The Manning Company has financial statements as shown next, which are representative of the company’s historical average.

The Manning Company has financial statements as shown next, which are representative of the company’s historical average.

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5. 

 

6. 

 

 

 

 

 

7. The Manning Company has financial statements as shown next, which are representative of the company’s historical average.
 
   The firm is expecting a 35 percent increase in sales next year, and management is concerned about the company’s need for external funds. The increase in sales is expected to be carried out without any expansion of fixed assets, but rather through more efficient asset utilization in the existing store. Among liabilities, only current liabilities vary directly with sales.

 

 

Income Statement
  Sales $ 220,000
  Expenses   171,200
     
  Earnings before interest and taxes $ 48,800
  Interest   8,300
     
  Earnings before taxes $ 40,500
  Taxes   16,300
     
  Earnings after taxes $ 24,200
   

 

 

 

  Dividends $ 7,260
 

 

Balance Sheet
Assets Liabilities and Stockholders’ Equity
  Cash $ 8,000   Accounts payable $ 23,400
  Accounts receivable   33,000   Accrued wages   1,850
  Inventory   69,000   Accrued taxes   3,350
           
   Current assets $ 110,000     Current liabilities $ 28,600
  Fixed assets   93,000   Notes payable   8,300
        Long-term debt   21,500
        Common stock   117,000
        Retained earnings   27,600
           
  Total assets $ 203,000   Total liabilities and     stockholders’ equity $ 203,000
   

 

 

 

   

 

 

 

 

 

   Using the percent-of-sales method, determine whether the company has external financing needs, or a surplus of funds. (Hint: A profit margin and payout ratio must be found from the income statement.) (Do not round intermediate calculations. Input the amount as a positive value.)

 

  The firm  $  in .
 

 

 

 

 

 

 

 

10. Healthy Foods Inc. sells 50-pound bags of grapes to the military for $25 a bag. The fixed costs of this operation are $130,000, while the variable costs of grapes are $.20 per pound.

 

 

a. What is the break-even point in bags? (Round your answer to 2 decimal places.)
   

 

  Break-even point  bags

 

 

b. Calculate the profit or loss (EBIT) on 12,000 bags and on 34,000 bags. (Input all amounts as positive values. Round your answers to the nearest whole number.)
   

 

Bags Profit/Loss Amount
12,000   $
34,000   $
 

 

 

 

c. What is the degree of operating leverage at 30,000 bags and at 34,000 bags? (Round your answers to 2 decimal places.)
   

 

Bags Degree of Operating Leverage
30,000  
34,000  
 

 

 

 

d. If Healthy Foods has an annual interest expense of $11,000, calculate the degree of financial leverage at both 30,000 and 34,000 bags. (Round your answers to 2 decimal places.)
   

 

Bags Degree of Financial Leverage
30,000  
34,000  
 

 

 

 

e. What is the degree of combined leverage at both 30,000 and 34,000 bags? (Round your answers to 2 decimal places.)
   

 

Bags Degree of Combined Leverage
30,000  
34,000  
 

 

 

 

 

 

 

12. Lenow’s Drug Stores and Hall’s Pharmaceuticals are competitors in the discount drug chain store business. The separate capital structures for Lenow and Hall are presented next.

 

 

Lenow   Hall
  Debt @ 10% $ 230,000   Debt @ 10% $ 460,000
  Common stock, $10 par   460,000   Common stock, $10 par   230,000
             
    Total $ 690,000      Total $ 690,000
  Common shares   46,000   Common shares   23,000
 

 

a. Complete the following table given earnings before interest and taxes of $27,000, $69,000, and $71,000. Assume the tax rate is 30 percent. (Leave no cells blank – be certain to enter “0” wherever required. Negative amounts should be indicated by a minus sign. Round your answers to 2 decimal places.)

 

EBIT Total assets EBIT/TA    Lenow EPS   Hall EPS What is the relationship between the EPS

of the two firms?

$  27,000 $690,000  % $ $  
$  69,000 $690,000  % $ $  
$71,000 $690,000  % $ $  
 

 

 

b-1. What is the EBIT/TA rate when the firm’s have equal EPS?

 

 EBIT/TA rate  %

 

b-2. What is the cost of debt?

 

  Cost of debt  %

 

b-3. State the relationship between earnings per share and the level of EBIT.
   
  EPS is unaffected by financial leverage when the pre-tax return on assets (EBIT/TA)  the cost of debt.

 

c. If the cost of debt went up to 12 percent and all other factors remained equal, what would be the break-even level for EBIT?

