Textbook Problem

ADDITIONAL FUNDS NEEDED Morrissey Technologies Inc.’s 2015 financial statements are shown here.

Morrissey Technologies Inc.: Balance Sheet as of December 31, 2015

Cash	$ 180,000	Accounts payable	$ 360,000
Receivables	360,000	Accrued liabilities	180,000
Inventories	720,000	Notes payable	56,000
Total current assets	$1,260,000	Total current liabilities	$ 596,000
		Long-term debt	100,000
Fixed assets	1,440,000	Common stock	1,800,000
		Retained earnings	204,000
Total assets	$2,700,000	Total liabilities and equity	$2,700,000

Morrissey Technologies Inc.: Income Statement for December 31, 2015

Sales	$3,600,000
Operating costs including depreciation	3,279,720
EBIT	$ 320,280
Interest	20,280
EBT	$ 300,000
Taxes (40%)	120,000
Net Income	$ 180,000
Per Share Data:
Common stock price	$45.00
Earnings per share (EPS)	$ 1.80
Dividends per share (DPS)	$ 1.08

Suppose that in 2016, sales increase by 10% over 2015 sales. The firm currently has 100,000 shares outstanding. It expects to maintain its 2015 dividend payout ratio and believes that its assets should grow at the same rate as sales. The firm has no excess capacity. However, the firm would like to reduce its operating costs/sales ratio to 87 5% and increase its total liabilities-to-assets ratio to 30%. (It believes its liabilities-to-assets ratio currently is too low relative to the industry average.) The firm will raise 30% of the 2016 forecasted interest-bearing debt as notes payable, and it will issue long-term bonds for the remainder. The firm forecasts that its before-tax cost of debt (which includes both short- and long-term debt) is 12 5%. Assume that any common stock issuances or repurchases can be made at the firm’s current stock price of $45.

1. a. Construct the forecasted financial statements assuming that these changes are made. What are the firm’s forecasted notes payable and long-term debt balances? What is the forecasted addition to retained earnings?
2. b. If the profit margin remains at 5% and the dividend payout ratio remains at 60%, at what growth rate in sales will the additional financing requirements be exactly zero? In other words, what is the firm’s sustainable growth rate? (Hint: Set AFN equal to zero and solve for g.)