Chapter 09.

Solution for Ch 09-11 Build a Model

Figure 1. Financial Statements and Other Data (Millions except per share data)

Balance Sheet, Matthews, 12/31/12 Income Statement, Matthews

Cash and securities $120 Sales
Accounts receivable 1,584 Total operating costs
Inventories 2,145 EBIT
Total current assets $3,849 Interest
Net fixed assets 2,748 EBT
Total assets $6,597 Taxes(40%)
Net income
Accounts payable + accruals $747 Dividends (45%)
Notes payable 1,200 Add'n to retained earnings
Total current liabilities $1,947 Shares outstanding
Long-term debt 1,300 EPS
Total liabilities $3,247 DPS
Common stock 2,250 Year-end stock price
Retained earnings 1,100
Total common equity $3,350
Total claims on assets $6,597

Selected Ratios and Other Data 2012 Matthews IndustrySet equal to Matthews t
make the data
Sales, 2012 (S0): $12,000 $12,000comparable.
Expected growth in sales: 10.0% 10.0%
Profit margin (M, or PM): 3.55% 4.50%
Assets/Sales (A0*/S0): 55.0% 50.0%
Payout ratio (POR): 45.0% 40.0%
Equity multiplier (Assets/Equity): 1.97 1.67
Debt ratio (Total debt/Total claims): 49.2% 40.0%
Times interest earned (EBIT/Interest): 3.84 4.20
Increase in sales (S = gS0): $1,200 $1,200
(Payables + Accruals)/Sales (L0*/S0): 6.2% 4.0%
Operating costs/Sales: 92.0% 85.0%
Cash/Sales: 1.0% 1.0%
Receivables/Sales: 13.2% 10.0%
Inventories/Sales: 17.9% 15.0%
Fixed assets/Sales: 22.9% 20.0%
Tax rate: 40.0% 40.0%
Interest rate on all debt: 10.0% 9.5%
Price/Earning (P/E): 8.0 12.5
ROE (Net income/Common equity): 12.72% 15.00%
a. Assume that the firms 2012 profit margin, payout ratio, capital intensity ratio, and spontaneous liabilities to sales ra
in 2013, what is the required external capital the firm will need in 2013 as calculated by the AFN equation?

AFNMatthews = Add'l Req'd Assets Spontaneous liabilities

= (A0*/S0)S (L0*/S0)S

= (A0*/S0)(gS0) (L0*/S0)(gS0)

= $660 $74.70

AFNHatfield = $327.27 million

b. If 2012 ratios remain constant, what is Matthews self-supporting growth rate? How will the self-supporting growth r
following changes occur: (1) the profit margin declines, (2) the payout ratio increases, or (3) the capital intensity ratio

Self-Supporting Growth Rate. This is the maximum growth rate that can be attained without raising external funds,
forces AFN = 0, holding other things constant. We found this rate, g = 4.1722%, with Excel's Goal Seek function and als
explained below.

1. Using algebra. The self-supporting growth rate can also be found by solving the equation as shown on the 3rd row
the value of g that causes AFN to equal zero. This results in the same value as we find with Goal Seek. The algebriac
you the equation, but if you had to solve the AFN equation for g, you would probably find the Goal Seek solution easier

PM(1 POR)(S0) $234.30

Self-supporting g = =
A0* L0* PM(1 POR)S0 $5,615.70

Therefore, if the firm's ratios remain constant, the company can grow at about 4.17% without

external financing.

2. Using Goal Seek. To find the self-supporting growth rate with Goal Seek, first highlight cell B56. Then, with Excel 0
click Data>What-If-Analysis>Goal Seek. With Excel 03 click Tools>Goal Seek. Then complete the dialog box as shown
click OK, Cell D25 will change to 4.1722%, which will cause Cell B56 to change to $0.00. Record the new growth rate a
base case by clicking Cancel. Or, you could click OK to leave the new growth rate in Cell D25 and then over-type it wit
back to the base case.
Goal Seek is one of Excel's most useful features. We use it elsewhere in this chapter to find the required amount of ne
budgeting, we use it to see how high the WACC can go before the NPV becomes negative, how low the WACC must be
positive, how low the initial cost must be to achieve a positive NPV, how long a project must last to achieve a positive
have worked on real world cases dealing with almost every chapter in the text, and we almost always have occasion to
overemphasize its usefulness.

c. Matthews management has reviewed its financial statements and arrived at two possible scenarios for 2013. The fi
steady state while the second scenario, the target scenario, shows some improvement in ratios toward industry-avera
values for the scenarios are shown in the partially completed file Ch09 P11 Build a Model.xls. If Matthews assumes tha
achieved through notes payable and financing feedbacks are not considered because the new notes payable are adde
what are the firms forecasted AFN, EPS, DPS, and year-end stock price under each scenario?
Forecasted Financial Statements
In this section we forecast financial statements, assuming that any funds needed are raised as short-term notes p
assume that interest is paid only on the beginning-of-year notes payable. In the following section we assume tha
average notes outstanding during the year.

