Question 1

Companies with relatively high assets-to-sales ratios require a relatively large amount of new assets for any given increase in sales; hence, they have a greater need for external financing.There are currently no alternatives for these types of firms to lower their asset requirements.

Accepted Answer

Companies can implement various strategies to lower their asset requirements, such as improving asset turnover, outsourcing non-core activities, or adopting more efficient production techniques, thereby potentially reducing the need for external financing.

Question 2

If a firm wants to maintain its ratios at their existing levels, then if it has a positive sales growth rate of any amount, it will require some amount of external funding.

Accepted Answer

False

Question 3

The minimum growth rate that a firm can achieve with no access to external capital is called the firm's sustainable growth rate.It can be calculated by using the AFN equation with AFN equal to zero and solving for
g.

Accepted Answer

The sustainable growth rate is calculated based on the return on equity (ROE) and the dividend payout ratio, not the AFN (Additional Funds Needed) equation. It reflects how much a firm can grow its sales, earnings, and dividends by using internally generated funds without needing to access external capital.

Question 4

The capital intensity ratio is the amount of assets required per dollar of sales and it has a major impact on a firm's capital requirements.

Accepted Answer

The capital intensity ratio measures the amount of assets needed to generate a dollar of sales, which affects a company's capital requirements. Therefore, statement is true.

Question 5

A firm will use spontaneous funds to the extent possible; however, due to credit terms, contracts with workers, and tax laws there is little flexibility in their usage.

Accepted Answer

Spontaneous funds refer to the funds generated from internal sources, such as accounts receivable, inventory, and accounts payable. A firm typically tries to use these funds first before looking for external financing. However, due to various constraints such as contractual obligations, tax laws, and credit terms, there may be limited flexibility in the usage of these funds.

Question 6

A firm's profit margin is 5%, its debt/assets ratio is 56%, and its dividend payout ratio is 40%.If the firm is operating at less than full capacity, then sales could increase to some extent without the need for external funds, but if it is operating at full capacity with respect to all assets, including fixed assets, then any positive growth in sales will require some external financing.

Accepted Answer

The answer of A firm's profit margin is 5%, its...

Question 7

A firm's AFN must come from external sources.Typical sources include short-term bank loans, long-term bonds, preferred stock, and common stock.

Accepted Answer

AFN stands for Additional Funds Needed and it represents the amount of funds a firm needs to raise externally in order to support its projected growth. Since the firm's internal sources may not be sufficient to cover the required investment, it has to rely on external financing, which can come in the form of short-term bank loans, long-term bonds, preferred stock, and common stock. Therefore, the statement is true.

Question 8

To determine the amount of additional funds needed (AFN), you may subtract the expected increase in liabilities, which represents a source of funds, from the sum of the expected increases in retained earnings and assets, both of which are uses of funds.

Accepted Answer

To determine the amount of additional funds needed (AFN), you subtract the expected increase in retained earnings, which is a source of funds, from the sum of the expected increases in assets (a use of funds) and then subtract any increase in liabilities (also a source of funds).

Question 9

A rapid build-up of inventories normally requires additional financing, unless the increase is matched by an equally large decrease in some other asset.

Accepted Answer

If a company experiences a rapid build-up of inventories, it typically needs additional financing to cover the extra costs of holding onto unsold goods. This is because inventory represents a significant investment for most businesses, tying up cash that could otherwise be used for other purposes. However, if the rise in inventory is offset by a corresponding decrease in another asset (such as accounts receivable or cash), the need for additional funding may be lessened or eliminated.

Question 10

Operating plans sketch out broad approaches for realization of the firm's strategic vision.These plans usually are developed for a period no longer than a 1-year time horizon because detail is "lost" by extending out the time horizon by more than 1 year.

Accepted Answer

Operating plans are usually developed for a time horizon of 1-5 years with detailed action steps and objectives to support the overall strategic vision of the firm. It is strategic plans that are typically developed with a longer time horizon, typically 3-5 years.

Question 11

Firms with high capital intensity ratios have found ways to lower this ratio permitting them to achieve a given level of growth with fewer assets and consequently less external capital.For example, just-in-time inventory systems, multiple shifts for labor, and outsourcing production are all feasible ways for firms to reduce their capital intensity ratios.

