Chapter 12
Forecasting and Short-Term Financial
Planning
Questions
1. What are a company’s main sources of cash for a company? What are a company’s main
uses of cash?
The sources of cash (cash receipts or cash inflow) are as follows:
(1) Cash sales from products and services
(2) Payments received on accounts receivables (mainly credit sales)
(3) Cash sales of equipment or other assets of the company
(4) Funding sources (bank loans, bond sales, or stock sales)
The uses of cash (cash disbursements or cash outflow) are:
(1) Cash purchases (supplies, inventories, etc.)
(2) Accounts payable (to suppliers)
(3) Wages and salaries
(4) Rent or lease or mortgage payments
(5) Utility payments (water, electricity, phones, etc.)
(6) Interest payments
(7) Dividend payments
(8) Paying off debt (loans and bonds)
(9) Repurchases of stock
2. What are two key timing issues with respect to predicting cash inflow for a sales forecast?
The two key issues are the timing of the sale and the timing of the collection of the sale, the
cash inflow from the sale.
3. What are some of the production costs that are tied to the sales forecast?
Production costs include the wages paid to workers, the raw materials for manufacturing
products, the overheads (such as electricity, water, plant space, and so on), and the shipping
costs that get the product to the customer.
4. What is a line of credit? Why would a bank require a company with a line of credit to have
a zero balance in its line of credit for at least sixty days a year?
A line of credit is an unsecured bank loan whereby the bank agrees to lend a company up to
a specific amount of cash, at the discretion of the company. In other words, it is just a
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prearranged loan. Often the bank will require the company to pay off the line of credit
(return the balance to zero) and keep it there for a specific period of time each year. For
example, a requirement might be that the line of credit remains at a zero balance for at least
one sixty-day period each year. This is called the clean-up period. Banks require a clean-up
period so the line of credit does not become a permanent loan to the company.
5. What is the difference between a secured and an unsecured loan?
A secured loan has assets assigned to the loan to serve as collateral for the loan should the
borrower default. An unsecured loan has no pledged assets and in the case of default, the
lender is not entitled to any specific assets of the company.
6. Why can excess cash be an opportunity cost for a company?
Excess cash is unemployed cash of the company. If the cash is not needed it can be invested
in an interest bearing account or other assets that can produce income for the company and
therefore is lost potential is an opportunity cost.
7. If a pro forma income statement has 5% for the net income line, what does this mean in
terms of a company’s total sales and per dollar sales?
A 5% net income from a pro forma income statement means that for every dollar of sale
generated by the company, five cents will eventually hit the net income line. Stated another
way, for every dollar of sales, ninety-five cents is expensed in cost of goods sold,
depreciation, interest expense, and taxes, leaving five cents for the owners.
8. When preparing a pro forma income statement, why would a finance manager make
changes in the prior year’s percentages for different line items? Give an example of a line
item that you would expect to vary in percentage every year as sales forecasts grow.
Not all expenses vary directly with sales. One example is fixed costs that by definition do not
vary with sales or production changes. These costs are constant and in a pro forma
statement should be adjusted by the finance manager.
9. In a pro forma balance sheet, what line item would you expect to be constant from year to
year in dollar terms and decreasing in terms of percentage of total assets? When would
this line item have a significant change in percentage?
Plant, Property and Equipment (PP&E) should be constant from year to year given no capital
spending for the year. PP&E is recorded at its original cost and this cost remains on the
books until disposal. There can be a significant change in this item in years of significant
capital spending.
10. Why are cash management and cash budgeting important to a company’s survival?
Failure to manage cash flow can lead to extra borrowing costs, unhappy workers if they are
not paid on time, unhappy suppliers if payments are delayed, and thus a poorly managed
business. Eventually it may lead to failure of the business as expenses surpass income.