 

  Break-even level $
   

 

 

 

 

 

 

 

14. Dickinson Company has $11,840,000 million in assets. Currently half of these assets are financed with long-term debt at 9.2 percent and half with common stock having a par value of $8. Ms. Smith, Vice-President of Finance, wishes to analyze two refinancing plans, one with more debt (D) and one with more equity (E). The company earns a return on assets before interest and taxes of 9.2 percent. The tax rate is 45 percent. Tax loss carryover provisions apply, so negative tax amounts are permissable.

 

 

     Under Plan D, a $2,960,000 million long-term bond would be sold at an interest rate of 11.2 percent and 370,000 shares of stock would be purchased in the market at $8 per share and retired.

 

     Under Plan E, 370,000 shares of stock would be sold at $8 per share and the $2,960,000 in proceedswould be used to reduce long-term debt.

 

a. How would each of these plans affect earnings per share? Consider the current plan and the two new plans. (Round your answers to 2 decimal places.)

 

  Current Plan Plan D Plan E
  Earnings per share $ $ $
 

 

 

b-1. Compute the earnings per share if return on assets fell to 4.60 percent. (Leave no cells blank – be certain to enter “0” wherever required. Negative amounts should be indicated by a minus sign. Round your answers to 2 decimal places.)

 

     Current Plan Plan D Plan E
  Earnings per share $ $ $
 

 

 

b-2. Which plan would be most favorable if return on assets fell to 4.60 percent? Consider the current plan and the two new plans.
   
 
  Plan E
  Current Plan
  Plan D

 

 

b-3. Compute the earnings per share if return on assets increased to 14.2 percent. (Round your answers to 2 decimal places.)

 

  Current Plan Plan D Plan E
  Earnings per share $ $ $
 

 

 

b-4. Which plan would be most favorable if return on assets increased to 14.2 percent? Consider the current plan and the two new plans.
   
 
  Current Plan
  Plan D
  Plan E

 

 

c-1. If the market price for common stock rose to $10 before the restructuring, compute the earnings per share. Continue to assume that $2,960,000 million in debt will be used to retire stock in Plan D and $2,960,000 million of new equity will be sold to retire debt in Plan E. Also assume that return on assets is 9.2 percent. (Round your answers to 2 decimal places.)

 

  Current Plan Plan D Plan E
  Earnings per share $ $ $
 

 

 

c-2. If the market price for common stock rose to $10 before the restructuring, which plan would then be most attractive?
   
 
  Current Plan
  Plan D
  Plan E

 

 

 

 

 

 

 

 

15. The Lopez-Portillo Company has $11.3 million in assets, 90 percent financed by debt, and 10 percent financed by common stock. The interest rate on the debt is 10 percent and the par value of the stock is $10 per share. President Lopez-Portillo is considering two financing plans for an expansion to $21.5 million in assets. Under Plan A, the debt-to-total-assets ratio will be maintained, but new debt will cost a whopping 10 percent! Under Plan B, only new common stock at $10 per share will be issued. The tax rate is 30 percent.

 

 

a. If EBIT is 11 percent on total assets, compute earnings per share (EPS) before the expansion and under the two alternatives. (Round your answers to 2 decimal places.)

 

  Earnings Per Share
  Current $
  Plan A $
  Plan B $
 

 

b. What is the degree of financial leverage under each of the three plans? (Round your answers to 2 decimal places.)

 

  Degree Of Financial Leverage
  Current    
  Plan A    
  Plan B    
 

 

c. If stock could be sold at $20 per share due to increased expectations for the firm’s sales and earnings, what impact would this have on earnings per share for the two expansion alternatives? Compute earnings per share for each. (Round your answers to 2 decimal places.)

 

  Earnings Per Share
  Plan A $
  Plan B $
 
The Lopez-Portillo Company has $11.3 million in assets, 90 percent financed by debt, and 10 percent financed by common stock. The interest rate on the debt is 10 percent and the par value of the stock is $10 per share. President Lopez-Portillo is considering two financing plans for an expansion to $21.5 million in assets. Under Plan A, the debt-to-total-assets ratio will be maintained, but new debt will cost a whopping 10 percent! Under Plan B, only new common stock at $10 per share will be issued. The tax rate is 30 percent.

 

a. If EBIT is 11 percent on total assets, compute earnings per share (EPS) before the expansion and under the two alternatives. (Round your answers to 2 decimal places.)

 

  Earnings Per Share
  Current $
  Plan A $
  Plan B $
 

 

b. What is the degree of financial leverage under each of the three plans? (Round your answers to 2 decimal places.)

