r

CHAPTER9

.FINANCIAL Fci~ASTl~ G FOR

·• . . STRATEGIC GROWTH : . :

, INTRODUC I ION
~ . . / ' . .

A lack or effec_ti~e long-range planiiing _i_s a common Ir ~ited re~so~n for fi~an~ial
distress and faill,!re. 1:£!!&:"W!'gtr:.l!.{~ is a means . • , _st~mat~cally thn~lun_g
about the future and-anticipating· poss1ble·problems·b~fore-tH ~c~r. Plann1n~ 1s •
said to be a process, that at best helps the firm avoid stu~bl11Jg ,1nto the future
·...;--.-- ,

backward.·
. , . . . . ....

Ein~u.s<iaLnlfil!!t~ establishes guidelines. for ~g~- ~~- ~owfh .in a firm._ It

focuses on the big,. IDc1!m?, whi<:h means that 1t .~s conce111ecl Wl~ die ,.IPir
~ t s of·a firm's fui~.ncial and_ ~'l.Y~Y!1~!1t poli~ies· w~tho~t d~al.n~g w1~--- e
individual components oft~ose polici~s in detail.
;
WHAT IS FINANCIAL PLANNING? •
, .• . -- . . . .

fifJ!JlJ~iaJ_p/.~r,ni~g forrri~lates th~ way in which financiid go@ls_ are .to be achie~_ed.
A financial plan is thus, a statement o( what is to be. done- in the future._ Many
decis.ions have a long lead time which mea~s they take a lo_ng.time to implement.
In an uncertain world; this requires that' decisions inade far .:in advailce· of--their
1

•implementation. Fo~ instance, if ·a firm wan~- tQ build a -factory- in 2018, it might

have to begin lining up· contractors and financing ~n 2016 or eve~ eailier.

~ROWTH ~ FINANCIAL MANAGEMENT GOAL

'
. '
I

As -discu~~ in t~e ~arlier. chapters, the app.ropri~te ·goal is for th~ fin~cial
m~ag~r IS l.~~r~~•!l~ t~~J.!!!!~~a!ue ofthe·ow.ners~ ~uity and JlQtjust 0~
.b~ tt§elf. I~ the firm 1s su_cc~ssful i.n doing this,_ then gr:owtJ:I )Yi11 us~al!~ ~~s~lt.
sr
_• Growth may thus be a ~es1rable consequence of good-decision making but 1t 1s not
-~ end ~nto itself. How~ver, while growth rate is u~d -in the planiling proc'ess:.ft
ts '?.On~•~ered_ a convenient means of summarizing various--aspects of a ti~ s_
fmanc1al and •n~e~tment policies. Likewise,_ if we think ·of growth as growth _in the
~arket-value _of the eq~i~ i~ the firin, then g~als of growth ~d increasing the
market value ~f the :equity 1n the firm are not all that different"

.
'
 ~inane/al Forecpstingfor Strategic Growth 195

PERSPECTIVE OF FINANCIAL PLANNING'.-

. 1 .
.
• •

For_plannmg purp~se~, it is-often useful to think of the future as having a short- ·

run and a lon~-run. Th~ short-ru_n_ plann.ing, in practice, usually covers t)le coming
12 months whtle.fi~anc1al ~lan?mg ovet thelong-rµn is takes to be the coming two
to fiv~ ~ears: This time p,zri~ IS referred to as theefg,win_g horizon and this is the
first d1mens_l~n of tfie pl~n1ng process· that must: Qe established. - ·
• •
• ' •
#' • •

The s ~ o n of the pJanni"ng process that needs to be determi~ed is the

·level __<!f •aggt~~atjoo. •Agg,:egf}_tion •involves the (Jetermination of ..ail of the
in9iv~duat~~jects together with. ·the . iov~~nt required that :the 'firm will
:?n~~ke and ~~,ng up the~e investment proposals to .d~te~i~e the total ne~ed
ID.~~l\tWh1 ch 1s treated as o~~-~~~t. . . . . • ._·. • .- .

After the-pl~ning ho~zon and l~v~l ofaggre~tion are· establ~~h~d, a financial plan
~equi,;es :inputs iri th~ form. of altemative sets· of _ass~mption5: '-about important
I

yariables. This type.of planning is parti~ularly .important for cyc.Ucal-businesses or

business firms whose sales are strotigly affected-by_the-over-~IJ state ofthe eco~0JtlY
or business cycles. - - .. . .
..
•,

WHA,T ARE.THE BENEFl·IS THAf:CAN BE·D.ERIVED FROM

FINANCIAL Pl.ANNING?_· . . •) ••
• . .

