Introduction
The current market environment has presented dynamics that any company that’s seeks to succeed ought to adjust to. The consumer tastes and preferences are changing in an increasingly fact pace (Bender & Ward, 2009). As such, it is important to understand the market and execute decisions which will ensure that ultimately the firm does not only survive, but also thrive in the competitive business arena (Marcus, 2006). This paper presents XYZ’s company proforma Profit and loss statement as well as the proforma balance sheet statement for the five years ending December 31 20X4. The firm has just introduced another product in the market That is projected to increase the total sales by 10% each year from the year 20XX to 20X4.
The following tables indicate the projected income statement for the five years as well as the balance sheet.
Proforma Balance sheet for the five years ending December 31 20X4
Assumptions for the five year sales growth
Due to a recent market study carried out by the company, it was established that the new product would help increase the total sales by 10% each year for the five years. The assumptions that go along with the increased sales are that the sales return of about 0.2% of sales will be returned. The rate of 0.16% will be maintained over the five years. Due to the introduction of the new product, the total cost of sales are projected to increase by the same percentage of increase in sales. This is an increase of 10% each year. This is because cost of sales are usually the direct costs associated with the unit sales. This in turn increases the cost of sales by the same margin by which the sales increase by.
Due to the introduction of the new product, coupled with the projected potential need to advertise the new product, marketing expenses have been projected to increase by 15%. This however, does not affect the sales commissions since the current policy on commissions provides for a fixed amount if sales exceed a certain amount, which has been projected that the sales will reach that point. The operating costs are projected to increase by the same margin of 10% since they are majorly variable costs whose amounts depend on the level of business activity.
Assumptions made on the Balance sheet
A look at the balance sheet indicates that the current assets will grow by the same margin that the sales are growing by. This is because most of the items under the current assets section have an almost direct relationship with the operations that affect the income statement and as such, the effects of growth in sales will have a similar impact on the current assets.
An analysis of the long term assets reveal that the firm does not intend to invest in any additional long term assets. The new product being introduced can be successfully traded without any necessary increase in long term assets. The firms depreciation method is straight line with property depreciating by $7,000 per year, equipment by $6,000 per year, and motor vehicles depreciating by $1,000 per year.
A look at the liabilities section reveal that due to the increase in projected retained earnings, the liabilities will significantly reduce over the five years with items such as revolving lines of credit being used only up to the year 20X1. Other long term liabilities such as the loans payable to stock holder are projected to be cleared in the second year and this will give way for the retained earnings to be the major source of financing. This is desirable since it is the cheapest source of finance for any company.
Discretionary financing needs
In the first year, 20XX, the company expect to acquire its financing from loans payable to stockholder, revolving lines of credit, additional paid in capital, and retained earnings. This indicates a spread on financing from all the available sources of finance for the company. However, as the years go by, the company projects to use retained earnings as their major financing source since it is the cheapest of lines of credit, loans, or capital (Bender & Ward, 2009). In the second year, the company will still need long term debts and capital leases to continue in operations but this will be reduced by the 100% retained earnings policy over the five years.
Strategies to manage working capital
working capital management is an important aspect of any business undertaking. An effective working capital management ensures that a company is able to meet its short term obligations as they fall due (Modiglian & Miller, 1958). XYZ company can employ several working capital management strategies. First the company may increase is accounts payable. This means that most of its purchases will be done on credit and this allows it to hold and trade with an amount of inventory it has not paid for. This enhances its cash flow position. The company could also continue to use the line of credit from the bank until its cash flow position is at a level where the cash and cash equivalents are at a desirable level in order to pay for the short term obligations as they fall due.
References
Bender, R., & Ward, K. (2009). Corporate Finance Strategy. New York: Macmillan.
Marcus, J. M. (2006). Modern Finance for SME. LOndon: Prentice Hall.
Modiglian, F., & Miller, M. (1958). The Cost of Capital, Corporation Finance and the Theory of Investment. American Economic Review, 261-297.