 

  Degree Of Financial Leverage
  Current    
  Plan A    
  Plan B    
 

 

c. If stock could be sold at $20 per share due to increased expectations for the firm’s sales and earnings, what impact would this have on earnings per share for the two expansion alternatives? Compute earnings per share for each. (Round your answers to 2 decimal places.)

 

  Earnings Per Share
  Plan A $
  Plan B $
 

 

 

 

16.

Delsing Canning Company is considering an expansion of its facilities. Its current income statement is as follows:

 

   
  Sales $ 5,200,000
  Variable costs (50% of sales)   2,600,000
  Fixed costs   1,820,000
   

 

 

 

  Earnings before interest and taxes (EBIT) $ 780,000
  Interest (10% cost)   240,000
   

 

 

 

  Earnings before taxes (EBT) $ 540,000
  Tax (40%)   216,000
   

 

 

 

  Earnings after taxes (EAT) $ 324,000
   

 

 

 

 

 

  Shares of common stock   220,000
  Earnings per share $ 1.47
 

 

 

    The company is currently financed with 50 percent debt and 50 percent equity (common stock, par value of $10). In order to expand the facilities, Mr. Delsing estimates a need for $2.2 million in additional financing. His investment banker has laid out three plans for him to consider:

 

1.Sell $2.2 million of debt at 10 percent.

2.Sell $2.2 million of common stock at $20 per share.

3.Sell $1.10 million of debt at 9 percent and $1.10 million of common stock at $25 per share.

 

Variable costs are expected to stay at 50 percent of sales, while fixed expenses will increase to $2,320,000 per year. Delsing is not sure how much this expansion will add to sales, but he estimates that sales will rise by $1.10 million per year for the next five years.         Delsing is interested in a thorough analysis of his expansion plans and methods of financing.He would like you to analyze the following:

 

 

a. The break-even point for operating expenses before and after expansion (in sales dollars). (Enter your answers in dollars not in millions, i.e, $1,234,567.)

 

  Break-Even Point
  Before expansion   $
  After expansion  $
 

 

 

b. The degree of operating leverage before and after expansion. Assume sales of $5.2 million before expansion and $6.2 million after expansion. Use the formula: DOL = (S − TVC) / (S − TVC − FC).(Round your answers to 2 decimal places.)

 

     Degree of Operating Leverage
  Before expansion    
  After expansion    
 

 

 

c-1. The degree of financial leverage before expansion. (Round your answers to 2 decimal places.)

 

  Degree of financial leverage  

 

c-2. The degree of financial leverage for all three methods after expansion. Assume sales of $6.2 million for this question. (Round your answers to 2 decimal places.)

 

  Degree of Financial Leverage
  100% Debt    
  100% Equity    
  50% Debt & 50% Equity    
 

 

 

d. Compute EPS under all three methods of financing the expansion at $6.2 million in sales (first year) and $10.2 million in sales (last year).(Round your answers to 2 decimal places.)

 

  Earnings per share
  First year Last year
  100% Debt $ $
  100% Equity    
  50% Debt & 50% Equity    
 

 

 

 

17.

Sinclair Manufacturing and Boswell Brothers Inc. are both involved in the production of brick for the homebuilding industry. Their financial information is as follows:

 

  Sinclair   Boswell
  Capital Structure      
  Debt @ 10% $ 840,000     0
  Common stock, $10 per share   560,000   $ 1,400,000
           
    Total $ 1,400,000   $ 1,400,000
   

 

 

 

   

 

 

 

  Common shares   56,000     140,000
           
  Operating Plan:          
  Sales (54,000 units at $15 each) $ 810,000   $ 810,000
  Variable costs   648,000     324,000
  Fixed costs   0     304,000
           
  Earnings before interest and taxes (EBIT) $ 162,000   $ 182,000
   

 

 

 

   

 

 

 

 

 

The variable costs for Sinclair are $12 per unit compared to $6 per unit for Boswell.

 

a. If you combine Sinclair’s capital structure with Boswell’s operating plan, what is the degree of combined leverage? (Round your answer to 2 decimal places.)

 

  Degree of combined leverage  

 

b. If you combine Boswell’s capital structure with Sinclair’s operating plan, what is the degree of combined leverage? (Round your answer to the nearest whole number.)

 

  Degree of combined leverage  

 

c. In part b, if sales double, by what percentage will EPS increase? (Round your answer to the nearest whole percent.)

 

  EPS will increase by  %

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