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Fundamentals of Financial Manageme...

9th Edition
Eugene F. Brigham + 1 other
ISBN: 9781305635937

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BuyFindarrow_forward

Fundamentals of Financial Manageme...

9th Edition
Eugene F. Brigham + 1 other
ISBN: 9781305635937
Textbook Problem
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AFN EQUATION Refer to problem 16-1. What additional funds would be needed if the company’s year-end 2016 assets had been $4 million? Assume that all other numbers are the same. Why is this AFN different from the one you found in problem 16-1? Is the company’s “capital intensity” the same or different? Explain.

Summary Introduction

To determine: The additional funds C Company will need for the coming year.

Introduction:

Additional Funds Needed (AFN) Equation:

The AFN equation explains the amount of money that a company needs to fulfill the financial needs of the company. It gives the information related to the external financing, as the options available to a company to finance through external financing methods. This equation basically gives a new capital structure that includes an optimum mix of debt, preferred and common stock.

Capital Intensity:

It is an amount different from another production factors mainly labor. Capital intensity ratio is the measure of capital intensity that gives the information about the capital needed to fulfill the needs of the company.

Explanation

Given information:

Assets at the end of 2016 is $ 4million

Sales in 2016 is $5million

Sales in 2017 is $6million

Increase in sale is 20%

Current liability at the end of 2016 is $1million. It includes $250,000 of accounts payable, $500,000 of notes payable, and $250,000 of accrued liability.

Forecasted Profit margin is 3%

Forecasted retention ratio is 30%.

The formula to calculate the additional funds is

AFN=(ProjectedincreaseinassetsSpontaneousincreaseinliabilitiesIncreaseinretainedearnings)=(A0S0)×ΔS(L0S0)×ΔSMS1(1payout)

Where,

  • A0 is original assets.
  • S0 is current sales.
  • L0 is original liabilities.
  • ΔS is increase in sales.
  • MS1 is profit margin on sales.

Substitute $4,000,000 for current assets, $1,000,000 for increase in sales, $5,000,000 for current sales, $6,000,000 for expected sales and 3% for profit margin

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