No Adjustment for New Interest No Adjustment for New

Data Used in the Scen
Inputs for Forecasts Matthews Steady State
2012 Steady
Growth rate 10.0% 10.0%
Operating costs/Sales 92.0% 92.0%
Cash/Sales 1.0% 1.0%
Receivables/Sales 13.2% 13.2%
Inventories/Sales 17.875% 17.875%
Fixed assets/Sales 22.9% 22.9%
Payables and Accruals/ Sales 6.225% 6.225%
Interest rate on notes and bonds 10.0% 10.0%
Payout ratio 45.0% 45.0%
Tax rate 40% 40.0%
P/E ratio 8.0 8.0
Shares outstanding (millions) 150.000 150.000

No Adjustment for New Interest No Adjustment for New

Matthews Forecast This data is for :
Balance Sheet 2012 Factor Procedure for 2013 Forecast
Assets
Cash $120 1.00% Factor Forecasted Sales
Accounts receivable 1,584 12.00% Factor Forecasted Sales
Inventories 2,145 16.00% Factor Forecasted Sales
Total current assets $3,849
Net fixed assets 2,748 21.50% Factor Forecasted Sales
Total assets $6,597
 Claims on Assets
Accts payable and accruals $747 5.00% Factor Forecasted Sales
Notes payable: Original 1,200 Carry over 2012 amount
Notes payable: New 0 New notes (+/-) to balance
Total current liabs $1,947
Long-term debt 1,300 Carry over 2012 amount
Total liabilities $3,247
Common stock 2,250 Carry over 2012 amount
Retained earnings 1,100 2012 + Add'n to RE from Income Statement
Total common equity $3,350
Total Claims $6,597
Shares outstanding 150.000
Year-end stock price $22.72

No Adjustment for New Interest

2012 % of Sales
2012 Income Statement Actual Factors
Sales $12,000.0 10.00% (1 + Factor) 2012 Sales
Total operating costs 11,040.0 87.5% Factor Forecasted Sales
EBIT $960.0
Interest charges 250.0 9.5% Carry over 2012 amount
Earnings before taxes (EBT) $710.0
Taxes 284.0 40% Tax rate 2013 EBT
Net income for common (NI) $426.0
Dividends (DIVs) $191.7 42.5%
Add. to ret. earns (NI DIVs) $234.3
Shares outstanding 150.000
EPS $2.84
DPS $1.28
Stock Price $22.72 12.5

No Adjustment for New Interest 2012

Performance Actual Steady State
Steady
EPS $2.84 $3.22
Year-end stock price $22.72 $25.79
Profit margin (PM) 3.55% 3.66%
Sales/Assets (Assets turnover) 1.82 1.82
Assets/Equity 1.97 2.01
ROE 12.7% 13.4%
Operating costs/Sales 92.0% 92.0%
Debt/Assets 49.2% 50.2%
TIE ratio 3.84 4.22
d. Matthews management realizes that interest for additional notes payable should be included in the analysis. Assum
issued midway through the year, so that interest on these notes is incurred for only half the year. If Matthews assumes
financing is achieved through notes payable and financing feedbacks are considered, what are the firms forecasted A
end stock price under each scenario?
ADJUSTED FOR INTEREST ON ADDED NOTES PAYABLE
Adjusted for New Interest
Data Used in the Scenarios
Inputs for Forecasts Matthews Steady State Target
2012 Steady Target
Growth rate 10.0% 10.0% 10.0%
Operating costs/sales 92.0% 92.0% 87.5%
Cash/Sales 1.0% 1.0% 1.0%
Receivables/Sales 13.2% 13.2% 12.0%
Inventories/Sales 17.875% 17.875% 16.000%
Fixed assets/Sales 22.9% 22.9% 21.5%
Payables and Accruals/ Sales 6.2250% 6.2250% 5.0000%
Interest rate on notes payable 10.0% 10.0% 9.5%
Payout ratio 45.0% 45.0% 42.5%
Tax rate 40% 40% 40%
P/E ratio 8.0 8.0 12.5
Shares outstanding (millions) 150.000 150.000 150.000

