All items are tied directly to sales and the current relationships are optimal Consequently, all other items will also grow at 15% Gourmet Coffee Inc. Pro Forma Income Statement For Year Ended 2005 Revenues 2,300 Costs 1,840 Net Income 460 4-5
6. 6. Example: Pro Forma Balance Sheet Case I Dividends are the plug variable, so equity increases at 15% Dividends = 460 NI – 90 increase in equity = 370 Case II Debt is the plug variable and no dividends are paid Debt = 1,150 – (600+460) = 90 Repay 400 – 90 = 310 in debt Gourmet Coffee Inc. Pro Forma Balance Sheet Case 1 Assets 1,150 Debt 460 Equity 690 Total 1,150 Total 1,150 Gourmet Coffee Inc. Pro Forma Balance Sheet Case 1 Assets 1,150 Debt 90 Equity 1,060 Total 1,150 Total 1,150 4-6
7. 7. Percent of Sales Approach 4-7 Some items vary directly with sales, while others do not Income Statement Costs may vary directly with sales - if this is the case, then the profit margin is constant Depreciation and interest expense may not vary directly with sales – if this is the case, then the profit margin is not constant Dividends are a management decision and generally do not vary directly with sales – this affects additions to retained earnings Balance Sheet Initially assume all assets, including fixed, vary directly with sales Accounts payable will also normally vary directly with sales Notes payable, long-term debt and equity generally do not because they depend on management decisions about capital structure The change in the retained earnings portion of equity will come from the dividend decision
8. 8. Example: Income Statement 4-8 Tasha’s Toy Emporium Income Statement, 2004 % of Sales Sales 5,000 Costs 3,000 60% EBT 2,000 40% Taxes (40%) 800 16% Net Income 1,200 24% Dividends 600 Add. To RE 600 Tasha’s Toy Emporium Pro Forma Income Statement, 2005 Sales 5,500 Costs 3,300 EBT 2,200 Taxes 880 Net Income 1,320 Dividends 660 Add. To RE 660 Assume Sales grow at 10% Dividend Payout Rate = 50%
9. 9. Example: Balance Sheet 4-9 Tasha’s Toy Emporium – Balance Sheet Current % of Sales Pro Forma Current % of Sales Pro Forma ASSETS Liabilities & Owners’ Equity Current Assets Current Liabilities Cash \$500 10% \$550 A/P \$900 18% \$990 A/R 2,000 40 2,200 N/P 2,500 n/a 2,500 Inventory 3,000 60 3,300 Total 3,400 n/a 3,490 Total 5,500 110 6,050 LT Debt 2,000 n/a 2,000 Fixed Assets Owners’ Equity Net PP&E 4,000 80 4,400 CS & APIC 2,000 n/a 2,000 Total Assets 9,500 190 10,450 RE 2,100 n/a 2,760 Total 4,100 n/a 4,760 Total L & OE 9,500 10,250
10. 10. Example: External Financing Needed 4-10 The firm needs to come up with an additional \$200 in debt or equity to make the balance sheet balance TA –TL&OE = 10,450 – 10,250 = 200 Choose plug variable Borrow more short-term (Notes Payable) Borrow more long-term (LT Debt) Sell more common stock (CS & APIC) Decrease dividend payout, which increases theAdditionsTo Retained Earnings
11. 11. Example: Operating at Less than Full Capacity 4-11 Suppose that the company is currently operating at 80% capacity. Full Capacity sales = 5000 / .8 = 6,250 Estimated sales = \$5,500, so would still only be operating at 88% Therefore, no additional fixed assets would be required. Pro formaTotalAssets = 6,050 + 4,000 = 10,050 Total Liabilities and Owners’ Equity = 10,250 Choose plug variable Repay some short-term debt (decrease Notes Payable) Repay some long-term debt (decrease LT Debt) Buy back stock (decrease CS & APIC) Pay more in dividends (reduce AdditionsTo Retained Earnings) Increase cash account
12. 12. Growth and External Financing 4-12 At low growth levels, internal financing (retained earnings) may exceed the required investment in assets As the growth rate increases, the internal financing will not be enough and the firm will have to go to the capital markets for money Examining the relationship between growth and external financing required is a useful tool in long-range planning
13. 13. The Internal Growth Rate 4-13 The internal growth rate tells us how much the firm can grow assets using retained earnings as the only source of financing. Using the information fromTasha’sToy Emporium ROA = 1200 / 9500 = .1263 B = .5 %74.6 0674. 5.1263.1 5.1263. bROA-1 bROA RateGrowthInternal = = ×− × = × × =
14. 14. The Sustainable Growth Rate 4-14 The sustainable growth rate tells us how much the firm can grow by using internally generated funds and issuing debt to maintain a constant debt ratio. UsingTasha’sToy Emporium ROE = 1200 / 4100 = .2927 b = .5 %14.17 1714. 5.2927.1 5.2927. bROE-1 bROE RateGrowtheSustainabl = = ×− × = × × =
15. 15. Determinants of Growth 4-15 Profit margin – operating efficiency Total asset turnover – asset use efficiency Financial leverage – choice of optimal debt ratio Dividend policy – choice of how much to pay to shareholders versus reinvesting in the firm