FIN 200 Week 5 Assignment Alternative Financing Plans
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FIN 200 Week 5 Assignment Alternative Financing Plans
Need a financial expert for this example. Show Calculations Lear, Inc., has $800,000 in current assets, $350,000 of which are considered permanent current assets. In addition, the firm has $600,000 invested in fixed assets.
a. Lear wishes to finance all fixed assets and half of its permanent current assets with long-term financing costing 10 percent. Short-term financing currently costs 5 percent. Lear’s earnings before interest and taxes are $200,000. Determine Lear’s earnings after taxes under this financing plan. The tax rate is 30 percent.
a)
Fixed Asset = $600,000
Permanent Current Asset= $350,000
Non-Permanent current Asset= $450,000
Total Asset financed through long term debt
= $600,000+350,000*50% = $775,000
Interest on Long term debt= $775,000*10%= $77,500
Total Asset financed through short term debt
=$450,000+350,000*50%= $625,000
Interest on short term debt= $625,000*5%=$31,250
Earning Before Interest and Tax.....................$200,000
Less: Interest on Long term debt.....................(77,500)
Less: Interest on Short term debt....................($31,250)
Profit Before Tax...........................................$91,250
Less: Taxes..................................................($27375)
Profit after tax..............................................$63,875
b. As an alternative, Lear might wish to finance all fixed assets and permanent current assets plus half of its temporary current assets with long-term financing. The same interest rates apply as in part a. Earnings before interest and taxes will be $200,000. What will be Lear’s earnings after taxes? The tax rate is 30 percent.
a)
Fixed Asset = $600,000
Permanent Current Asset= $350,000
Non-Permanent current Asset= $450,000
Total Asset financed through long term debt = $600,000+350,000+450000*50% = $1,175,000
Interest on Long term debt= $1,175,000*10%= $117,500
Total Asset financed through short term debt =$450,000*50%= $225,000
Interest on short term debt= $225,000*5%=$11,250
Earning Before Interest and Tax.....................$200,000
Less: Interest on Long term debt.....................(117,500)
Less: Interest on Short term debt....................($11,250)
Profit Before Tax...........................................$71,250
Less: Taxes..................................................($21,375)
Profit after tax..............................................$49,875
c. What are some of the risks and cost considerations associated with each of these alternative financing strategies?
Although alternative (a) looks cheaper that alternative (b) by $14000 and presents a better net income but following should be taken into consideration.
In alternative (a) we are financing the long term assets with short term liabilities, which is not a stable source of finance. Short term finance is taken for maximum of 1 year and after that it must be renewed. One problem that can be faced is the difficulty in renewing the short-term loans when they are due. Other risk to be considered is short rate can increase in future hence company may have to spend more in interest.
Since the short term borrowing cost are currently less so funding through short term borrowing would be advantageous to the company.(Although short term...