KH 4340 Lecture Notes - Lecture 12: Opportunity Cost, Retained Earnings, Preferred Stock

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blackmuskrat170

11 Dec 2020

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Components involved in financial planning strategy include strategy, financial planning and analysis and financial management. Short term and long-term f. planning: term (cash management): one to two years or less. Businesses want to have enough cash on hand to pay bills, businesses need money coming in: term (capital spending): two years or more. Accounts receivable (accounts owed to company/ revenue source) Average day sales outstanding (average time and day customers are paying their bills) Aging report (organizes accounts by which are the most past due) Capital spending is the net spending on fixed assets. Net spending is the total money that a business uses to acquire real assets, less the sale of previously owned real assets. Funding mix required for capital expenditures is referred to as the capital structure. This is debt and equity and both debt and equity have costs. Flotation costs- expenses related to issuing new stock.

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Debt Management Ratios

Financial statements for Remington Inc. follow.

RemingtonInc.
ConsolidatedStatements of Income
(In thousands exceptper share amounts)
	2013	2012	2011
Net sales	$ 7,245,088	$ 6,944,296	$ 6,149,218
Cost of goods sold	(5,286,253)	(4,953,556)	(4,355,675)
Gross margin	$ 1,958,835	$ 1,990,740	$ 1,793,543
General and administrativeexpenses	(1,259,896)	(1,202,042)	(1,080,843)
Special and nonrecurring items	2,617	-	-
Operating income	$ 701,556	$ 788,698	$ 712,700
Interest expense	(63,685)	(62,398)	(63,927)
Other income	7,308	10,080	11,529
Gain on sale of investments	-	9,117	-
Income before income taxes	$ 645,179	$ 745,497	$ 660,302
Provision for income taxes	254,000	290,000	257,000
Net income	$ 391,179	$ 455,497	$ 403,302
Net income per share	$1.08	$1.25	$1.11

RemingtonInc.
ConsolidatedBalance Sheets
(In thousands)
ASSETS	Dec. 31,2013		Dec. 31,2012
Current assets:
Cashand equivalents		$ 320,558		$ 41,235
Accounts receivable		1,056,911		837,377
Inventories		733,700		803,707
Other		109,456		101,811
Total current assets		$2,220,625		$1,784,130
Property and equipment, net		1,666,588		1,813,948
Other assets		205,342		248,372
Total assets		$4,092,555		$3,846,450
LIABILITIES ANDSTOCKHOLDERS' EQUITY
Currentliabilities:
Accounts payable		$ 250,363		$ 309,092
Accrued expenses		347,892		274,220
Other current liabilities		15,700		-
Income taxes		93,489		137,466
Total current liabilities		$ 707,444		$ 720,778
Long-term debt		$ 650,000		$ 541,639
Deferred income taxes		275,101		274,844
Other long-term liabilities		61,267		41,572
Total liabilities		$1,693,812		$1,578,833
Stockholders'equity:
Common and preferred stock		$ 189,727		$ 189,727
Additional paid-in capital		128,906		127,776
Retained earnings		2,397,112		2,136,794
		$2,715,745		$2,454,297
Less: Treasury stock, at cost		(317,002)		(186,680)
Total stockholders' equity		2,398,743		$2,267,617
Total liabilities and stockholders'equity		4,092,555		$3,846,450

Required:

Using Remington's financial statements as shown above, respondto the following requirements.

1. Compute the five debt management ratios for2012 and 2013. Round your answers to two decimal places.

	2013	2012
Times interest earned
Debt to equity ratio
Debt to total assets ratio
Long-term debt to equity ratio
Long-term debt to total assetsratio

2. Conceptual Connection: Indicate whether theratios have changed significantly from 2012 to 2013.

Select All the ratios decreased,Times interest earned ratiodecreased, other ratios did not change by much., Debt to equityratio decreased, other ratios did not change by much., Debt tototal assets ratio decreased, other ratios did not change by much,Long-term-debt to equity ratio decreased, other ratios did notchange by much, Long-term-debt to total assets ratio decreased,other ratios did not change by much.

B. Do the ratios suggest that Remington is more or less riskyfor long-term creditors at December 31, 2013, than at December 31,2012? Explain.

SelectMore risky for long-term creditors Less risky forlong-term creditors

bronzetiger591

Given the financial statements for Jones Corporation and SmithCorporation:

JONES CORPORATION
Current Assets					Liabilities
Cash			$	22,000	Accounts payable	$	127,000
Accounts receivable				81,100	Bonds payable (long term)		85,600
Inventory				50,000
Long-Term Assets					Stockholders' Equity
Gross fixed assets	$	526,000			Common stock	$	150,000
Less: Accumulated depreciation		150,700			Paid-in capital		70,000
Net fixed assets*				375,300	Retained earnings		95,800
Total assets			$	528,400	Total liabilities and equity	$	528,400


Sales (on credit)	$	1,326,000
Cost of goods sold		790,000
Gross profit	$	536,000
Selling and administrative expense^â		304,000
Depreciation expense		59,800
Operating profit	$	172,200
Interest expense		14,500
Earnings before taxes	$	157,700
Tax expense		99,600
Net income	$	58,100

*Use net fixed assets in computing fixed asset turnover.
â Includes $13,500 in lease payments.