Adjusted for New Interest Matthews Forecast This data is for:

Balance Sheet 2012 Factor Procedure for 2013 Forecast
Assets
Cash $120 1.00% Factor Forecasted Sales
Accounts receivable 1,584 12.00% Factor Forecasted Sales
Inventories 2,145 16.00% Factor Forecasted Sales
Total current assets $3,849
Net fixed assets 2,748 21.50% Factor Forecasted Sales
Total assets $6,597

Claims on Assets
Accts payable and accruals $747 5.00% Factor Forecasted Sales
Notes payable 1,200 Carry over 2012 amount
Add' notes to balance 0 New notes (+/-) to balance
Total current liabs $1,947
Long Term Debt 1,300 Carry over 2012 amount
Total liabilities $3,247
Common stock 2,250 Carry over 2012 amount
Retained earnings 1,100 2012 + Add'n to RE from Income Statement
Total common equity $3,350
Total liabs and equity $6,597
 Shares outstanding 150.000 Difference between Assets and Liab+
Year-end stock price $22.72

Adjusted for New Interest

Adjusted for New Interest 2012 % of Sales Scenario:
2010 Income Statement Actual Factors
Sales $12,000.0 10.00% (1 + Factor) 2013 Sales
Total operating costs 11,040.0 87.5% Factor Forecasted Sales
EBIT $960.0
Interest on initial debt 250.0 9.5% Carry over 2012 amount
Interest on 1/2 of new debt 0.0 9.5% Interest rate (0.5 no
Total interest $250.0
Earnings before taxes (EBT) $710.0
Taxes 284.0 40% Tax rate 2013 EBT
Net income for common (NI) $426.0
Dividends (DIVs) $191.7 43%
Add. to ret. earns (NI DIVs) $234.3
Shares outstanding 150.000
EPS $2.84
DPS $1.28
Stock Price $22.72 12.5
Adjusted for New Interest
Adjusted for New Interest 2012
Performance Actual Steady State
Steady
EPS $2.84 $3.16
Year-end stock price $22.72 $25.27
Profit margin (PM) 3.55% 3.59%
Sales/Assets (Assets turnover) 1.82 1.82
ROE 12.7% 13.1%
Operating costs/Sales 92.0% 92.0%
Debt/Assets 49.2% 50.2%
Assets/Equity 1.97 2.01
TIE ratio 3.84 3.97
Payout ratio 45.0% 45.0%

Final comment: Different problems require somewhat different models--one size does not fit all. For example, a f
be low, and if that resulted in a negative AFN, then a model would have to be programmed to do something with t
model on Tab 2 is an example.
 2/1/12
d a Model

ement, Matthews 2012

$12,000.0
11,040.0
$960.0
250.0
$710.0
284.0
$426.0
$191.7
ained earnings $234.3
150.000
$2.84
$1.28
$22.72

Set equal to Matthews to

make the data
comparable.
ntaneous liabilities to sales ratio remain constant. If sales grow by 10%
e AFN equation?

Add'n to RE

S1 M (1POR)

S1 M (1POR)

$257.73

l the self-supporting growth rate change if each of the

(3) the capital intensity ratio declines?

ithout raising external funds, i.e., the value of g that

l's Goal Seek function and also algebraically, as

ion as shown on the 3rd row above AFN, then finding

ith Goal Seek. The algebriac solution is easy if we give
the Goal Seek solution easier.

= 4.1722%

ht cell B56. Then, with Excel 07, on the Main Menu bar
plete the dialog box as shown to the right. When you
Record the new growth rate and then return to the
D25 and then over-type it with 10% in that cell to get
 ind the required amount of new capital. In capital
e, how low the WACC must be for the NPV to be
ust last to achieve a positive NPV, and so forth. We
most always have occasion to use Goal Seek. We can't

ble scenarios for 2013. The first scenario assumes a

ratios toward industry-average values. Forecasted
.xls. If Matthews assumes that external financing is
e new notes payable are added at the end of the year,
ario?

raised as short-term notes payable. First, we

wing section we assume that interest is paid on the

No Adjustment for New Interest

Data Used in the Scenarios
Target Active
Target Target
10.0% 10.0%
87.5% 87.5%
1.0% 1.0%
12.0% 12.0%
16.000% 16.000%
21.5% 21.5%
5.000% 5.000%
9.5% 9.5%
42.5% 42.5%
40% 40%
12.5 12.5
150.000 150.000

No Adjustment for New Interest

Target 2013 You could use the model by manually
re for 2013 Forecast Forecast inputting the 11 factors, or you could
use Scenario Manager.

