Financial Management Fundamentals

Introduction

Problem 1. Osgood Products has announced that it plans to finance future investments so that the firm
will achieve an optimum capital structure. Which one of the following corporate objectives is consistent
with this announcement?
A. Maximize earnings per share. C. Maximize the net worth of the firm.
B. Minimize the cost of debt. D. Minimize the cost of equity.

Financial Statement Analysis

Problem 2. PADO Enterprise showed the following items in its balance sheet for 31 December 2018:

Cash P 40 000 Prepaid expenses 20 000 Accrued liabilities 11 000

Marketable securities 15 000 Inventories 25 000 Income tax payable 18 000
Accounts receivable 30 000 Accounts payable 14 000 Short term notes payable 21 000

Determine the following for 31 December 2018:

1. Current ratio 2. Acid-test ratio 3. Cash ratio

Problem 3. PALMA Corp processes palm oils. The following information pertains to its financial position
as of 31 December 2018:
Short term debt P 30 000
Long term debt 40 000
Total Assets 140 000
PALMA also showed the following income statement for the year just ended:
Net operating income P 15 000
Interest expenses (6 000)
Net income before taxes 9 000
Income tax (30%) (2 700)
Net income 6 300
Determine the following:
1. Debt ratio 2. Debt to equity ratio 3. Times interest earned
Problem 4. LOVELY Corporation has the following financial statements presented in its annual report:

Balance Sheet
31 December 2018
2018 2017 2018 2017
Cash 12 000 15 000 AP 11 700 11 850
AR 10 000 10 000 Bank loan 48 300 44 150
Inventory 14 000 10 000 Total liabilities 60 000 56 000
Current assets 36 000 35 000
Equity 60 000 84 000
PPE 84 000 105 000
Total Assets 120 000 140 000 Liab &Equity 120 000 140 000

Income statement
For the period ended 31 December 2018

Sales revenues P 191 250 Interest expenses 5 875

CGS 153 000 Net income before taxes P 19 125
GP P 38 250 Income tax (40%) 7 650
Other operating expenses 13 250 Net income P 11 475
Net operating income P 25 000

The owner of LOVELY wants to determine her efficiency in the use of assets in her company. Determine
the following:

1. Total asset turnover 5. AP Turnover 8. Days – AP

2. Fixed asset turnover 6. Days – AR (Days sales 9. Operating cycle (days)
3. AR Turnover outstanding) 10. Cash conversion cycle
4. Inventory Turnover 7. Days – Inventory (days)
Problem 5. The Balance Sheet of 4MA1 Corporation at the end of the first years of operations indicate
the following: 2018 2017
Total current assets 600 000 560 000
Total investments 60 000 40 000
Total PPE 900 000 700 000
Total assets 1560 000 1300 000
Total current liabilities 150 000 80 000
Total long term liabilities 350 000 250 000
Preferred 9% stock, P100 par 100 000 100 000
Common stock, P10 par 600 000 600 000
APIC in excess of common stock’s par 60 000 60 000
Retained earnings 300 000 210 000
Total liabilities and equity 1560 000 1300 000

Net income is P115 000 and interest expense is P30 000 for 2018.
1. What is the rate earned on total assets for 2018?
2. What is the rate earned on stockholders’ equity for 2018?
3. What is the earnings per share on common stock for 2018?
4. If the market price is P30, what is the P/E ratio for the common stock?

Problem 6. Selected data for 4MA4 Holdings as of 31 December of each year is as follows:
2017 2018
Preferred stock, 8% par P100, noncumulative P 250 000 P 250 000
Common stock 600 000 800 000
Retained earnings 150 000 370 000
Dividends paid on preferred stock for the year 20 000 20 000
Net income for the year 120 000 240 000

1. What is 4MA4 Holding’s return on common equity?

Budgeting

Problem 7. JENNYCIS Corporation sells birdhouses. The company has prepared the following forecast for
the third quarter of 2010:
July 5 000 August 6 000 September 10 000

Inventory of finished goods in June 30, 2010 is budgeted at 1000 units. Management would like the
desired quantity of finished goods inventory at the end of each month to equal 20% of next month’s
budgeted sales. October’s projected sales are 12 000 units. Each completed unit of finished product
requires 3 square feet of raw materials at a cost of P15 per square foot. The company has determined
that it needs 10% of next month’s raw material needs on hand at the end of each month.
1. The cost of direct material that should be purchased in August is?

Problem 8. Kanban Company estimated sales of 40,000 units at P6 each. Budgeted cost of goods sold
per unit includes P1.20 of direct materials, six minutes of direct labor time at P15 per hour, and unit
overhead cost of P1.30. Kanban pays a sales commission of ten percent of sales revenue. Fixed selling
and administrative expenses are budgeted at P25,000. Prepare a statement of operating income.
1. Budgeted variable marketing expense is?
2. Budgeted operating income is?
3. Recalculate budgeted operating income assuming fixed selling and administrative expenses double
and the selling price per unit increases 10%.

