S&S Air, Inc.

Case questions
1.

What problem does S&S Air, Inc. face in this case?

2.

What does an extended DuPont analysis (ROE)

indicate about the performance of the company?

3.

What do the rates of growth (IGR and SGR) indicate

about the companys performance?

4.

What do the financial planning results show about the

external financing needed (EFN)?

What is the problem?

The company wants to grow - They need to compare their performance to that of other
companies in the industry to identify their strengths and
weaknesses.
They need to develop alternative financial plans to
evaluate how best to finance the anticipated growth.

Income Statement 2008 (not 2009)

Balance Sheet, 2008 (not 2006)

Industry financial data, 2008

Extended DuPont analysis

ROE = PM * ATO * EM
= (1,537,452 / 30,499,420) * (30,499,420 / 18,308,920) *
(18,308,920 / 10,069,920)
= .0504 * 1.666 * 1.818
= 0.1527
What are the strengths of S&S Air relative to the aircraft industry?

Ratio

S&S
Air

PM

.0504

.0405

.0698

.0987

ATO

1.666

.68

.85

1.38

ROA

0.084

0.061

.105

.132

EM

1.818

1.79

2.08

2.56

0.1527

.0993

.1654

.2615

ROE

25%

50%

75%

Rates of growth
Internal growth rate - IGR = (b*ROA) / [1 (b*ROA)]
ROA = EAT / A = 1,537,452 / 18,308,920 = 0.084
b = Add to R.E. / EAT = 977,452 / 1,537,452 = .6358
IGR = (.6358 * .084) / [1 (.6358 * .084)] = .0564

Sustainable growth rate - SGR = (b*ROE) / [1-(b*ROE)]

ROE = ROA * EM = EAT / E = 1,537,452 / 10,069,920 = .1527
SGR = (.6358 * .1527) / [1 (.6358 * .1527)] = .1075

EFN
Graph of EFN - - the external financing required for 12% sales growth
assuming full capacity utilization
EFN = Chge. Assets Chge. Liab. Chge. Ret. Earn.

Chge. Assets = .12 * 18,308,920 = 2,197,070

Chge. Liab. = .12 * 889,000 = 106,680
Chge. Ret. Earn. - EBIT(1) = (30,499,420 22,224,580 3,867,500)* 1.12 1,366,680
= 3,569,541
EBT(1) = EBIT(1) I = 3,569,541 478,240 = 3,091,301
Chge. Ret. Earn.
= EBT* (1- t) * (b)
= 3,091,301 * (1-.40) * .6358 = 1,179,270
EFN = 2,197,070 106,680 1,179,270 = 911,120

Lets look at the pro-forma statements to verify our EFN result.

Pro forma Income Statement

(12 percent growth rate)

Income statement
Sales
$34,159,350
COGS
24,891,530
Otherexpenses
4,331,600
Depreciation
1,366,680
EBIT
$3,569,541
Interest
478,240
Taxableincome
$3,091,301
Taxes(40%)
1,236,520
Netincome
$1,854,780

Dividends
$675,583
AddtoRE
1,179,197

Pro-forma BaIance Sheet

(12 percent growth rate)

Assets
CurrentAssets
Cash
Accountsrec.
Inventory
TotalCA

Fixedassets
NetPP&E

TotalAssets

Balance sheet

Liabilities&Equity

CurrentLiabilities

$493,920
AccountsPayable
$995,680
793,408
NotesPayable
2,030,000
1,161,574
TotalCL
$3,025,680
$2,448,902

Long-termdebt
$5,320,000

ShareholderEquity

Commonstock
$350,000

Retainedearnings
10,899,117
$18,057,088
TotalEquity
$11,249,117

$20,505,990
TotalL&E
$19,594,787

So, the EFN is:

EFN = Total assets Total liabilities and equity
EFN = $20,505,990 19,594,797
EFN = $911,193 (a small difference due to rounding error)

What happens to EFN when assets are purchased

in increments of $5 million? (Handout)
Because fixed assets increase more rapidly, the
depreciation expense will increase at a rate that
is faster than sales growth - => Sales, profits and retained earnings contribute
proportionately less to the total financing required (Ret.
Earn. declines), and
=> Liabilities (spontaneous liability growth) will contribute
less to the total financing required.
=> So, EFN has to increase.