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Problems
1. Sales forecasts. For the prior three years, sales for National Beverage Company have been
$21,962,000 (2015), $23,104,000 (2016), and $24,088,000 (2017). The company uses the
prior two year’s average growth rate to predict the coming year’s sales. What were the sales
growth rates for 2016 and 2017? What is the expected sales growth rate using a two-year
average for 2018? What is the sales forecast for 2018?
Remind students that this would be the geometric mean!
ANSWER
Recall growth rates, g = (ending value / beginning value)1 / number of years – 1
Growth rate 2016 = ($23,104 / $21,962) – 1 = 5.2%
Growth rate 2017 = ($24,088 / $23,104) – 1 = 4.26%
Two year average = ($24,088 / $21,962)1/2 – 1 = 4.728390% ➔Geometric Mean
Sales Forecast 2018 = $24,088,000 × (1 + (24,088/21,962) 1/2)) = $25,226,975
Note, the growth rate was not rounded in the final sales forecast answer.
3. Sales forecast based on external data. Raspberry Phones uses external data to forecast the
coming year’s sales. The company has 8% of all new-phone sales in the United States and 6%
of all replacement-phones sales. Industry forecasts predict an additional 18 million new-
phone buyers and 31 million replacement-phone buyers in 2018. If the average Raspberry
phone costs $85, what sales revenues is the company forecasting for 2018?
ANSWER
New phones, 18,000,000 × 0.08 × $85 = $122,400,000
Replacement phones, 31,000,000 × 0.06 × $85 = $158,100,000
Total Sales 2018 = $122,400,000 + $158,100,000
= $280,500,000
5. Sales receipts. National Beverage Company anticipates the following first-quarter sales for
2018: $1,800,000 (January), $1,600,000 (February), and $2,100,000 (March). It posted the
following sales figures for the last quarter of 2017: $1,900,000 (October), $2,050,000
(November), and $2,200,000 (December). The company sells 40% of its products on credit,
and 60% are cash sales. The company collects credit sales as follows: 30% in the following
month, 50% two months later, and 18% three months later with 2% defaults. What are the
anticipated cash inflows for the first quarter of 2018?
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ANSWER
October Sales, $1,900,000
Collected in October = $1,900,000 × 0.60 = $1,140,000
Collected in November = $1,900,000 × 0.40 × 0.30 = $228,000
Collected in December = $1,900,000 × 0.40 × 0.50 = $380,000
Collected in January = $1,900,000 × 0.40 × 0.18 = $136,800
Not collected (bad debt) = $1,900,000 × 0.40 × 0.02 = $15,200
November Sales $2,050,000
Collected in November = $2,050,000 × 0.60 = $1,230,000
Collected in December = $2,050,000 × 0.40 × 0.30 = $246,000
Collected in January = $2,050,000 × 0.40 × 0.50 = $410,000
Collected in February = $2,050,000 × 0.40 × 0.18 = $147,600
Not collected (bad debt) = $2,050,000 × 0.40 × 0.02 = $16,400
December Sales $2,200,000
Collected in December = $2,200,000 × 0.60 = $1,320,000
Collected in January = $2,200,000 × 0.40 × 0.30 = $264,000
Collected in February = $2,200,000 × 0.40 × 0.50 = $440,000
Collected in March = $2,200,000 × 0.40 × 0.18 = $158,400
Not collected (bad debt) = $2,200,000 × 0.40 × 0.02 = $17,600
January Sales $1,800,000
Collected in January = $1,800,000 × 0.60 = $1,080,000
Collected in February = $1,800,000 × 0.40 × 0.30 = $216,000
Collected in March = $1,800,000x 0.40 × 0.50 = $360,000
Collected in April = $1,800,000 × 0.40 × 0.18 = $129,600
Not collected (bad debt) = $1,800,000 × 0.40 × 0.02 = $14,400
February Sales $1,600,000
Collected in February = $1,600,000 × 0.60 = $960,000
Collected in March = $1,600,000 × 0.40 × 0.30 = $192,000
Collected in April = $1,600,000x 0.40 × 0.50 = $320,000
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Collected in May = $1,600,000 × 0.40 × 0.18 = $115,200