Due to the ~ou~t ~pen~ in exa~in~ng _the .·di¢erent ~en~~ios and variables that.
·wilt ev_entually become the basis. for a comp~ny's; :t1nar1ci~I plan, ,.it seems
- reasonable to ask-what the .p.lanning. pr:ocess .w_ill .accomplish'. • •. -
• • • t . ' .."' ~--:.. ' -

. .
Among the more ~$!!,!_f!~~ ben~flts, ~!
derived from :fina~~i~I. plann_ing are -~e
I- -fol_lowing. , -· '_ • _ ,. \ . - • · - ,·

1: / Provide; ti rati<Jn~ ~ay ofplilnnin~ options.or alternatives.,

.
. . - ~
(

. ~

The fi~ancial plan allows-_the firm to develo~ analyze and.compaje m~ny

· different business sce·narios.,in a·n organized·_an~ consisted way. Various •
· investine~t and finan·cing-option~ can be explored, and their impact 011·-the
1
·firm;s shareh_olders··can be evaluated.· Questions concerning the fi~m'.s
·future fin~s of business ~nd optimal flnancing_arrai,•gements'are addresse~.
Options such as antrod~cing new products _or c_losing plants might_ be
evaluated;

• I

~
 196 Chapter 9 ,
2. Jnteractiol:'$ •or Linl!ages. b~twe~n •fnvfftment prop
. \
. . osals ~ ci,,e ful!y
examined. • . '
• •
~

.
The financial plan enables the e~oeonents to show explicitly .

the Un ~s
between investment pro~ sals _for the different operating activ
ities of the· -
finn and. its ayailable financing choices. For example, if
. the firm -is
.• planning on expanding· or undertaking ·.n_~W inv~ ~eP ,ts and
·projects, an
other relevant variables.such as-source, te~ s ~d timing of
thoroughly examined. •. . fin~ cing &re- -
•• • • •
.
·3. Possible problems related to the proposal projects are '

identi~t!-aciions
to address them are studied.

Fina~cial planning should identify w~ina)tl}£\ru>£.!i fo the til'lll

if ~ifferent, •
~vents take place. Specifically, it should address what action~
the firm. will
take if expectations ·do no~·materialize ~d more g~nerally
, .if assumptions •
mad~ today about the future ~- seriQusly in error. Thus~ one,
objectiv~ qf •
. financial planning is to avoid surprises and dev~lop·contin
,- gency plans~
.
.
4. Feasibility and internid consistency_ are ensured. • '
. \ : . . -~ .
Financial planning is a way of verifyingih_~ _t~e -go~ls _and· plan
s made for
specific areas of a fi~ ' s operations are f~asible. ~nd internal
I~ consist&!~t
. ·The.financial plan- ma~es e~plicit -~e link~ges ~~~!1 diff,
~rent,.as~ts -
of a firm's. business such -as the mark.et sh~re, return ~on eqµi
ty, financial ~
leverages, a~d so on. It also· impos,es a. uµtfted struc~re _for
.
. . ~ri~ iling _
goals a~d objectives.. • --· . '·
..

5. M~nagers ar~ force~ to tl,inl_c ~bqut goals· and e~tablish

prio ritks~
. \ ' •
·-
. Through· financial planning, directi~ns. that th~--- finn ·woul~ ·take· \are •

. established, risks are calculated"ancfed~cated alternative cour

,. . , ses'ofaction
are considered thor~ughly.
.

·.,
..
.
\ . .,'
• I
I • ,. . • .,
✓

' • <
 Financ ial Forecast ingfor Strategic_ Growth 197

FINANCIAL· PLANNING MODELS ~ '

' . .

fin~n~ial planni ng proces s will differ·-from firm ·19 firm, just as companies differ
1n size. and· produc ts. Howev er, a basic financia_l planning model will have the
follow1n~ comm on elem~n ts; (a) econom ic environmenf_assumptions~.(b) salej
_ for~as t, (c) pro forma statem en~1 (d). asset requirements,· (e) financiaJ
requirement; and (f) additio nal funds needed.
-.
r
' . I. Economic Environment Assumption. The plan·: will ·have to state
. explicitly_ the ~non u~~o nm~n t i~ which the firm expects· to reside
I
l
I over the hfe <;>f the·pla n. Among the 1nore important-economic mump tiQn
that will have to be. made are the inflation rates, level of interest rates and
the firm's tax rate.. - - . ,-.

2. Snl.es Forect isL An. ·externally supplied .sal~s forecast _considered the_
"~rive r'' shall be the "It~" of all financial plans. The ~r of-tbe planning
model wiJI _supply this value and most other yalu~ will b~ ~lcula ted ~ .
on it. ·Planni ng will focus on projected future sales ·and the assets ~
_•financ ing needed to suppo~ those sales. •· • -· • •
. . .

Oftent imes, the sales forecast ·will be given as the growth rate in s¢es
rather than as an explicit.. sales figure. ·Perfect sales forecast are·_·-not.
possib le, of·cou ~e, becaus e sales depend .on the. . uncertai_n future ·state of·
the econom y. To come up with itc,_ projections, firms co~ld- ~nsult with
t.
some busine sses which specialize in macroe co~o~i c ~d •i~dustry
project ions. Also, evalua ting alternative scen~ os ~oes no! ~uire sales-
foreca st to be very accura te because the financial planner~s goal is to
examin e the interpl ay betweell investment and t;inancing needs.a t different
possible- sales level, not to pinpoint what we. exJ:)Cct ~o ~appen ..

