
To determine: The grow rate at which external financing needed is zero.
Introduction:
Using the graphical presentation for external financing needed and growth rate, the relationship between the both can be determined. The rate at which the EFN is zero can be determined using this representation.

Answer to Problem 27QP
The growth rate at which the external financing needed is zero is 15%.
Explanation of Solution
Given information:
The various sales growth rates in addition to 20% are given as 15% and 25%.
Compute pro forma income statement at the rates of 15%, 20%, 25% to illustrate graphical representation between external financing needed and growth
Note: The below statement shows the pro forma statement at 15% sales growth rate
Pro forma statement at 15%sales growth rate:
Pro forma income statement | ||
Particulars | Current Year Amount ($) |
Amount ($) (15%) |
Sales | $743,000 | $854,450 |
Costs | $578,000 | $664,700 |
Other expenses | $15,200 | $17,480 |
Earnings Before Interest and Tax (EBIT) |
$149,800 | $172,270 |
Interest paid | $11,200 | $12,880 |
Taxable income | $138,600 | $159,390 |
Taxes (35%) |
$48 510 | $55,787 |
Net income | $90,090 | $103,604 |
Hence, the net income is $103,604 when the sales growth rate is 15%.
Compute dividend and addition to
Note: The below calculation shows the dividend and addition to retained earnings for the rate of 15% sales growth.
Hence, the dividend and addition to retained earnings is $31,081 and $72,523.
Compute total retained earnings:
Hence, the total retained earnings are $219,243.
Pro forma
Pro forma balance sheet | |||
Assets | Amount ($) |
Liabilities | Amount ($) |
Current assets: | Current liabilities: | ||
Cash | $23,276 | Accounts payable | $62,560 |
Accounts receivable | $37,444 | Notes payable | $13,600 |
Inventory | $79,948 | Total | $76,160 |
Total | $140,668 | Long-term debt | $126,000 |
Fixed assets: | Owner's equity: | ||
Net plant and equipment | $379,960 | Common stock and paid in surplus | $112,000 |
Retained earnings | $219,243 | ||
Total Owner's equity | $331,243 | ||
Total | $520,628 | Total | $533,403 |
The difference between the total assets and the total liabilities and owner’s equity is termed as external financing needed.
Hence, the external financing needed at the rate of 15% growth rate is −$12,775.
Pro forma income statement at 20% growth rate:
Pro forma income statement | ||
Particulars | Current year Amount ($) |
Amount ($) (20%) |
Sales | $743,000 | $891,600 |
Costs | $578,000 | $693,600 |
Other expenses |
$15,200 | $18,240 |
EBIT | $149,800 | $179,760 |
Interest paid | $11,200 | $13,440 |
Taxable income |
$138,600 | $166,320 |
Taxes (35%) | $48,510 | $58,212 |
Net income | $90,090 | $108,108 |
Hence, the net income is $108,108 when the sales growth rate is 20%.
Compute dividend and addition to retained earnings:
Note: The below calculation shows the dividend and addition to retained earnings for the rate of 20% sales growth.
Hence, the dividend and addition to retained earnings is $32,432 and $75,676.
Compute total retained earnings:
Hence, the total retained earnings are $222,396.
Pro forma balance sheet after adjusting 20% of growth rate:
Pro forma balance sheet | |||
Assets | Amount ($) |
Liabilities | Amount ($) |
Current assets: | Current liabilities: | ||
Cash | $24,288 | Accounts payable | $65,280 |
Accounts receivable | $39,072 | Notes payable | $13,600 |
Inventory | $83,424 | Total | $78,880 |
Total | $146,784 | Long-term debt | $126,000 |
Fixed assets: | Owner's equity: | ||
Net plant and equipment | $396,480 | Common stock and paid in surplus | $112,000 |
Retained earnings | $222,396 | ||
Total Owner's equity | $334,396 | ||
Total | $543,264 | Total | $539,276 |
The external financing needed is determined by the difference between the total assets and the total liabilities and owner’s equity.
Hence, the external financing needed at the rate of 20% sales growth rate is $3,988.
Pro forma income statement at 25% growth rate
Pro forma income statement | ||
Particulars | Current year Amount ($) |
Amount ($) (25%) |
Sales | $743,000 | $928,750 |
Costs | $578,000 | $722,500 |
Other expenses | $15,200 | $19,000 |
EBIT | $149,800 | $187,250 |
Interest paid | $11,200 | $14,000 |
Taxable income |
$138,600 | $173,250 |
Taxes (35%) | $48,510 | $60,638 |
Net income | $90,090 | $112,613 |
Compute dividend and addition to retained earnings:
Note: The below calculation shows the dividend and addition to retained earnings for the rate of 25% sales growth.
Hence, the dividend and retained earnings is $33,784 and $78,829.
Compute total retained earnings:
Hence, the total retained earnings are $225,549.
Pro forma balance sheet after adjusting 25% of growth rate:
Pro forma balance sheet | |||
Assets | Amount ($) |
Liabilities | Amount ($) |
Current assets: | Current liabilities: | ||
Cash | $25,300 | Accounts payable | $68,000 |
Accounts receivable | $40,700 | Notes payable | $13,600 |
Inventory | $86,900 | ||
Total | $152,900 | Total | $81,600 |
Fixed assets: | Long-term debt | $126,000 | |
Net plant and equipment | $413,000 | Owner's equity: | |
Common stock and paid in surplus | $112,000 | ||
Retained earnings | $225,549 | ||
Total Owner's equity | $337,549 | ||
Total | $565,900 | Total | $545,149 |
The external financing needed is determined by the difference between the total assets and the total liabilities and owner’s equity.
Hence, the external financing needed at the rate of 25% growth rate is $20,751.
Thus, the rate 15% at which the company external financing needed is negative. Negative external financing needed indicates that the company has more funds which can be used to reduce current liabilities, debts etc. Thus, these are the graphical relationship between external financing needed and growth rates.
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