Not collected (bad debt) = $1,600,000 × 0.40 × 0.02 = $12,800
March Sales $2,100,000
Collected in March = $2,100,000 × 0.60 = $1,260,000
Collected in April = $2,100,000 × 0.40 × 0.30 = $252,000
Collected in May = $2,100,000x 0.40 × 0.50 = $420,000
Collected in June = $2,100,000 × 0.40 × 0.18 = $151,200
Not collected (bad debt) = $2,100,000 × 0.40 × 0.02 = $16,800
FROM January Receipts February Receipts March Receipts
October $136,800
November $410,000 $147,600
December $264,000 $440,000 $158,400
January $1,080,000 $216,000 $360,000
February $960,000 $192,000
March $1,260,000
TOTAL $1,890,800 $1,763,600 $1,970,400
7. Production cash outflow. National Beverage Company produces its products two months in
advance of anticipated sales and ships to warehouse centers the month before sale. The
inventory safety stock is 10% of the anticipated month’s sale. Beginning inventory in
October 2017 was 267,143 units. Each unit costs $0.25 to make. The average selling price is
$0.70 per unit. The cost is made up of 40% labor, 50% materials, and 10% shipping (to
warehouse). Labor is paid the month of production, shipping the month after production,
and raw materials the month prior to production. What is the production cash outflow for
the month of October 2017, and in what months does it occur? Note: October production is
based on December anticipated sales. Use the fourth-quarter sales forecasts from Problem
5.
ANSWER
Anticipated Sales in December is $2,200,000/$0.70 = 3,142,857 units
Safety stock = 3,142,857 × 0.10 = 314,286
Desired Ending Inventory = 3,142,857 + 314,286 = 3,457,143
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Beginning Inventory = 267,143
Required Production for October = 3,457,143 – 267, 143 = 3,190,000
Production Costs:
Labor = 3,190,000 × $0.25 × 0.40 = $319,000
Raw materials = 3,190,000 × $0.25 × 0.50 = $398,750
Shipping = 3,190,000 × $0.25 × 0.10 = $79,750
TOTAL OCTOBER PRODUCTION COSTS = 3,190,000 × $0.25 = $797,500
Cash Outflow is in
September for raw materials, $398,750
October for labor, $319,000
November for shipping, $79,750
9. Pro forma income statement. Given the income statement below for National Beverage
Company for 2017, and the sales forecast from Problem 1, prepare a pro forma income
statement for 2018.
National Beverage Company
Income Statement for December 31, 2017
Sales Revenue $24,088,000
COGS 8,164,000
SG&A Expenses 7,616,000
Depreciation Expenses 2,388,000
EBIT $ 5,920,000
Interest Expense 220,000
Taxable Income $ 5,700,000
Taxes 2,498,000
Net Income $ 3,202,000
ANSWER
First find the percentage of each income statement line from 2017 as a percent of sales.
National Beverage Company
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Income Statement for December 31, 2017
Sales Revenue $24,088,000100.00%
COGS 8,164,00033.89%
SG&A Expenses 7,616,00031.62%
Depreciation Expenses 2,388,0009.91%
EBIT $ 5,920,00024.58%
Interest Expense 220,000 0.91%
Taxable Income $ 5,700,00023.66%
Taxes 2,498,00010.37%
Net Income $ 3,202,00013.29%
Sales Forecast 2018 = $24,088,000 × 1.04728390 = $25,226,975
National Beverage Company
Pro Forma Income Statement for 2018
Sales Revenue $25,226,975100.00%
COGS 8,550,02633.89%
SG&A Expenses 7,976,11431.62%
Depreciation Expenses 2,500,9149.91%
EBIT $ 6,199,92124.58%
Interest Expense 230,402 0.91%
Taxable Income $ 5,969,51923.66%
Taxes 2,616,11510.37%
Net Income $ 3,353,40413.29%
Note, the percentages used were not rounded; for example, the COGS is figured as ($8,164,000
/ $24,088,000) × $25,226,975 = $8,550,025.90
10. Pro forma income statement. Given the following income statement for California Cement
Company for 2017, and the sales forecast from Problem 2, prepare a pro forma income
statement for 2018.
