Cape Cod Lobster Shacks, Inc. (CCLS) is a seafood restaurant chain operating thr

Question

Cape Cod Lobster Shacks, Inc. (CCLS) is a seafood restaurant chain operating throughout the northeast. The company has two sources of long-term capital: debt and equity. The cost to CCLS of issuing debt is the after-tax cost of the interest payments on the debt, taking into account the fact that the interest payments are tax deductible. The cost of CCLS’s equity capital is the investment opportunity rate of CCLS’s investors, that is, the rate they could earn on investments of similar risk to that of investing in Cape Cod Lobster Shacks, Inc. The interest rate on CCLS’s $80 million of long-term debt is 9 percent, and the company’s tax rate is 40 percent. The cost of CCLS’s equity capital is 14 percent. Moreover, the market value (and book value) of CCLS’s equity is $120 million.

Cape Cod Lobster Shacks, Inc. consists of two divisions, the properties division and the food service division. The divisions’ total assets, current liabilities, and before-tax operating income for the most recent year are as follows:

Question: Calculate the economic value added (EVA) for each of CCLS’s divisions. (Do not round intermediate calculations. Enter your answers in millions rounded to 4 decimal places

Division Total Assets Current Liabilities Before-Tax Operating Income Properties $ 145,000,000 $ 3,000,000 $ 29,000,000 Food Service 64,000,000 6,000,000 15,000,000

Explanation / Answer

Calculation of economic value added

= Net operating profit after tax-Cost of capital employed

Properties : 21720000-17040000 = 4680000

Food Services : 13320000-6960000 = 6360000

Weighted average cost of capital : Equity to capital employed*cost of equity+debt to capital employed*cost of debt

= 0.14*120/200+0.09*80/200 = 12%

Capital Employed : Total Asset-Current liablities

Properties : 145000000-3000000 = 142000000

Food service : 64000000-6000,000 = 58000000

Cost of capital employed : Weighted average cost of capital*Capital Employed

Properties : 12%*142000000 = 17040000

Food service : 12%*58000000 = 6960000

Particulars Properties Food Service Earning before Tax 29000000 15000000 Add : Interest (80000000*0.09) 7200000 7200000 Earning before interest & Tax 36200000 22200000 Less : Tax @ 40% 14480000 8880000 Net Operating Profit after Tax 21720000 13320000

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