I Determinanis ofGrowt h Rates

. .

A firm's ability to sustain growth _depends explicitly on the following

factors: .
.
.

· • ProtitM qrgin. , An ·increase in profit margin will itjcrease _the

firm's ability ~Q_B~Ee~tef~nd$ internally and the~by "increa se its
sustain a6ie growth .
--- --- ---
198 Chapter 9

• · Divjdf11d..f.n1j5;y. A df!t.Crease in.the pe~ge ?_f ~et i~~me paid

-out as ·d•ividends will increase the retention ratio. This increases
internally generated equity ·and thus increases sustainable gr~wth. ,
'

• • Financi U!olicy. Ati int~~.-~ }~e_de~t-equity• ra~!?. increases

· t e firm~ s financial leverage. Because this makes add1t1onal debt
• financing available, it increases the sustainable growth rate.. I

7
. .
• • Total Ass-et Turnov~r~ An increase·in the_firm~s total ~set turnover
-i.ncre"ases~thi.- -;~ties'. generated for each.· pes~ •. in ~~- This ..
aecieises ihe firm;s need for new·assets as sales grow and thereby
i~creases the sustaina6·1e growth rate. .Notic~ th~!-. total. asset:
. _·turnover _is the same thing as decreasing capital intensity: •
The· sustainable growth @te is a very useful plan~i'ng -number.
. What it illu$trates is the explicit relationship betwee·n. the firm's
four major areas. of ·concern: (a) its operat_ing e~ciency as
measured by profit margin, (b) its asset use effici~~cy as measured
by total asset tu.rnover, (c) its dividend ·policy as measured by ~e
· . retention ratio, anq (~) _its financial policy as measured by the
d~bt-equity ratio..

3. Proforma Statements._ A -fin~n~i~I plan will have a forecast s~ate~~nt of •

financial position, income• statement, statement of cash flows and
statement of stoc~holders' equity.; Th~se·are.called pro fonna o~ ptojected .
statements which will summarize the different eve_n~ projected for ·the
future. • • •• • •
. . '- . . .. • . . .
4. • Asset Requirements. The fi~ancial "plan. will describe projected capital
. ·5P£..n.~_m_g. At a mir:iimum., the projecte~ statement ~f-financial position will
. ·contai.n changes in tota~ fixed -assets and riet working capit~t· Th~se
changes are effectively the firm's total capital budget. Proposed capital
spending
. ~
in differe.nt
. .
areas must thus· be reconciled· with the overall
increases con~ined in the long-rang~ plan.
, •

. .

-5; Financial Requir~ments. The financial. p1an wHI include a se.ction about
~e_necess31)_ ftna.n~in £atr.r~~ .m~ :f~is part:ot~e ~Ian sltould_di~cUSS
d1v1d ~nd pohcy and d~bt po u~y-somet1.mes firms w.tll expect to raise ~h
by se, Iing new shares of stock or by borrowing. In this case, ~he ·plan will
have to consider
.
what kinds of securities have to be
.
sold and what methods
. .
of issuance are mo~t appropriate.,

l
_J
 Financial Foreccutingfor-Strategic Growth 199
6. AddWl!n~I Funds Needed (AFN).· After the firm. has a sale~ (Q~~d
.~ e~!!!!l..!1.e of the required spending on assets, some amount of new
financing wi II often be necessary because projected total assets will exceed
projected total liabilities· and_ equity. In other words, the statement of
." financial ~osition will n9 longer. balance. ,

Because ·new financing may be· necessary to· cover all. of the proj_ected
capital spending, a financial "pl~g" varia~le must be· sel~ed. The plug is
the designat~ source(s) of external financing oeeded to deal with any -
·shortfa~l (or surplus) in financing afld thereby bring the statement of
financial position into balance.

For example, a firm wfth-a great ·number .of_investment opportu~ities and

.• limited cash flow may· ·have to ·raise- new equity. Other firm~· with few.
growth opportunities and. ample cash flow -will have a. sufPlus and ~us
might pay· an extra· dividend. In· the first case, ·external equity· is die plug
variable;· and the· second, the dividend i_s u·sed. • •

. .

WeH nm OOIRpanies ••neaslly bat .d.teir· operaang,~s 0'.11. a ~ fil l1_lta I ta_• • - -
•• •ftnincial _statements. 11le planning p,ecess begim,witll •---'fONCait.9 •n '.f•_~-- •• -

five or SO years. TheR the, ~ts required to m11t1heales.tafgets an, i•itati_ll ~ ...
and deci$i<>n is made concerning how io:~~ance theffquirecf assets.·Af Cl 1£ ~- 1.&.
income. statements wt sta~,ts of financial :position can be l"cje ~ aid
earnings per share, as wel I-as _the l{ey ratios can be. f~ted~ .
Once_ the "base-case"· forecasted statements and •ratio~ have ~n prq,ared, top
managers wi 11 ~k questio·ns such as: •

