Christensen & Assoc. Is developing an asset financing plan. Christensen has $500
ID: 2725631 • Letter: C
Question
Christensen & Assoc. Is developing an asset financing plan. Christensen has $500,000
In current assets, of which 15% are permanent, and $700,000 in fixed assets. The current
long-term rate is 11%, and the current short-term rate is 8.5%. Christensen 's tax rate
is 40%. (16 marks )
A) construct two financing plans----one conservative, with 80 of assets financed by
long-term sources, and the other aggressive, with only 60% of asstes financed by
long-term sources.
B) If Christensen 's earnings before interest and taxes are $325,000, calculate net income
Under each alternative.
C) what are some of the risks associated with each plan ?
D) Which plan would you recommend to Christensen ? Why ?
A. Conservative = 80%
1,200,000 * 0.80 = 960,000 * .11 = 105,600
1,200,000 * 0.20 = 240,000 *.085 = 20,400
105,600 + 20,400 = 126,000
Aggressive = 60%
1,200,000 * 0.60 = 720,000 * .11 = 79,200
1,200,000 * 0.40 = 480,000 * .085 = 40,800
79,200 + 40,800 = 120,000
b)
Conservative
Aggressive
EBIT
325,000
325,000
-Int
126,000
120,000
EBT
199,000
205,000
Tax 40%
79,600
82,000
EAT
119,400
123,000
With referance to the answer of part a and b
I would you to answer part C and D only
C) what are some of the risks associated with each plan ?
D) Which plan would you recommend to Christensen ? Why ?
best regards,
Conservative
Aggressive
EBIT
325,000
325,000
-Int
126,000
120,000
EBT
199,000
205,000
Tax 40%
79,600
82,000
EAT
119,400
123,000
Explanation / Answer
As both are debt realted plan, Christensen has to bear fixed cost every month as interest, and a new business should a have minimum fixed expenses in intial years because it is not certain that the business would be able to earn sufficient profits.
So the risk associated with the both the plans is high debt ratio ehich will rsult in fixed obligation evry month.
Some self capital should also be employed, so as to rsduce the risk of fixed obligations.
d)
The plan with the minimum finance cost each month should be suggested to reduce the fixed expense on interest per month.
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