Accepted Answer

The statement is true. Firms can utilize various strategies to reduce their capital intensity ratio, such as implementing just-in-time inventory systems, increasing labor utilization through multiple shifts, or outsourcing production. By doing so, firms can achieve the same level of growth with fewer assets and less external capital.

Question 12

If a firm's capital intensity ratio (A?*/S?)decreases as sales increase, use of the AFN formula is likely to understate the amount of additional funds required, other things held constant.

Accepted Answer

The answer of If a firm's capital intensity ratio (A?*/S?)decreases...

Question 13

As a firm's sales grow, its current assets also tend to increase.For instance, as sales increase, the firm's inventories generally increase, and purchases of inventories result in more accounts payable.Thus, spontaneous liabilities that reduce AFN arise from transactions brought on by sales increases.

Accepted Answer

As sales increase, current assets such as inventories and accounts payable tend to increase as well, resulting in spontaneous liabilities that reduce the need for additional funding (AFN).

Question 14

One of the first steps in arriving at a firm's forecasted financial statements is a review of industry-average operating ratios relative to these same ratios for the firm to determine whether changes to the ratios need to be made.

Accepted Answer

This statement is true. A review and comparison of industry-average operating ratios and a firm's operating ratios is a crucial step in developing forecasted financial statements. This analysis helps to identify where the firm stands in relation to its peers and whether it needs to make changes to improve its financial performance.

Question 15

Firms pay a low interest rate on spontaneous liabilities so these funds are its cheapest source of capital.Consequently, the firm should make arrangements with its suppliers to use as much of this credit as possible.

Accepted Answer

Spontaneous liabilities, such as trade credit from suppliers, can sometimes carry implicit costs, such as foregone discounts for early payment, making them not necessarily the cheapest source of capital. Additionally, over-reliance on such liabilities can strain supplier relationships and potentially impact credit terms negatively.

Question 16

The fact that long-term debt and common stock are raised infrequently and in large amounts lessens the need for the firm to forecast those accounts on a continual basis.

Accepted Answer

The answer of The fact that long-term debt and common...

Question 17

One of the necessary steps in the financial planning process is a forecast of financial statements under each alternative version of the operating plan in order to analyze the effects of different operating procedures on projected profits and financial ratios.

Accepted Answer

Forecasting financial statements is a necessary step in financial planning, as it allows for an analysis of the potential impact of alternative operating plans on projected profits and financial ratios. Such analyses are important for making informed decisions about resource allocation and strategic planning.

Question 18

As long as a firm does not pay out 100% of its earnings, the firm's annual profit that is retained in the business (i.e., the addition to retained earnings)is another source of funds for a firm's expansion.

Accepted Answer

Retained earnings are the portion of a company's profits that are kept by the company instead of being distributed as dividends to shareholders. Retained earnings can be used as a source of funds for a firm's expansion or other purposes, as long as the company does not pay out 100% of its earnings in dividends. Therefore, the statement is true.

Question 19

Two firms with identical capital intensity ratios are generating the same amount of sales.However, Firm A is operating at full capacity, while Firm B is operating below capacity.If the two firms expect the same growth in sales during the next period, then Firm A is likely to need more additional funds than Firm B, other things held constant.

Accepted Answer

Since Firm A is already operating at full capacity, any increase in sales would require additional funds for expansion of capacity or hiring more employees, while Firm B can increase its sales without needing additional funds to expand its capacity or hire new employees. Therefore, Firm A is likely to need more additional funds than firm B, other things held constant.

Question 20

If a firm with a positive net worth is operating its fixed assets at full capacity, if its dividend payout ratio is 100%, and if it wants to hold all financial ratios constant, then for any positive growth rate in sales, it will require external financing.

Accepted Answer

If the firm is paying out 100% of its earnings as dividends, it will not have any retained earnings to reinvest in the business. Therefore, any growth in sales will require external financing to fund the necessary investments in fixed assets or working capital. This is because the firm's positive net worth will not be sufficient to finance the additional investments required for growth.

Quiz 12: Corporate valuation and financial planning