•• Are the forecasted results as good as we can realistically .ex~~ and i'rnoi
how might we chan_ge our_operating plans to produ~~ _better e811lings· and
a higher stock price? : •

• How sure are we th~t we wi.H b~ able to :achieve ·the projected results? For
•, exainp_le, j~ o.~r bas~-case forecast assumes ~ reaso~ably strong economy
but a recession occurs, would we be better off under an alternative
.operating plan? •

J-
 _:_ _-- --- --- --- ~-- --- -=- --- --
~-2~00~~Ci!_'h~ap'f!_li~-er~9_ _

THE PROJECTED FINA NC~ L STA ~~E NT .~~H OD

An; forecast of financial requ!rem_ents_involves (ii) de!e?11ining how
much money
the firm will need du(iilg a given period , (b) de_t~m11n1ng how
muc~ 1;11oney the
·firm. will generate intem~lly ~urin g the sam_e perio d, and ( c) sub~
ting .!h~ funds
gene ra~ from. the funds required to determ me the exter nal finan cial
requirements
The pi-ojected financial statement metho~ is sirai~ ~orw ard, ~rie_ ~i1:°pl
y proj ~
the asset requirements for the- c~ming per1~d, th~n proJ~ ts the habil~
t•es and equity
that will be gener ated under normal operations,. and •subtra cts-
the projected
liabilities/capital from the r~quired assets to estim ate the ~diti onal
funds needed
(AFN).

The steps in the proce dures are as follows:

Step,!. Forecast the Income-Statement.

a .. Estab lish _a sales projection. .
b. Prepa re the production sched ule and p~oject the correspondi
ng
produ ction cost~; direct materials, direc t labor and overhead.
c. Estim ate sel_ling and admin istrati ve expen ses.
. d. Cons ider financial expen ses, if any.
e. Deter mi~e the net profit..
l ' •
Step 2. Fore¢ast the Statement ofFinancial Position.
a. Project_ the assets that wi II ~ n~e d to suppo rt projected sales.
b. Proje ct · funds rhat will be spont aneou sJy gener ated (through ..
_ac.coun~- payab le and accru als) and by retain ed ea_rnings . •
c. Proje ct liability and stock holde rs' equit y accou nts-th at will
hot
.. .- rise spont aneou sly with ·sales "(e.g.,· notes ·payable, long-term
. •bonds , prefe rrea stock and domm on stock ) but may change due to
finan cing decis ions that wi 11 be made later.
d.· Deten nine . if additi onal funds will be -needed by .using. th
e
. • fo~lowing fonnu la. • •
Additional - Requ_ired Spon taneo us Increase in
Fund s Ne~d ed. = Incre ase Incre ase in _ - Retained
-in Asse ts. .• Liabilities t=amings
The additional fin~n~ing neede d w!II be_ raised by borrowin~ fi-?01
the bank as notes payab le, by issuiiig long-:t~rm boncls, ~y selltng
· new con1_1non stock or by so1ne comb inatio n of these act,9ns.
-.... .
,.
 Financial Forecasting /or ~trategic Urowth 201

· • Step-~. Raising tl,e additionalf 1:111ds needed. •

The financing decis~on will consider the follow·ing·factors:
a. Target capital structure;
b. Effect of short-term borrowing on its current rat_io;
c. Conditions in th~ debt and equity markets; or
d. Restrictions imposed by existing d~bt agreements.
'I
'
Step_ 4. . ··consider financing feedbacks.··
Depending· o.n whether additio~al funds will be bo1Towed or will be
raised through common stocks, consideration ~hould be given on
additional interest. expense in .the income statement or dividends, thus
- decreasing the retained earnings.

Apply the iteration process using the available financing mix until the
•AFN •w~uld become so small· that t}le forecast •can ·be considered
complete.

·u1ustrative Case. 9-1. Financial F-0recasting (P·ercent

. of Sales ·Method) .•
. .
The Millenn·ium Company ~as
.the foll.Qwing statements which are representathie
of !Jle company's historical ave_rage. • • • •

r .
Income· Statement • '
Sales ft2,000,00Q:
Cost of sates 1,200,000
Gross profit . 80Q,OOO
Operating expenses • . . 380,000
Earnings before interest and taxes 420.000
Interest expense . 70,000
Earnings before taxes 350,000
Taxes (35%) • 122,500
Eamings-after·taxes e 227,50Q
Dividends r! l3§,5QO
 0~2~ 9Ch~ aierp t~er~ 9~~- ----:- === :,;,:; ;;;;-~ -~--- ---
_!2 . c:· • ·a1 position
Statement of ,!na~c, •
•• Assets- • ~ 50.000
,I
- 400,000
·cash 750,000
.Accounts receiy~ble
Inventory • t-1.200.000
, current assets 800,000
Fixed assets (ne.t) • t-2,000,00Q
Total assets
Liabilities and Equity • ,a 250.000 _
Accounts p~yable _ 10,000 ·
Accrued wages · 20,000
Accrued taxes flt 280.000
· Current liabilities · 70.000
Notes payable·- bank • . • 150.000
- Long-term debt •. 1,200,000 -
Ordinary shares· • 300,000 -
Retained earnings.
Total liabilities and equity •. 192.Q00,000 \