Forecasted Sales $132.0

Forecasted Sales 1,584.0
Forecasted Sales 2,112.0
$3,828.0
Forecasted Sales 2,838.0
$6,666.0
 Forecasted Sales $660.0
er 2012 amount 1,200.0
After executing a scenario, G105=0, so
es (+/-) to balance -327.0 Assets>Claims and the difference is shown in
$1,533.0 G113. Type this difference into G105 to balance,
forcing assets = claims. Do this before looking at
er 2012 amount 1,300.0 performance measures, as those measures will
$2,833.0 be wrong until the balance sheet is in balance.
Note also that the new notes balance
er 2012 amount 2,250.0 is also the AFN.
m Income Statement 1,583.0
$3,833.0
$6,666.0
Assets (Liab + Equity) $0.00

2013
Forecast
1 + Factor) 2012 Sales $13,200.00
ctor Forecasted Sales 11,550.00
$1,650.00
Carry over 2012 amount 250.00
$1,400.00
Tax rate 2013 EBT 560.00
$840.00
$357.00
$483.00
150.000
$5.60
$2.38
$70.00

Final Active After running a scenario and

adjusting to force Assets =
Target ScenarioClaims, we copy the results from
Target Target Column G into Column E or F.
$5.60 $5.60
$70.00 $70.00
6.36% 6.36%
1.98 1.98
1.74 1.74
21.9% 21.9%
87.5% 87.5%
42.5% 42.5%
6.60 6.60
cluded in the analysis. Assume that notes will be
he year. If Matthews assumes now that external
at are the firms forecasted AFN, EPS, DPS, and year-

w Interest
d in the Scenarios
This data is
Active identical to that
Target used for the
unadjusted
10.0% forecasts. It is
87.5% repeated here for
convenience.
1.0%
12.0%
16.000%
21.5%
5.0000%
9.5%
42.5%
40%
12.5
150.000

Target 2013
re for 2013 Forecast ForecastAfter executing a scenario, G177=0, so Assets>Claims and the
difference is shown in G185. Type this difference into G177 to
balance, forcing assets = claims. Do this before looking at
Forecasted Sales $132.0performance measures, as those measures will be wrong until the
balance sheet is in balance.
Forecasted Sales 1,584.0
Forecasted Sales 2,112.0
$3,828.0
Forecasted Sales 2,838.0
$6,666.0

Forecasted Sales $660.0

er 2012 amount 1,200.0
es (+/-) to balance After
0.0 executing a scenario, G177=0, so Assets>Claims, and the
difference is shown in G185. Type this difference into G177, which
$1,860.0
will reduce the difference in G185. Then add the small difference to
er 2012 amount the number in G177 to further reduce the difference, and continue
1,300
(if necessary) until G177 shows a zero. Alternatively, put the
3,160.0
pointer on G185 and do a Goal Seek to force G185 to zero by
er 2012 amount changing G177. Do this before looking at performance measures, as
2,250.0
those measures will be wrong until the balance sheet is in balance.
ome Statement 1,583.0
$3,833.0
$6,993.0

Retained earnings will be too high if Add'l notes = 0 because it

won't reflect interest on the new notes payable.
 nce between Assets and Liab+Equity: -$327.00
Retained earnings will be too high if Add'l notes = 0 because it
won't reflect interest on the new notes payable.

Target Forecast
2013
1 + Factor) 2013 Sales $13,200.00
ctor Forecasted Sales 11,550.00
$1,650.00
This is the additional interest after Assets = Claims.
Carry over 2012 amount 250.00
Interest rate (0.5 notes) 0.00
$250.00
Interest is too low until Assets = Claims.
$1,400.00
Tax rate 2013 EBT 560.00
$840.00
$357.00
$483.00
The addition to retained earnings is not correct until
150.000
Assets=Claims because until then the appropriate amount of
interest
$5.60 has not been deducted, so earnings and thus retained
earnings will not be correct.
$2.38
$70.00
Adjusted for New Interest
Final
Target Active
After running a scenario and adjusting to force Assets = Claims,
Target Target
we copy the results from Column G into column E or F.
$5.66 $5.60
$70.79 $70.00
6.44% 6.36%
1.98 1.98
22.1% 21.9%
87.5% 87.5%
42.4% 47.4%
1.74 1.74
7.05 6.60
42.5% 42.5%

s not fit all. For example, a firm's growth rate might

mmed to do something with the excess funds. The
 d the
7 to
t
until the