Suppose that Runner Industries currently has the balance sheet shown below, and that sales for the year just ended were $5 million. The firm also has a profit margin of 10 percent, a retention ratio of 20 percent, and expects sales of $7 million next year. If fixed assets have enough capacity to cover the increase in sales and all other assets and current liabilities are expected to increase with sales, what amount of additional funds will the company need from external sources to fund the expected growth?
A) $0
B) $140,000
C) $220,000
D) $180,000

Question

Suppose that Runner Industries currently has the balance sheet shown below, and that sales for the year just ended were $5 million. The firm also has a profit margin of 10 percent, a retention ratio of 20 percent, and expects sales of $7 million next year. If fixed assets have enough capacity to cover the increase in sales and all other assets and current liabilities are expected to increase with sales, what amount of additional funds will the company need from external sources to fund the expected growth? 
A) $0 
B) $140,000 
C) $220,000 
D) $180,000

Quizplus · Accepted Answer

Using the sustainable growth rate formula, we can calculate the amount of funds needed from external sources as follows:

Sustainable Growth Rate = Profit Margin x Retention Ratio 
SGR = 0.10 x 0.20 
SGR = 0.02

Next, we can use the SGR to calculate the increase in assets needed to support the expected sales growth:

Increase in Assets = SGR x Sales 
Increase in Assets = 0.02 x $7 million 
Increase in Assets = $140,000

Since all other assets and current liabilities are expected to increase with sales, the firm will need an additional $140,000 in external funds to support the expected growth. Therefore, the answer is choice C) $220,000.

Suppose That Runner Industries Currently Has the Balance Sheet Shown