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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...
14. Lear, Inc., has $800,000 in current assets, $350,000 of which are considered permanentcurrent 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 currentassets with long-term financing costing 10 percent. Short-term financingcurrently 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.b. As an alternative, Lear might wish to finance all fixed assets and permanentcurrent assets plus half of its temporary current assets with long-term financing.The same interest rates apply as in part a. Earnings before interest andtaxes will be $200,000. What will be Lear’s earnings after taxes? The taxrate is 30 percent.Matching asset mixand financing plan(LO3)Impact of termstructure of interestrates on financingplan(LO4)Conservativeversus aggressivefinancing(LO5)Alternativefinancing plans(LO5)Temporary current assets . . . . . . . . . $1,000,000Permanent current assets . . . . . . . . . 2,000,000Fixed assets . . . . . . . . . . . . . . . . . . . 1,200,000Total assets . . . . . . . . . . . . . . . . $4,200,000Block−Hirt−Danielsen:Foundations of FinancialManagement, 13th EditionIII. Working CapitalManagement6. Working Capital and theFinancing Decision© The McGraw−HillCompanies, 2009Chapter 6 Working Capital and the Financing Decision 185www.mhhe.com/bhd13ec. What are some of the risks and cost considerations associated with each ofthese alternative financing strategies?15. Using the expectations hypothesis theory for the term structure of interest rates,determine the expected return for securities with maturities of two, three, andfour years based on the following data. Do an analysis similar to that inTable 6–6 on page 172.16. Modern Tombstones has estimated monthly financing requirements for the nextsix months as follows:Short-term financing will be utilized for the next six months. Projected annualinterest rates are:a. Compute total dollar interest payments for the six months. To convert anannual rate to a monthly rate, divide by 12.b. If long-term financing at 12 percent had been utilized throughout the sixmonths, would the total dollar interest payments be larger or smaller?17. In problem 16, what long-term interest rate would represent a break-even pointbetween using short-term financing as described in part a and long-term financing?Hint: Divide the interest payments in 16 a by the amount of total funds providedfor the six months and multiply by 12.18. Sherwin Paperboard Company expects to sell 600 units in January, 700 unitsin February, and 1,200 units in March. January’s ending inventory is 800 units.Expected sales for the whole year are 12,000 units. Sherwin has decided on alevel production schedule of 1,000 units (12,000 units/12 months 1,000 unitsper month). What is the expected end-of-month inventory for January, February,and March? Show the beginning inventory, production, and sales for each monthto arrive at ending inventory.BeginninginventoryProductionlevel Sales ( )Endinginventoryhypothesis andinterest rates(LO4)ExpectationsInterest costs underalternative plans(LO3)Break-even pointin interest rates(LO4)Sales and inventorybuildup(LO3)1-year T-bill at beginning of year 1 6%1-year T-bill at beginning of year 2 7%1-year T-bill at beginning
