HBM, Inc. had sales of $10 million and a net profit margin of 7 percent in 20X0. Management expects sales to grow to $12 million and $14 million in 20X1 and 20X2, respectively. Management wants to know if additional funds will be necessary to finance this anticipated growth. Currently, the firm is not operating at full capacity and should be able to sustain a 25 percent increase in sales. However, further increases in sales will re-quire $2 million in plant and equipment for every $5 million increase in sales. The firm’s balance sheet is as follows:

Management has followed a policy of distributing at least 70 percent of earnings as dividends. Management believes that the percent of sales method of forecasting is sufficient to answer the question, “Will outside funding be necessary?” In order to use this technique, management has assumed that accounts receivable, inventory, accruals, and accounts payable will vary with the level of sales. Cash will not change.
a. Prepare projected balance sheets for 20X1 and 20X2 that incorporate any necessary outside financing. Any short-term funds that are required should be obtained through a loan from the bank, and any excess short-term funds should be appropriately invested. Any long-term financing that is needed should be obtained through long-term debt and/or appropriate reductions in short-term assets.
b. If the firm did not distribute 70 percent of its earnings, could it sustain the expansion without issuing additional long-term debt?
c. If the firm’s creditors in part a require a current ratio of 2:1, would that affect the firm’s financing in 20X1 and 20X2? If so, what additional actions could the firm take?
d. If the percent of sales forecasts are replaced with the following regression equations:
Accounts receivable = $100,000+ 0.12 Sales,
Inventory = $250,000 + 0.15 Sales,
Accruals = $100,000 + 0.07 Sales,
Accounts payable = $250,000 + 0.08 Sales,
What is the firm’s need for outside funding (if any) in 20X1 and
20X2?
e. If the firm’s creditors in part d required a current ratio of 2:1, would that affect the firm’s financing in 20X1 and 20X2? If so, what additional actions could the firm take?

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HBM, Incorporated Balance Sheet as of 12/31/xo Liabilities and Equity Assets as Accounts receivable Inventory Plant and equipment S1,500,000 Accruals 2,000,000 Accounts payable 1,500,000 Notes payable 3,000,000 $1,500,000 1,000,000 500,000 3,000,000 2,000,000 Long-term debt Equity Lull 8 8,000