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Financial Markets and Institutions

The following is ABC Inc.'s balance sheet (in thousands) (see attached).

Also assume that sales equal $500, cost of goods sold equals $360, interest payments equal $62, taxes equal $56, and net income equals $22. Assume the beginning retained earnings is $0, the market value of equity is equal to its book value, and the company pays no dividends.
a. Calculate Altman's Z-score for ABC Inc. if ABC has a 50 percent dividend payout ratio and the market value of equity is equal to its book value.
b. Should you approve ABC Inc.'s application to your bank for $500,000 for a capital expansion loan?
c. If ABC's sales were $450,000, taxes were $16,000, and the market value of equity fell to one-quarter of its book value (assume cost of goods sold and interest are unchanged), how would that change ABC's income statement? ABC's tax liability can be used to offset tax liabilities incurred by the other divisions of the firm. Would your credit decision change?
d. What are some of the shortcomings of using a discriminant function model to evaluate credit risk?


Solution Preview

Given that,
Assets Liabilities
Cash $20 Accounts payable $30
Accounts receivable 90 Notes payable 90
Inventory 90 Accruals 30
Long-term debt 150
Plant and equipment 500 Equity 400
Total $700 $700

(In $, 000)
Sales $500
Costs of goods sold $360
Interest payments $62
Taxes $56
Net Income $22
Retained earnings $0

And we know that,
Altman^' s z ...

Solution Summary

Financial markets and institutions are examined.