The firm is.expecting a20 percent increase in sales next year,·and management is
concerned a~ut the compariy,s need for external fu~ds. The increase i~ sales~
e ~ to be _carried put without any ~xpaas~ 9f fixed assets> but rathetdlrollgh
~ etr1e~ asset utilizat~on i~ the ex~stirg • • · AmQlll liabilities, only _,.
liabilities vary directly with sales. •

U~ing ~ percent-of-sale's meth~ determine whether. the company has exlemll

fmancing needs or a surplus of funds. - •, - •· • ·

Solution: -
f •

Step 1. Forecast the {ncome Stateme. nt. • C

. . .
l
The projected income stat~me ·• ••..
nt wili• show t.he c.10II owing ....
. . .
Sales ,.
Cost of sales '2,400.000 •
Gross ·profit 1,440.000
Operating expenses 960.000 -
Earnings before interest and laxes. :•:
Interest expense • • -•.
Earning$ before taxes .. . 70,000
• Taxes {35%) _ • 434.000
• Earnings after taxes _ 151,900 _.
.. · • - P:282.100
_ D1vadends (36% paYfflent) _ 19 101.§00
r

j
 I,
I
I

Financial ForecastingfDr-Strt;1tegic Growth 203

Step 2. Forecast the Statement ·ofFinancial Position. • •

The projected statement_ ~f tlnan9ial positi~n will show the following:
·-
.Assets
, ·cash· ··(1) ..' , P 60,000
.. ACCOunts rec8iv~le . ·(2) / 480,000
'
·lnventofY (3) • . · .,, 900,000
Total _current assets· · • . ..~1.440,000
.Fixed assets (net) . (4). . ·aoo,ooo •

Total assets V · ·• P2.240,goo

Uabilities and Eq~ity • ' ~

'
. I

• • Accounts payable . (5) ', ·: ft 300,0Q0

Accrued.-wages ' -. . "(6) • •..•. ·. ·. ~ 12,000
Accrued taxes •. (7.) .• -~z4,000
Current liabilities - P: 336,000
-Notes payable .- bank • . (4) .. . -_. • 7Q,OOO
Long~term debt. · ·_. • (4) . . _150·000·· . - .·
Ordinary shares :. •.• (4)- . -, : , 00,00 · -
•• _' p {){) •.
Retained earnings '. (8)
Total • . •~.236,500_ .
Add~tional financing required ~ · · ,·. 3,500 *.
·rotal •• - fD2,240,000 • ~ •. ·.
. •... ·.,·,-' •..••. 1~7.~, •.•... ,>qk. ✓ 4'~~
.
•• · ' -• '<p.l; )(':. ~ •
Supporting computations:
.
. • u • - ~ • z./JI/· r '

•. J
'

,
, - - - \

.2,rt tI
•

..J
J
(1) Cash = 2~5% x P2.4M sales , . ·: •.. _
(2) Acco.unts receivable = 20% of P2.4M ~· · ·.' - _-iii 1-/b.'O -- Io J~ ~ ~
(3) Inventory =· 37.5% x P2.4M •
(4) No percentages are computed f.or.\fixed ass~ts, -note~- payable,. long~
. terin debt, ordinary shares .and. retaine~ e~mings because they are
not assumed to maintain a direct r~lationship with sales-volume. For- •
simplicity, depreciation is not explicitly. consi~ered.·
1
•
• (5) Accounts payable = 12.So/o of.P2.4M
(6) Accrued expenses = 0.5% of P2.~M "\
I . •

(7) ·Accrued-taxes.=.1%_ofP2.4M ._ . . .
·(8) ~e~inedeamings .= P.300,000 + P282,lp0 - -Pl0l,600
 _ -------~--:--:--:-----~
~04~J..,C~h~ap~ter~9_ _;__,__.;-_~
1
Ii Method • • •
FortnU O • • ·FN) may also be computec;l as f~Uows:·.
• needed (A. . •
. • Additional financing .• . - . • •
. ·red Spontaneous . Increase in
Additional ~eq~~se _ increase _- - retained
• . tunds = ;~~ssets in liabilities earnings
needed

wbere:
I

Reqtj~red · Change in
CurtentAssets(pr8Sen~
.x · · Sales (present) .
increase · = sales
ina~ts
I

Spontaneous . . Ch~nge·in • Current L.iabiliti~ (present)

increase = ·x Sales (present) ·
-sales.
in· 118bilities

~. Increase
·ta· ed .• .•
·~~i~;s = •
_am,·ng~s • .•
r:
~ taxes ~
Oividehd
. . payment'
..
:· . · - ··
. •• .. I
•• • •.. ! .
• I

APJ)lied ·to Millen~iu~ Co., AFN is: computed 8$_ fo.llQ\Ys: •• :.. :-
_, o ~ • '\. I •' • • " • -., • • ' • .. - • o • •