California Cement Company
Income Statement for December 31, 2017
Sales Revenue $22,923,000
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COGS 11,713,000
SG&A Expenses 4,043,000
Depreciation Expenses 1,420,000
EBIT $ 5,747,000
Interest Expense 173,000
Taxable Income $ 5,574,000
Taxes 1,723,000
Net Income $ 3,851,000
ANSWER
First find the percentages of each income statement line as a percent of sales.
California Cement Company
Income Statement for December, 2017
Sales Revenue $22,923,000100.00%
COGS 11,713,00051.10%
SG&A Expenses 4,043,00017.64%
Depreciation Expenses 1,420,0006.19%
EBIT $ 5,747,00025.07%
Interest Expense 173,000 0.75%
Taxable Income $ 5,574,00024.32%
Taxes 1,723,0007.52%
Net Income $ 3,851,00016.80%
Sales Forecast for the company from problem number two:
Sales Forecast 2018 = $22,923,000 × 1.07028967 = $24,534,250
California Cement Company
Pro Forma Income Statement for 2018
Sales Revenue $24,534,250100.00%
COGS 12,536,30351.10%
SG&A Expenses 4,327,18117.64%
Depreciation Expenses 1,519,8116.19%
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EBIT $ 6,150,95525.07%
Interest Expense 185,160 0.75%
Taxable Income $ 5,965,79524.32%
Taxes 1,844,1097.52%
Net Income $ 4,121,68616.80%
Note, the percentages used were not rounded; for example, the COGS is figured as ($11,713,000
/ $22,923,000) × $24,534,250 = $12,536,302.85
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11. Pro forma balance sheet. Next year, National Beverage Company will increase its plant,
property, and equipment by $4,000,000 with a plant expansion. The inventories will grow
by 30%, accounts receivable will grow by 20%, and the company will reduce marketable
securities by 50% to help finance the expansion. Assume all other asset accounts will remain
the same and the company will use long-term debt to finance the remaining expansion costs
(no change in common stock or retained earnings). Using this information and the following
balance sheet for National Beverage Company for 2017, prepare a pro forma balance sheet
for 2018. How much additional debt will the company need using this pro forma balance
sheet?
National Beverage Company
Balance Sheet for the Year Ending December 31, 2017
Current Assets
Cash $2,440,000
Marketable Securities 1,656,000
Accounts Receivable 2,704,000
Inventories 1,641,000
Total Current Assets $ 8,441,000
Long-term Assets
Plant, Property & Equip. $13,686,000
Goodwill 1,403,000
Intangible Assets 6,433,000
Total Long-term Assets $21,522,000
TOTAL ASSETS $29,963,000
Current Liabilities
Accounts Payable $ 5,622,000
Other Current Liabilities $ 3,268,000
Total Current Liabilities $ 8,890,000
Long-term Liabilities
Long-Term Debt $ 1,314,000
Other Long-term Liabilities $ 2,839,000
Total Long-Term Liabilities $ 4,153,000
TOTAL LIABILITIES $13,043,000
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Owners’ Equity
Common Stock $ 6,861,000
Retained Earnings $10,059,000
TOTAL OWNERS’ EQUITY $16,920,000
TOTAL LIABILITIES & OWNER’S EQUITY $29,963,000
ANSWER
Start by changing the known asset accounts and then total up assets. Then use the total assets
for total liabilities and owner’s equity balance. Finally, make the required change in long-term
debt to balance the balance sheet.
