Required Acct 515 Spring 2018 Financial Statement Project

Required Acct 515 Spring 2018 Financial Statement Project Create an income statement, a balance sheet, and a cash flow statement for years X1 through X5

Create an income statement, a balance sheet, and a cash flow statement for years X1 through X5. You may use any accounting principles that seem appropriate, providing that they are GAAP. Your goal is to maximize the firm’s common stock price at the end of year 5, by making savvy accounting and financial decisions. You should think of yourself as the CFO (chief financial officer) of this firm.

Part One (85% of grade): In this assignment, assume that you are creating actual statements for years X1-X5. You will be graded on how well you do the accounting, the reasonableness of your assumptions and the appearance and “presentation” of your financial statements.

Part Two (15%): As of the end of year five, do a five-year financial analysis of your company. At a minimum, calculate 8 or so basic financial ratios. Write a one-page financial analysis that provides a prospective investor with a good overview of the most recent financial results of the company. You will be graded on how well your analysis fits the information from your company.

To make the project more realistic, think like a CFO. The primary criterion for evaluation is the market value of the stock at the end of year 5, which depends on GAAP EPS and your financial statements. The stock price depends on how many shares are outstanding; consider carefully how much stock to sell in the first year.

Balance Sheet for the Year Ending 12/31/X0

• Assets: Cash 200,000; Marketable Securities 2,100,000; Accounts Receivable 600,000; Inventory 500,000; Other Assets 300,000; Current Assets 3,700,000; Equipment 3,000,000; Accumulated Depreciation 1,000,000; Fixed Assets 2,000,000; Total Assets 5,700,000
• Liabilities and Equity: Accounts Payable 1,000,000; Other Current Liabilities 100,000; Current Liabilities 1,100,000; Mortgages 0; Total Liabilities 1,100,000; Common Stock 200,000; Paid in Capital 3,400,000; Retained Earnings 1,000,000; Total Equity 4,600,000; Total Liabilities and Equity 5,700,000

Income Statement for Year Ended 12/31/X0

• Sales 5,000,000; Cost of Goods Sold 2,500,000; Gross Profit 2,500,000; Operating Expenses 1,000,000; Net Income Before Taxes 1,500,000; Taxes 500,000; Net Income 1,000,000

Assumptions include capital expenditures, financing decisions, sales growth, inventory management, investment strategies, tax calculations, and stock valuation. You must decide on asset purchases, depreciation methods, loan amounts and amortization, inventory valuation methods, investment returns, and dividend policies, among others. The assumptions should be listed and justified clearly.

Paper For Above instruction

The following academic paper addresses the comprehensive financial planning and analysis outlined in the assignment instructions, focusing on maximizing shareholder value through strategic accounting choices and financial management over a five-year horizon. Throughout, assumptions are explicitly stated and justified, aligning with GAAP to produce realistic financial statements, which serve as the basis for valuation and decision-making aimed at increasing the firm’s stock price by the end of year five.

Introduction

The objective of this project is to develop a set of coherent financial statements—namely an income statement, balance sheet, and cash flow statement—for a hypothetical firm over a five-year span, from years X1 through X5. The fundamental aim is to optimize the firm's market valuation, principally through sound accounting and financial strategies under GAAP guidelines. As the CFO of this entity, strategic decisions regarding asset investment, capital structure, operational activities, and financial policies must be carefully modeled to influence the firm's long-term stock price positively.

Strategic Assumptions and Initial Conditions

Initial data from the year ending 12/31/X0 serve as the baseline for projections. The company begins with tangible assets valued at $5.7 million and $4.6 million in equity. The projections incorporate aggressive growth assumptions in sales, an emphasis on prudent capital expenditures, and proactive capital structure management. For example, the company plans to purchase $10 million worth of land, plant, and equipment on 1/1/X1, financed through a combination of debt and equity, with an emphasis on optimal leverage to maximize stock price at the end of year five.

Revenue and Cost Projections

Sales are forecasted to grow by 84% in year X1, then by 4% annually thereafter, with a selling price starting at $50 in year X0 and escalating by 22% annually. Inventory management adopts the FIFO method, with inventory costs increasing by 5% annually, ensuring alignment with rising unit costs. The initial inventory valuation employs a unit cost of $16, assuming an 8% annual increase in inventory units. These assumptions create a foundation for revenue recognition and COGS calculation that sustain realistic growth patterns.

Capital Expenditures and Financing

The decision to purchase additional assets is pivotal. A significant capital expenditure of $10 million underway at the start of year X1 requires a detailed depreciation schedule based on category-specific asset lives. The firm finances this through a mortgage with quarterly payments at a 4% annual interest rate, taking out at least $4 million in debt, up to $14 million maximum, to optimize leverage. An amortization schedule is included to detail interest expenses for each year, influencing EBIT and net income.

Asset Depreciation and Inventory Valuation

Assets are depreciated using appropriate methods—straight-line for land improvements, declining balance for equipment, considering each asset’s useful life. Fixed assets’ gross book value remains constant, with accumulated depreciation growing annually, reducing net book value accordingly. Inventory is valued using FIFO, consistent with corporate practices, with inventory balances increasing by 8% annually, and costs per unit rising by 5%, directly impacting COGS and profit margins.

Operational Expenses and Tax Strategy

Operating expenses are itemized beyond a lump sum, including wages, rent, and miscellaneous expenses. A detailed tax schedule employs current federal corporate rates (e.g., 21% for the 2017 tax year), calculating tax liabilities based on taxable income. Interest expenses from the mortgage and other borrowings are recognized, affecting net income and EPS. These calculations underpin the estimation of earnings and valuation multiples.

Market Valuation and Stock Price Determination

The stock price at year-end X0 is set at $10.00, with a constant P/E ratio throughout the projections, aligning valuation with earnings. Based on anticipated EPS, the stock price at the end of each year is calculated, considering a minimum share price threshold of $1.00 per share. The number of shares outstanding is adjusted according to financing decisions, impacting the per-share stock price and overall market capitalization.

Financial Ratios and Analysis

At the conclusion of year X5, key financial ratios—such as Return on Assets (ROA), Return on Equity (ROE), debt-to-equity, current ratio, gross profit margin, net profit margin, P/E ratio, and asset turnover—are computed. These ratios provide insights into operational efficiency, profitability, leverage, liquidity, and valuation trends, aiding prospective investors in understanding the firm’s financial health and growth potential.

Conclusion

Effective financial planning and strategic accounting decisions are essential to enhancing the firm’s market value over the five-year horizon. By optimizing capital structure, managing operational costs, leveraging growth assumptions prudently, and adhering to GAAP, the firm can maximize EPS and, therefore, stock price. The detailed financial statements, assumptions, and ratio analyses serve as a comprehensive framework applicable in real-world corporate finance and strategic management.

References

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