Problem 9. CRIZZLE Corporation’s budgeted income statement reflects the following amounts:

Sales Purchases Expenses

January P 120 000 P 78 000 P 24 000
February 110 000 66 000 24 200
March 125 000 81 250 27 000
April 130 000 54 500 28 600
Sales are collected 50% in the month of sale, 30% in the month following sale, and 19% in the second
month following sale. One percent of sales is uncollectible and expensed at the end of the year. CRIZZLE
Pays for all purchases in the month following purchase and takes advantage of a 3% discount. The
following balances are as of January 1:
Cash 88 000
Accounts receivable 58 000
Accounts payable 72 000
Of the AR balance, P35 000 will be collected in January and the remaining amount will be collected in
February. The monthly expense figures include P5 000 depreciation. The expenses are paid in the month
incurred.
1. Expected cash balance at the end of January
2. Budgeted cash receipts in February
3. Budgeted cash payments in February.

Capital Budgeting

Problem 10. What is a challenge that the long-term aspect of capital budgeting presents to the
management accountant.
A. Activity can be tracked for a single accounting period.
B. Capital projects affect multiple accounting periods.
C. The flexibility of the capital budgeting decision.
D. Freedom of the organization’s financial planning.

Problem 11. The Patrick Company’s yearend balance sheet is shown below. Its cost of common equity is
16%, its before-tax cost of debt is 13%, and its marginal tax rate is 40%. Assume that the firm’s long-
term debt sells at par value. The firm has 576 shares of commons stock outstanding that sell for P4.00
per share. Calculate Patirck’s WACC using market value weights.
Assets Liabilities and equity
Cash P 120
AR 240
Inventories 360 Long-term debt P 1 152
Plant and equipment, net 2 160 Common equity 1 728
Total assets P 2 880 Total liabilities and equity P 2 880
Problem 12. JACQCHEE Snacks is considering an equipment that will increase annual net cash flows by
the following amounts each year:
Year Incr. cash flows Year Incr. cash flows Year Incr. cash flows
1 P 100 000 3 70 000 5 20 000
2 70 000 4 60 000

1. If the initial cost of the machine is P300 000, what is the payback period?
2. If the initial cost of the machine is P246 000, what is the payback period?

Problem 13. SANG Corporation is considering whether to invest in Project Karaoke which requires an
initial cost of P100 000. Project Karaoke is expected to generate P118 000 next year after which it will be
deemed worthless. Based on the risk of Project Karaoke, its financers would require a rate of return of
15% for it to be considered profitable.
1. Calculate Project Karaoke’s NPV.
2. Calculate Project Karaoke’s IRR.
3. Calculate Project Karaoke’s PI.
4. Evaluate the desirability of Project Karaoke based on the three models.

Raising Capital and the Optimal Capital Structure

Problem 14. JELLENIE Corp uses the external financing needed as a plug item. It has a new capital
budget of P2 000 000, a profit of P3 000 000 and a payout ratio of 60%,
1. How much should be raised in external funds?

Problem 15. A firm’s target or optimal capital structure is consistent with which one of the following?
A. Maximum earnings per share.
B. Minimum cost of debt.
C. Minimum risk.
D. Minimum weighted-average cost of capital
Problem 16. Cyclone Software Co. is trying to establish its optimal capital structure. Its current capital
structure consists of 25% debt and 75% equity.; however, the CEO believes that the firm should use
more debt. The risk-free rate, rRF, is 5%; the market risk premium, RPM, is 6%; and the firm’s tax rate is
40%. Currently, Cyclone’s cost of equity is 14%, which is determined by the CAPM.
What would be Cyclone’s estimated cost of equity if its changed its capital structure to 50% debt and
50% equity.

Working Capital Management

Problem 17. Operating and cash conversion cycle. MEDIATRIX Company has an inventory conversion
period of 50 days, a receivables conversion period of 25 days, and a payment cycle of 20 days. What is
the:
1. Operating cycle
2. Cash conversion cycle

Problem 18. Financing working capital. LEDDAH Co. has total fixed assets of P200 000.

1st Q 2nd Q 3rd Q 4th Q

Cash P 40 000 20 000 25 000 30 000
Accounts Receivable 76 000 35 000 67 000 108 000
Inventories 40 000 85 000 89 000 30 000

1. If LEDDAH’s policy is to finance all fixed assets and half the permanent current assets with long-term
financing and the rest with short term financing, what is the level of long-term financing?
2. Describe the type of financing of the company’s working capital in (1.).
3. If LEDDAH’s policy in financing its working capital is described as moderate, what is the level of long-
term financing?
4. If LEDDAH’s policy is to finance all the fixed and permanent assets and half the seasonal assets with
long-term financing and the rest with short term financing, describe the type of financing it employs.

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