National Beverage Company
Pro Forma Balance Sheet for the Year Ending December 31, 2018
Current Assets
Cash $2,440,000
Marketable Securities 828,000 (down 50%)
Accounts Receivable 3,244,800 (up 20%)
Inventories 2,133,300 (up 30%)
Total Current Assets $ 8,646,100
Long-term Assets
Plant, Property & Equip. $17,686,000
Goodwill 1,403,000
Intangible Assets 6,433,000
Total Long-term Assets $25,522,000
TOTAL ASSETS $34,168,100
Current Liabilities
Accounts Payable $ 5,622,000
Other Current Liabilities $ 3,268,000
Total Current Liabilities $ 8,890,000
Long-term Liabilities
Long-Term Debt $ 5,519,100
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Other Long-term Liabilities $ 2,839,000
Total Long-Term Liabilities $ 8,358,100
TOTAL LIABILITIES $17,248,100
Owner’s Equity
Common Stock $ 6,861,000
Retained Earnings $10,059,000
TOTAL OWNER’S EQUITY $16,920,000
TOTAL LIABILITIES & OWNER’S EQUITY $34,168,100
Change in long-term debt is: $5,519,100 - $1,314,000 = $4,205,100
12. Pro forma balance sheet. Next year, California Cement Company will increase its plant,
property, and equipment by $6,000,000 with a plant expansion. The inventories will grow by
80%, accounts receivable will grow by 70%, and the company will reduce marketable
securities by 60% to help finance the expansion. Assume all other asset accounts remain the
same and the company will use long-term debt to finance the remaining expansion costs (no
change in common stock or retained earnings). Using this information and the balance sheet
provided for California Cement Company for 2017, prepare a pro forma balance sheet for
2018. How much additional debt will the company need using this pro forma balance sheet?
California Cement Company
Balance Sheet for the Year Ending December 31, 2017
Current Assets
Cash $1,447,000
Marketable Securities 1,129,000
Accounts Receivable 3,769,000
Inventories 2,601,000
Total Current Assets $ 8,946,000
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Long-term Assets
Plant, Property & Equip. $ 6,760,000
Goodwill 4,082,000
Intangible Assets 1,506,000
Total Long-term Assets $12,348,000
TOTAL ASSETS $21,294,000
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Current Liabilities
Accounts Payable $ 6,125,000
Other Current Liabilities $ 1,198,000
Total Current Liabilities $ 7,323,000
Long-term Liabilities
Long-Term Debt $ 2,488,000
Other Long-term Liabilities $ 1,524,000
Total Long-Term Liabilities $ 4,012,000
TOTAL LIABILITIES $11,335,000
Owner’s Equity
Common Stock $ 2,493,000
Retained Earnings $ 7,466,000
TOTAL OWNER’S EQUITY $ 9,959,000
TOTAL LIABILITIES & OWNER’S EQUITY $21,294,000
ANSWER
Start by changing the known asset accounts and then total up assets. Then use the total assets
for total liabilities and owner’s equity balance. Finally, make the required change in long-term
debt to balance the balance sheet.
California Cement Company
Pro Forma Balance Sheet for the Year Ending
December 31, 2018
Current Assets
Cash $1,447,000
Marketable Securities 451,600
Accounts Receivable 6,407,300
Inventories 4,681,800
Total Current Assets $12,987,700
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Long-term Assets
Plant, Property & Equip. $12,760,000
Goodwill 4,082,000
Intangible Assets 1,506,000
Total Long-term Assets $18,348,000
TOTAL ASSETS $31,335,700
Current Liabilities
Accounts Payable $ 6,125,000
Other Current Liabilities $ 1,198,000
Total Current Liabilities $ 7,323,000
Long-term Liabilities
Long-Term Debt $12,529,700
Other Long-term Liabilities $ 1,524,000
Total Long-Term Liabilities $14,053,700
TOTAL LIABILITIES $21,367,700
Owner’s Equity
Common Stock $ 2,493,000
Retained Earnings $ 7,466,000
TOTAL OWNER’S EQUITY $ 9,959,000
TOTAL LIABILITIES & OWNER’S EQUITY $31,335,700
Change in Long-term debt: $12,529,700 - $2,488,000 = $10,041,700
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