SMITH CORPORATION
Current Assets					Liabilities
Cash			$	38,400	Accounts payable	$	83,300
Marketable securities				12,700	Bonds payable (long term)		217,000
Accounts receivable				74,300
Inventory				83,700
Long-Term Assets					Stockholders' Equity
Gross fixed assets	$	504,000			Common stock	$	75,000
Less: Accumulated depreciation		255,800			Paid-in capital		30,000
Net fixed assets*				248,200	Retained earnings		52,000
Total assets			$	457,300	Total liabilities and equity	$	457,300

*Use net fixed assets in computing fixed asset turnover.

SMITH CORPORATION
Sales (on credit)	$	1,100,000
Cost of goods sold		640,000
Gross profit	$	460,000
Selling and administrative expense^â		272,000
Depreciation expense		56,500
Operating profit	$	131,500
Interest expense		24,300
Earnings before taxes	$	107,200
Tax expense		56,500
Net income	$	50,700

^âIncludes $13,500 in lease payments.

a. Compute the following ratios. (Use a360-day year. Do not round intermediate calculations. Input yourprofit margin, return on assets, return on equity, and debt tototal assets answers as a percent rounded to 2 decimal places.Round all other answers to 2 decimal places.)

	Jones Corp.		Smith Corp.
Profit margin		%		%
Return on assets (investments)		%		%
Return on equity		%		%
Receivable turnover		times		times
Average collection period		days		days
Inventory turnover		times		times
Fixed asset turnover		times		times
Total asset turnover		times		times
Current ratio		times		times
Quick ratio		times		times
Debt to total assets		%		%
Times interest earned		times		times
Fixed charge coverage		times		times

ceruleanpug223

MINI CASE: CASTILLO PRODUCTS COMPANY

The Castillo Products Company was started in 2011. The company manufactures components for personal decision assistant (PDA) products and for other handheld electronic products. A difficult operating year, 2012, was followed by a profitable 2013. The founders (Cindy and Rob Castillo) are interested in estimating their cost of financial capital since they are expecting to secure additional external financing to support planned growth.

Short-term bank loans are available at an 8 percent interest rate. Cindy and Rob believe that the cost of obtaining long-term debt and equity capital will be somewhat higher. The real interest rate is estimated to be 2 percent and a long-run inflation premium is estimated at 3 percent. The interest rate on long-term government bonds is 7 percent. A default-risk premium on long-term debt is estimated at 6 percent; plus Castillo Products is expecting to have to pay a liquidity premium of 3 percent due to the illiquidity associated with its long-term debt. The market risk premium on large-firm common stocks over the rate on long-term government bonds is estimated to be 6 percent. Cindy and Rob expect that equity investors in their venture will require an additional investment risk premium estimated at two times the market risk premium on large-firm common stocks.

Following are income statements and balance sheets for the Castillo Products Company for 2012 and 2013.

Castillo Products Company

	2012	2013
Net sales	$900,000	$1,500,000
Cost of goods sold	540,000	900,000
Gross profit	360,000	600,000
Marketing	90,000	150,000
General and administrative	250,000	250,000
Depreciation	40,000	40,000
EBIT	-20,000	160,000
Interest	45,000	60,000
Earnings before taxes	-65,000	100,000
Income taxes	0	25,000
Net income (loss)	-$ 65,000	$ 75,000
	2012	2013
Cash	$ 50,000	$ 20,000
Accounts receivable	200,000	280,000
Inventories	400,000	500,000
Total current assets	650,000	800,000
Gross fixed assets	450,000	540,000
Accumulated depreciation	-100,000	-140,000
Net fixed assets	350,000	400,000
Total assets	$1,000,000	$1,200,000
Accounts payable	$ 130,000	$ 160,000
Accruals	50,000	70,000
Bank loan	90,000	100,000
Total current liabilities	270,000	330,000
Long-term debt	300,000	400,000
Common stock (.05 par)	150,000	150,000
Additional paid-in-capital	200,000	200,000
Retained earnings	80,000	120,000
Total liabilities and equity	$1,000,000	$1,200,000

E.Cindy and Rob estimate that the market value of the common equity in the venture is $900,000 at the end of 2013. The market values of interest-bearing debt are judged to be the same as the recorded book values at the end of 2013. Estimate the market value-based weighted average cost of capital for Castillo Products.

F.Would you recommend to Cindy and Rob that they use the book value-based WACC estimate or the market value-based WACC estimate for planning purposes? Why?

sangriabutterfly552

KH 4340 Lecture Notes - Lecture 12: Opportunity Cost, Retained Earnings, Preferred Stock

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