17-2: AFN Equation Refer to problem 17-1. What additional funds would be needed if the companys year-end 2015 assets had been $ 4 million? Assume that all other numbers are the same. Why is this AFN different from the one you found in problem 17-1? Is the companys capital intensity the same or different? Explain.

ANSWER TO PROBLEM 1.

Carter Corporations sales are expected to increase from $5 million in 2015 to $6 million in 2016, or by 20%. Its assets totaled $3 million at the end of 2015. Carter is at full capacity, so its assets must grow in proportion to projected sales. At the end of 2015, current liabilities are $1 million, consisting of $250, 000 of accounts payable, $500,000 of notes payable, and $250, 000 of accrued liabilities. Its profit margin in forecasted to be 5%, and the forecasted retention ratio is 30%. Use the AFN equation to forecast the additional funds Carter will need for the coming year.

Spontaneous increase in liabilities = 2015 liabilities x Sales growth rate

= $1,000,000 x 20%

= $200,000

Increase in retained earnings = 2016 sales x profit margin x retention rate

= 6,000,000 x 5% x 30%

= $90,000

Increase in assets = 2015 assets x Sales growth rate

= 3,000,000 x 20%

= $600,000

Additional funds needed = Increase in assets - Increase in liabilities - Increase in retained earnings

= 600,000 - 200,000 - 90,000

= $310,000

Hence, Cater Corporation will need $310,000 to finance the increased level of sales.