Here is the other part that did not fit on the other post. 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. 175,000(half of working capital)+600,000(fixed assets)=775,000 in assets to be financed with LT Debt (10% interest rate)
The other $175,000(half of permanent current) will be financed at 5% as well as the 450,000 in variable current assets. ($625,000x.05)
Long term financing.
Can anyone tell me if one of these is correct? I have come out with these two figures but I am not sure which is the correct way to go.
Long term financing 775000
Short term financing 625000
EBIT 200000
Less: Short term Interest 31250
Less: Long term Interest 77500
Less: Taxes 27375
EAT 63875
Sorry: For some reason the other answer does not want to come up.
To determine Lear's earnings after taxes under this financing plan, we can follow these steps:
1. Calculate the total assets to be financed with long-term debt:
- Lear wants to finance all fixed assets ($600,000) and half of its permanent current assets ($175,000).
- Therefore, the total assets to be financed with long-term debt are $600,000 + $175,000 = $775,000.
2. Calculate the total assets to be financed with short-term debt:
- The remaining half of the permanent current assets ($175,000) and the variable current assets ($800,000 - $350,000 - $175,000 = $275,000).
- Therefore, the total assets to be financed with short-term debt are $175,000 + $275,000 = $450,000.
3. Calculate the interest expense on the long-term debt:
- The long-term financing has a 10% interest rate.
- Therefore, the interest expense on the long-term debt is $775,000 * 10% = $77,500.
4. Calculate the interest expense on the short-term debt:
- The short-term financing has a 5% interest rate.
- Therefore, the interest expense on the short-term debt is $450,000 * 5% = $22,500.
5. Calculate the earnings before interest and taxes (EBIT):
- The given EBIT is $200,000.
6. Calculate the taxes using the tax rate of 30%:
- The taxes are calculated as 30% of the EBIT: $200,000 * 30% = $60,000.
7. Calculate the earnings after taxes (EAT):
- EAT is calculated as EBIT - Interest expense - Taxes.
- EAT = $200,000 - $22,500 - $77,500 - $60,000 = $40,000.
Therefore, Lear's earnings after taxes under this financing plan would be $40,000.