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Chapter 3: Q14BP_b (page 187)

Guardian Inc. is trying to develop an asset financing plan. The firm has \(400,000 in temporary current assets and \)300,000 in permanent current assets. Guardian also has \(500,000 in fixed assets. Assume a tax rate of 40 percent.

b. Given that Guardian鈥檚 earnings before interest and taxes are \)200,000, calculate earnings after taxes for each of your alternatives.

Short Answer

Expert verified

The earnings after tax will be $21,000 in the conservative approach and $27,750 in the aggressive approach.

Step by step solution

01

Information given in the question

The following information is provided:

Temporary current assets =$400,000

Permanent current assets =$300,000

Fixed assets =$500,000

Total assets =$1,200,000

Tax rate = 40%

02

Calculation of earnings after taxes in the conservative approach

The earnings after taxes will be $21,000 in the conservative approach.

Earningaftertaxes=Earningsbeforeinterestandtaxes-InterestExpenses-Taxes=$200,000-$165,000-$14,000=$21,000

03

Calculation of earnings after taxes in the aggressive approach

The earnings after taxes will be $27,750 in the aggressive approach.

Earningaftertaxes=Earningbeforeinterestandtaxes-Interestexpenses-Taxes=$200,000-$153,750-$46,250=$27,750

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Most popular questions from this chapter

Johnson Electronics is considering extending trade credit to some customers previously considered poor risks. Sales would increase by $150,000 if credit is extended to these new customers. Of the new accounts receivable generated, 5 percent will prove to be uncollectible. Additional collection costs will be 2 percent of sales, and production and selling costs will be 74 percent of sales. The firm is in the 35 percent tax bracket.

c. If the receivable turnover ratio is 3 to 1 and no other asset build-up is needed to serve the new customers, what will Johnson鈥檚 incremental return on new average investment be?

Bambino Sporting Goods makes baseball gloves that are very popular in the spring and early summer season. Units sold are anticipated as follows:

March

3,250

April

7,250

May

11,500

June

9,500

Total units

31,500

If seasonal production is used, it is assumed that inventory will directly match sales for each month and there will be no inventory build-up. The production manager thinks the preceding assumption is too optimistic and decides to go with level production to avoid being out of merchandise. He will produce the 31,500 units over four months at a level of 7,875 per month.

a. What is the ending inventory at the end of each month? Compare the unit sales to the units produced and keep a running total.

b. If the inventory costs $12 per unit and will be financed at the bank at a cost of 12 percent, what is the monthly financing cost and the total for the four months? (Use 0.01 as the monthly rate.)

Charming Paper Company sells to the 12 accounts listed here:

Account

Receivable balance outstanding

Average age of account over the last year

A

\(60,800

22

B

\)168,000

43

C

\(78,300

19

D

\)24,300

55

E

\(58,900

42

F

\)238,000

39

G

\(30,400

16

H

\)374,000

72

I

\(41,400

32

J

\)96,500

58

K

\(292,000

17

L

\)67,700

37

Capital Financial Corporation will lend 90 percent against account balances that have averaged 30 days or less; 80 percent for account balances between 31 and 40 days; and 70 percent for account balances between 41 and 45 days. Customers that take over 45 days to pay their bills are not considered acceptable accounts for a loan.

The current prime rate is 15.5 percent, and Capital charges 4.5 percent over prime to Charming as its annual loan rate.

a. Determine the maximum loan for which Charming Paper Company could qualify.

Logan Distributing Company of Atlanta sells fans and heaters to retail outlets throughout the Southeast. Joe Logan, the president of the company, is thinking about changing the firm鈥檚 credit policy to attract customers away from competitors. The present policy calls for a 1/10, net 30 cash discount. The new policy would call for a 3/10, net 50 cash discount. Currently, 30 percent of Logan customers are taking the discount, and it is anticipated that this number would go up to 50 percent with the new discount policy. It is further anticipated that annual sales would increase from a level of \(400,000 to \)600,000 as a result of the change in the cash discount policy. The increased sales would also affect the inventory level. The average inventory carried by Logan is based on a determination of an EOQ. Assume sales of fans and heaters increase from 15,000 to 22,500 units. The ordering cost for each order is \(200, and the carrying cost per unit is \)1.50 (these values will not change with the discount). The average inventory is based on EOQ/2. Each unit in inventory has an average cost of $12. Cost of goods sold is equal to 65 percent of net sales; general and administrative expenses are 15 percent of net sales; and interest payments of 14 percent will only be necessary for the increase in the accounts receivable and inventory balances. Taxes will be 40 percent of before-tax income.

c. Complete the following income statement:

Before policy change

After policy change

Net sales (sales 鈥� cash discounts)

Cost of goods sold

Gross profit

General and administrative expenses

Operating profit

Interest on the increase in accounts receivable and inventory (14%)

Income before taxes

Taxes

Income after taxes

Eastern Auto Parts Inc. has 15 percent of its sales paid for in cash and 85 percent on credit. All credit accounts are collected in the following month. Assume the following sales:

January

\(65,000

February

\)55,000

March

\(100,000

April

\)45,000

Sales in December of the prior year were $75,000. Prepare a cash receipts schedule for January through April.
See all solutions

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