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Financial Planning and

Forecasting

Financial Planning Process

• A firm’s financial plan involves decisions
about:
• Liquidity
• Working Capital
• Inventories
• Capital Budgeting
• Capital Structure
• Dividends

• Every financial plan has three components: – A model – Inputs – Outputs • The model is a set of mathematical relationships between the inputs and the outputs. .The Financial Plan • Financial planning is the process of evaluating the impact of alternative investing and financing decisions of the firm.

.The Financial Plan • Inputs to the model may include: – Projected sales – Collections – Costs – Interest rates – Exchange rates • The outputs of the financial plan are: – Pro forma financial statements – A set of budgets • Pro forma financial statements are projected financial statements.

• Short-term financial plans – Usually have a planning horizon of one year or less.or ten-year planning horizon. – Tend to be less detailed. – Are detailed and very specific. • Long-term financial plans – Usually have a five.The Financial Plan • The planning horizon is the length of time that the financial plan projects into the future. • The planning horizon is also renewed with each update. • Short-term plans are updated more frequently than long-term plans. . • A planning cycle specifies how frequently plans are reviewed and updated.

5  4  112.716.616.000   2.20  100  2.3  117.5  50  1.20  283.15  57.8  88  195.Financial Statement Analysis (using % of Sales method) Micri Drive Company     Sales Cost Depreciation Total Op Cost EBIT Interest EBT taxes (40%) NI Before Preferred Dividend Preferred Dividend NI Common equity Shares of Common equity Dividend per Share Dividends to common Additions to RE Income Statement Actual 2004 Forecast for 2005     $3.5  56  .8  78.

Financial Statement Analysis (using % of Sales method) Microdrive Company Balance Sheet in (million dollars)   Actual 2004 Forcast 2005 Assets     Cash 10  ST Investments 0  Accounts Receivable 375  Inventories 615  Total CA 1000  Net Plant and Equipment 1000  Total Assets 2000  Liabilities and Equities     Accounts payable 60  Accruals 140  Notes Payable 110  Total CL 310  LT Bond 754  Total Liabilities 1064  Preferred Stock 40  Common Stock 130  RE 766  Total Common Equity 896  Total Liabilities & Equity 2000  Additioanl Fund Needed     .

– RR= Retention rate. – g = projected growth rate in sales. – S0 = current level of sales.Additional Fund Needed • Let – A/S0 = Percentage of required assets to sales – L/S0 = the increase in spontaneous liabilities per dollar increase in sales. . – S1 = Total Sales projected for the next year – M = net profit margin on sales.

.Additional Fund Needed AFN = {Required increase in assets ( A/S0 )* ^S} – {Spontaneous increase liabilities ( L/S0 )*^S} – { Increase in Retained Earnings (MS1 * RR) } Try to apply the above formula for Micro Drive Income statement and Balance Sheet to achieve the AFN Data.

• Cost of goods sold: 60 percent of sales. Sales are spread evenly throughout the year.000. • Purchases: 50 percent of cost of goods sold. payable Rs 75.Problem Mahalakshmi Nautical Company expects sales of Rs 2. prepare a forecast income statement and balance sheet for year end: • Cash: Minimum 4 percent of annual sales. • Inventories: Turnover of eight times a year. • Income taxes: 50 percent of before-tax profits. Capital expenditures equal to depreciation. • Dividends: None.4 million next year and the same amount following year.000 now. • Accounts receivable: 60-day average collection period based on annual sales. • Retained earnings: Rs 500.000 at year end. • Net fixed assets: Rs 500. No additions planned. • Accrued expenses: 3 percent of sales. .000 now. • Bank borrowings: Rs 50.000. • Net profit margin: 8 percent of sales. Can borrow up to Rs 250.000 now. • Common stock: Rs 100. On the basis of the following information. • Long-term debt: Rs 300.000 now. • Accounts payable: One month’s purchases.

.Short Term Financial Budgets …….Extension of Financial Planning .

Budget • A Budget is a detailed schedule of the financial activity and it can be of the following types as per the need and requirement of the business: – Sales Budget – Advertising Budget – Cash Budget – A Budget can be a short term as well as long term but usually it is perceived to be a short term plan of business work. .

