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# Aggressive vs. Conservative Financing

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Here is my assignment and my answers. I need to know if my answers are correct and if not where I made mistakes. Please and thank you!

1. McKinsee Inc. is developing a plan to finance its asset base. The firm has \$5,000,000 in current assets, of which 20% are permanent, and \$12,000,000 in fixed assets. Long-term rates are currently 9.5%, while short-term rates are at 7%. McKinsee's tax rate is 30%.

a) Construct a conservative financing plan with 80% of assets financed by long-term sources. If McK's earnings before interest and taxes are \$6,000,000, what will their net income be?

Calculate the net income: To calculate the net income, find the value of total assets.
Total assets = Current assets + Fixed assets= \$5,000,000 + \$12,000,000 = \$17,000,000
If 80% of the total assets are financed, then the amount of debt would be Debt = 80% *assets = 80% * 17,000,000 = \$13,600,000
If the debt is financed with long term rate, then the interest amount would be calculated as Interest amount = 9.5%*13600000 = \$1292000
Therefore, the interest expense is \$1292000 when 80% of the assets are financed with long-term sources.
So Net income will be as below:
EBIT 6,000,000
Less Int 1292000
EBT 4708000
Less Tax 30% 1412400
Net Income 3295600

b) An alternative and more aggressive plan would be to finance 60% of total assets with long-term financing. Assuming that EBIT was again \$6,000,000, what will net income be under this alternative?

Calculate the net income: Same as above = \$17,000,000
If 60% of the total assets are financed, then the amount of debt would be Debt = 60% *assets = 60% * 17,000,000 = \$10200000
If the debt is financed with long term rate, then the interest amount would be calculated as
Interest amount = 9.5%*10200000 = \$969000.
therefore, the interest expense is \$969000 when 60% of the assets are financed with long-term sources.
So Net income will be as below:
EBIT 6,000,000
Less Int 969000
EBT 5031000
Less Tax 30% 1509300
Net Income 3521700