It is 2020, and you are now the Associate Director of Strategy at the corporate office in Hong Kong. The premium juice bar that you analysed as a graduate analyst is now a profitable and sustainable business. The following is the relevant financial statements of the juice bar pilot program. You expect to derive more insights on the business by decomposing the factors of its return on equity (ROE) using the DuPont technique. You are also keen to come up with a long-term financial plan before devising an appropriate strategy for the wider business. In particular, you intend to estimate the additional debt funding needed given the project sales growth rate.

The next stage of expansion requires significant investment, which management has agreed on additional discretional financing solely using debt issuance and the dividend payout ratio for the year would be 80%. It has been forecasted that the expansion plan will have sales growing by 20% from the current level.

To accommodate this growth, current assets and fixed assets will increase by 35% and 25%, respectively. No changes are expected for depreciation, interest expense and equity capital. Current liabilities will increase by 17.5%.

(a) Calculate the following ratios from the given data and compute the ROE from your calculated ratios.

(i) Net profit margin

(ii) Total asset turnover

(iii) Equity multiplier (8 marks)

(b) Compute the additional discretionary financing needed for financial year 2021. (14 marks)

(c) Compute the degree of operating leverage (DOL) and degree of financial leverage (DFL) after expansion.

Balance Sheet as of 31 December 2020 Cash Accounts receivables Inventory Fixed assets 120,000 Capital 7,000 Retained earnings 30,000 Total equity 63,000 70,000 90,000 160,000 Accounts payables Accruals Long-term debt Total liabilities 22,000 18,000 20,000 60,000 Total assets 220,000 Total liabilities and equity 220,000 Income Statement for 2020 Sales 300,000 (30,000) 270,000 (45,000) (90,000) (50,000) 85,000 (3,200) 81,800 (13,906) 67,894 20,000 3.39 Cost of goods sold (10% sales) Gross profit Fixed expenses Variable expenses (30% sales) Depreciation EBIT Interest expense Earnings before tax Income tax (17%) Net income Number of shares outstanding EPS