. AFN' =[400 CIOO x 1,200;000- _- - 400 -

ooo·· x ~- 2ao,ooo- - . - 282.100-101,600
. · _ - •• ~.oo~.ooo·· ..... ·' . ·- :2,000,000 ,
. -, -

= ·240,000·~56.000 -:-180 500 • • ·:

• ' • '
. . r. •
..
i .
.. . . . •
'
I

\
 Financial Forecasting/or Strategic Growth
- ' •

Illustrative ~ase 9-2. Projected Financlal Statements with Fill(Uidng

Feedbaek - . - • .
. , .
For _Tamarind Company, the following data have been made available:
. .
• _. • Tamarind Company
I Income Statement
l·.
\I Yea20X4
I
. (Thousands of Pesos) •l

Sales . . . P6,000
0paating oosts (~usive ~ nx, ~atton)
5432
_Earnings before interest and taxes 568
• Less interest~ :- - . . -17§ : .
Eanlngs before taxes •. 392
... -
I

Taxes(~) • . . •. . 157' .
Net inoome before preference dividend· .. ·. 235 ~·,
Dividends to preference . _._-a.· .·
I •~ .inoome available to on:linary .--.ew.~e 1_1:1 . _.: •
Oividends to ordinary
• •'
- -
Adcltlon to ~ earnings. .... .. . ..
. \ .
• .• ··r-amarind Company' . .
Statement'of· Rnancial Position ·:
. December 31· 20x4· •-
-· •~-- ~ (Thousands of ~ l ,' .· •~ - .
.
-~ I ,,,. . \ .
. . ,

