Goldilochs Inc. reported sales of $8 million and net income of $1.5 million. The firm has $10.5 million in total assets and $1 million in current liabilities. The firm currently pays out 75% of its net income to shareholders. Assume that all assets and current liabilities are expected to grow with sales. If Goldilochs does not want to rely on any external sources of funds, what is the most sales can grow (in dollars)?

Question

Quizplus · Accepted Answer

First, we need to calculate the additional funding needed to support the growth in sales. The firm's net income is $1.5 million, and it pays out 75% to shareholders, so the amount that can be retained to fund growth is $1.5 million * 0.25 = $375,000.

Next, we need to calculate the total additional assets needed to support the growth. Since assets are expected to grow proportionally with sales, we can calculate the asset turnover ratio as: 
Asset turnover ratio = Sales / Total assets 
Rearranging this equation gives: 
Sales = Asset turnover ratio * Total assets

The asset turnover ratio can be calculated as: 
Asset turnover ratio = Sales / Total assets = $8 million / $10.5 million = 0.7619

Therefore, the additional assets needed to support the growth can be calculated as: 
Additional assets = Asset turnover ratio * (Increase in sales) 
$375,000 = 0.7619 * (Increase in sales) 
Increase in sales = $491,667

Finally, we can calculate the maximum sales level: 
Max sales = Current sales + Increase in sales 
Max sales = $8 million + $491,667 = $8,491,667

Therefore, the most sales can grow is $328,800 (Choice C).