Budget • Clearly stated strategic. operating and financial objectives. classified by – time period – division – type . • Budgets. • Description of underlying strategies. • Contingency plans for emergencies. • Assumptions on which the plan is based.

– Show monthly cash balances. • They are usually constructed on a monthly basis.Cash Budget • Cash budgets – Project and summarize cash inflows and outflows. • They are usually based on sales forecasts. . – More frequent planning may be warranted. – Show any short-term borrowing needed to cover cash shortfalls.

000 $500. you are required to prepare a cash budget for April. Projected sales for April through July are given below.000. Sales in the first three months of the year were $400. and $600. Mark Accounts receivable level at the end Month: April May June July of June. $500.000 $1.000 $1. May.000.000. Projected Sales: $1. and June.000 . respectively.Problem • As a cash manager of Tyler Paints.000.000.200.

. • Tyler collects 20% of its sales in the month of the sale. Tyler expects to pay taxes of $200. An additional 45% is collected in the month following the sale. while other fixed expenses (such as rent) are $120. • Tyler’s policy is to have a monthly cash balance of $450.000 in June. Surplus cash will be used to pay off such loans. and are paid for in the month prior to the sale.000 for liquidity reasons. and the remaining 35% is collected two months after the sale. Any shortages will be met by short-term borrowings.000 per month. Purchases amount to 60% of next month’s sales.Continue…. Wages equal 20% of the current month’s sales.

1) Overview of Corporate Finance. . 2) How Corporation Issues shares.

Common Stock Treasury Stock • Stock that has been repurchased by the company and held in its treasury. Issued Shares • Shares that have been issued by the company. Outstanding Shares • Shares that have been issued by the company and held by investors. .

Par Value Value of security shown on certificate.Common Stock Authorized Share Capital Maximum number of shares that the company is permitted to issue. . as specified in the firm’s articles of incorporation. Retained Earnings Earnings not paid out as dividends.

Market Value Book value is a backward looking measure. The market value of the firm is forward looking. It does not measure the value that shareholders place on those shares today. It tells us how much capital the firm has raised from shareholders in the past. .Common Stock Book Value vs. it depends on the future dividends that shareholders expect to receive.

Market Value (1/2001) Total Shares outstanding = 350 million Common Shares ($.2.887 Treasury shares at cost .25 par) 108 Additional paid in capital 344 Retained earnings 4.888 Net common equity (Book Value) 1.H.543 . Heinz Book Value vs.908 Other .Common Stock Example .J.

J.Common Stock Example . Market Value (1/2001) Total Shares outstanding = 350 million January 2001 Market price = $40/sh # of shares x 350 Market Value $14.H.0 billion . Heinz Book Value vs.

Book value of common shareholder’s equity plus preferred stock.Preferred Stock Preferred Stock .Stock that takes priority over common stock in regards to dividends. Net Worth .Preferred stock paying dividends that vary with short term interest rates. . Floating-Rate Preferred .

in exchange for the assets of the company. • “Default Risk” is the term used to describe the likelihood that a firm will walk away from its obligation.Corporate Debt • Debt has the unique feature of allowing the borrowers to walk away from their obligation to pay. either voluntarily or involuntarily. . • “Bond Ratings "are issued on debt instruments to help investors assess the default risk of a firm.

Patterns of Corporate Finance • Firms may raise funds from external sources or plow back profits rather than distribute them to shareholders. they may choose between debt or equity sources. . • Should a firm elect external financing.

Venture Capital Venture Capital • Money invested to finance a new firm Since success of a new firm is highly dependent on the effort of the managers. after a certain level of success is achieved. . restrictions are placed on management by the venture capital company and funds are usually dispersed in stages.

Spread .Initial Offering Initial Public Offering (IPO) .First offering of stock to the general public.Firm that buys an issue of securities from a company and resells it to the public.Formal summary that provides information on an issue of securities. Prospectus .Issuing securities at an offering price set below the true value of the security. Underwriter . Underpricing . .Difference between public offer price and price paid by underwriter.

A procedure that allows firms to file one registration statement for several issues of the same security. General Cash Offer .Sale of securities by a firm that is already publicly traded.General Cash Offer Seasoned Offering . Private Placement .Sale of securities to a limited number of investors without a public offering. Shelf Registration .Sale of securities open to all investors by an already public company. .