,
_Cash.
, Aa:ounts receivable . . . .
Inventories .
• . Total cunent .assets
. .
Net . . . . ~ . . •
T~ Assem·: •• " . · •. •
. • • l.i8blllties and Equity • '-,
. .
. . · · . .,. ·120 -·.. ~ .
~~~. ·-· • I
..
. -payable .
.. . ...
220 '

Accnas • • •

Total current Babilities -

p 620
'pjl ·..
(
' •
long-term bonds.
Total tiablities
'-
•Praference shares ft 80
• ~ shares (5().000 sharee) 2fK).
Ratalned eanlngs • ~ .-3,532 .•
• • Tota1 Equtty - , ·Plm -
Tcul Liabilities ancl-'Equity • . e4JIII. •_
. ...
. '
_206 Cltapter 9 . I

Additio~al information follows:. • •• . . •••• • .

·1.. · HistOrical ~~ for the last five yeal'S (In· Thousand Pesos).
Year . • • Sales
20XO • '94;116
· 2·ox1 s,oas ·
20X2 . .• · 4,944
20X3 s:100
2ox4 a.ooo· .
·2oxs .•. a:a90 ·(p ro~ .-
2. Assets and spontaneous liabiljties wiH increase by I0%. • •
3~ Ord i~·s hare s outstanding, 50,000. . · ·- _, · .. _ • .
4. Ordinary share dividends are project~d at P2.50 ~r,·share
. •• .
value per.share .at the end :of20X2,i ~·P46.67 .. •. . .. •-. ... • •.. .-
S... Mark.et
. : . . • . • . .. . ... ... .. •

....,. .. .. .
·. ,

. .. , ·· . . _,· • • .. • . ·- ·. -~~·· ·.· -:· _. ••. ·,

REQ Ul~D : ~- -:.~: •
prQjected __ ~nancial •
I. · Construct". the Pl"9 fo.-nia :finan~ial •staieme~ts _ :- ~ing •. th~ - :Asswne the •
_statement method. How inu~h ·additional capital wilJ be req~~~ feedback.·
icjng
finn-operated at full capacity in:y~~ -20x;4.·. I)o not include ·finar ' ..• ..., ' .:· ~ ; ;.. t •• • • •
•

~~
• •

. :: ' _,- .• <; • :-. •. ~\ • • .• •

. /. -

Solution:
B~ on the data~and ~µmptio~~~giv~ri,.the·foHo·wing -projecti9ns·are· mac1e and the. -
.additional financing needed ·determined. · •• _· · • · · •. ·,•' .• ,.'...•• •, • .• . ~ ·· • - · . •
. • ' 'i
. .. . . . . . .
'
Figure-,_l~ · . , .
. . . Proj~ed. Income Statement (First Pass) •
... •·..- ... ~ • _ : (T~ _o f Pesos )'- . . • - ..
- ., . , ..,.

. . .. . - 20X4 ··. -, •. • ••• ·... . 20X5Forecast

Actua
.
l ...--: ' - . 0-:... - . . •. .• :
· . .,
C...,f
,:-v~ r~ ~~~,
n.,;.AA

.
! .
, .
· ,._ . PS,000: ·: -: · . • x. 110% ~ . · · - . . ·P6,60(l ,
Sales
0perattng CX>Sls ranc:1• oi•. P200 I . •. ; . i

.• 5,975
•. depreaalim) .. , 5432 . , • X'-110%. . . • '.

Earrings befn. , intaest and taxes •

568. • .625
/ .
. ' . ' : •116 .
Less interest . . . 176
Earnings babe taxes • 392. . 449
• Taxes.(40%) •· _
157 ·1so
• .Net inoome ~ preference
dividend • . . 235 269
Divjcw.t'. to JJl8feranC8 8 ' ·t
Net·. it~'a
• Pl~ to9' (i~a ry
: t0 utulnary
. , ble'
. vaifa
A,..,.,

•
•
em
.• 116
_,em-
12s
Addition to· ~- e~fngs ,. 136
I
 Financial -Forec~tingfor Stral~gic Growth. • 207
. I

Figare . 9-2._ .-
Projected Statemeflt of.Financial Po$ition (First P.s)
• (Thousands of Pesos) . . .•
20X4 ·20XSFOl8C8Sf
Actual Basis First Pass
. ·.Assets . . .
. 'cash ... 20 X 110% ·p 22
J- · • 750
. • Aooounts ~ble 1100,4 825
I
. I. . •inventories 1,230
X
X 11(}% , 1,353
Total current assets . ~.000. P2,200
.· x 110% •. · • 2,200.
I - Net plant and equipment-
Total Assets • •
2,QQQ·
•t◄~oqo • N,199
~
.
.. ;

1 •.• .• .• . . Uabilities. ancfEquit)t

. ~tspay~ • . •_,. -120. · ~-p 132 •
• Notes~e • : :. . 220 ·220 .
. x t19% • :· . 308 .
. .Acauas . . .. 280 ... '660. .
Total current li$bilffies 19-·-620 . .

L.ong-tenri bonds .. 1,508 .

.· .t508.
I •
·Total Habilities • • . ·2':'128 • --P'l.168 .. ~ •
. ·.p 80 .•
. .
Preference Shares . " .. ...
. . .80
.
. Ordinay·shares (50~000 shmes)
.. . - -260. • 260
--...
• .Retanect-eamingS - ..· • . • •:. - · •·1 ~532· · --~ _136 1,668. ·:
. • Total Equity • _ •.- ·, · . . . • .•, 191,812 • , - - ~

• TotafUabilities arid.Equity -~. ·_ · • · - •

.
-.i,.rM . ·' . ,.- e4;176 · ..
• .Addiiionai
·.. . .
funds needed
..
(AFN) •·--. -
.
.,. .
~
\
. .. ~ .

Cumulative AFN · • . _.._. •• _ . e224,~- .-_ • -__ ·

1
. .
.. ,
. DISCUSSION: ·
. . .
: • ,.- .. " • • • ~ •
....
~
.
•• " ~·'
.
~. •• i
• _.,. • • j .·.: •,, • ~··· •••
• • • •

figure 15-1. sh_Qws: Taina,ind's .actual·:20~4: and· fo~ed?20 ~S . -income

• -~~nt.· For year i_oxs·~in gs bef9~ intere~ arid . ~~- are~_p~jec~~at
_• P62S,OOO and eatnings·•after~~s ofP269,000.. Dividends to·pre~ shares·.
- - a n d ordinal")'_sl;lares ~ ✓proj~ted a t · P 8 , 0 0 0 _ a
n d P l . 2 5 ~ - 0 0 Q
, · r e s p e c t i v ~
y ~ • .

. \ . . . .
.• •Figure. 15.;] QOntainS ~tlUllari~d~S .20X4 -actual. ·and: i~ j>roj~ 20:Xs
. · ·statements offmancjal-po$ition. Total-~ -~~projected-•t P4,400,~_\vliile. ·
. the forecastell ti~lity and ~uity·_accounts t~~lto· oµly ·p4,.176~000. SiriCC the
. . res(?urces •or~ assets requi~d. to_ suppo~). the high~r· sales :1evel exceed the
