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.

EBIT: 200,000
LT Expense: 77500
ST Expense: +31250
EBT: =108750
Taxes (30%): -32625

Net Income: =76125 Or,

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

To determine Lear's earnings after taxes under the given financing plan, we need to calculate the interest expense for both short-term and long-term financing, and then deduct the taxes to get the net income.

1. Calculate the interest expense for long-term financing:
The total assets to be financed with long-term debt are $775,000 (half of working capital $175,000 + fixed assets $600,000). Multiply this by the interest rate of 10% to get the interest expense for long-term financing: $775,000 * 0.10 = $77,500.

2. Calculate the interest expense for short-term financing:
The other $175,000 (half of permanent current assets) will be financed at the short-term interest rate of 5%, as well as the $450,000 in variable current assets. Add these two amounts: $175,000 + $450,000 = $625,000. Multiply this by the short-term interest rate of 5% to get the interest expense: $625,000 * 0.05 = $31,250.

3. Calculate Earnings Before Taxes (EBT):
Subtract the long-term interest expense and the short-term interest expense from the earnings before interest and taxes (EBIT) of $200,000: $200,000 - $77,500 - $31,250 = $91,250.

4. Calculate Taxes (30%):
Multiply the EBT by the tax rate of 30% to calculate the tax amount: $91,250 * 0.30 = $27,375.

5. Calculate Earnings After Taxes (EAT):
Subtract the tax amount from the EBT: $91,250 - $27,375 = $63,875.

Therefore, Lear's earnings after taxes under this financing plan would be $63,875.