.-1 ~vailable_.~~s,._~-?1eal1S·,at addi~ion~l· f?nd~ ~i!.~ h~ve tQ bQ o~tained._' The

- Aa; of¥224,()00 wt~I :be by bo~w•ng frotn the· bank as·notes payable r a i s e d

or by ·i$Suing l~1:1g~te""· bon4~- <>~- by ~lling new onf~nary· shares, or by sonie

. . com6ination of these.actions, •
'

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 ., . . .. . -
208 Chapter 9
• ume that after Considerin~ all th~ relevant factors, Taman~d ~ec1ded on the .
, -·.=
.."· !f.owi ng funds financing mix to nuse the AFN of P224,000. . . •·
Percent Amou nt· Interest rate -..
• 25% P 56,0QO 8%
Notes payable • 25 56,000 10%
Long-tenn debt
Ordinal)' shares~ 50 112,000.
Total • · 100% I n24,000 >

•
..

• 2,400 shares · -
.,
-·

Constru~ the· pro-forma income state~ent and s~ement of financial position

_to incorporate· the fina~cing feedback which _results · from adopting the
financing mix given above. •

·solution: • . -!

.-·. Fipre 9-3. \.·•

• Projected Income Stat~l.(Seconc, P-,). ·

' • • · For2()X5 ~

20X4 _ ·.20X5 Foiecast • ..

Actual • ••. •. ·FlfSI Pass Feedback , Second Pass -
Sales· . . -. ,-a,ooo. - .· _ -~•soo· .. -. • •
• •
_,,.I
-~ -PS,socr
Operating oosls (inclusive of . . .
P200 depreciation)° • . - 5432 • ·. 5,975 - •• · -§,975
Earnings before· interest and. .' 625 .
.taxes . 568 625 -:·.
.Less Interest expense • - 176 176 . .. + ·10· . . ·1aa
. Earnings. ~-tax es :· ,• . . ·392· .· 449 · 439
T-(~ ) - -157 . • _.. . 180 . - 4 176
-Net income ~prefe rence _· . ... •
dividend-· . .. 235· . '263
• ' . . _·a.
__
. , Dividends to prefe,ence
Net income available to ---- 8 .. . . ' .

Off,lnary ·l!m -~ ~
Dividends 'k) ordnary 116 • · 125 .• •~ 6 131
• ~ to retained earnings ' -~ \. . ~
 ,-

Financial Fo;ecastingfor Sltfllegic Growth 209

-
• Figure 9-4.
Projected Statement of Financial Position (Second Pass) . • • .•
(Thousands of Pesos)

,,- 20X4 20X5 Forecast

' . Actual RrstPass· Feedback s«:oncf Pass.

Cash
Assets
,. 20 •. p· 22 p 22 .
825
AocoUnts receivable 750 -825
' ' 1nventorieS . 1,230 1,353 .. ·1,353·
I I
' Tota1 current assets
. •
P2,000 192.200 P2.200
• Net plant and equipment 2,QQQ 2.~ 2,200
1 . , T0181 Assets • 194,000 P4,400 '4,100
I

I. Uabilities and Equity

Accounts payable p 120 p 132 p ,132
Notes payable '. 220 ~220-, . + 56 •. 276
• Accruals Z§Q 308 308
Total current liabilities p 620 p 660 ~ 716 ..
_
Long-term bonds 1-.508 • 1,508 + 56 .1,564 ..
. .-
Tota liabilities tt2.128 tt2,168 •. ft2,280
\___
Preference shares p 80 p 80 p 80
~ shares (50,000
shaes) 260' •.. 260 +· 112 372
Retained . . .
. eammgs 1,532 1.668 : .. , 1.656·
Total Equity . - · ~.872 .r P2,008 · •P'l.108
total Liabilities and Equity
: Before AFN· tj,000 .• ~4i1~6•,
..
P4,388 .
./
• -
. Ad~itional funds ~._(AFN). ·p 12-
.. .
, .
-
To~I Liabilities and Eq~!1Y ..~.400
'.
;
Cumulative AFN '
P238·,

In Figure 15-4 the _second pass 20XS -Sta~enieilt of Financial Positjon shows
. that .a shortfall of Pl2,00() will s~ill exist.as ~esult of financing f~back. a1

effects due to the additional. in~~resJ (net- ~f taxes) and· dividend p&yments, that
. reduced th~ projected re~ined· earnings: Jnis amount raises the cumulative
AFN from P224,000 to _P23~,000.
•

.
' \

. : • .
- ,

If additional iterations' are

don'e (i.e.; 3rc1, 4•~, 5th, etc.), the ~dditional financing
needed wo_uld becom~ smaller and smaller until the forecast would be
considered to be_completed~ ·_Making a sp~sheet_using Lotus l'-2-3 or $0me
other •program can facilitate the iteration process and arrive at the final
furecast. •
 210 Chapter·9

-ANALYSIS OF THE FORECAST

. .

is only th~ fir~t .P ~ of ~ta l forecasting

'
.

_Ne xt yea r's for eca st as dev elo ped ·ab ove
ces s. For eca stin g is an iter ativ e pro ¢ess," both· 1n the w_ay the ~nancial
•pro
s are gen era ted and in the _·~ ay th~ fin~cial pl~n is devefoped. For
statement develops a preliminary forecast-'
pos es, the con sul tan t _or_ fin anc ial sta ff
planning pur ds. This ·will serve_,as -a starting
bin atio n of pas t pol icie s a~d tren
•based on a com n m9 dified to. see· wh ~ effects .
for eca st. Th e mo del · is the
point or "baseline"
e on the •firm's _earnings and financial
•_ alternative .operating·. plans woul~- hav
ndi~ ion Lik ew ise, alte m~ tiye o·p era tiilg plans· are examined_ °'1d¢r different~sales- ·
, _co
n ~ s<Jividend j,olicy .and· capital ·structure
7

• gro wth . rate sce nar ios and link ~~ to the fin
ns. Th e rev ised foreca ~t or ~o del can also be ·u$ed· to an aly ~ alternative
• decisio -
- •

_.- workin
.
g.capi
.
tal policies. • \
1
·- -· •
.

4
\ . .
-.
-..
'•
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