Lear Inc. has $800,000 in current assets, $350,000 of which are considered perma

Question

Lear Inc. has $800,000 in current assets, $350,000 of which are considered permanent current assets. In addition, the firm has $600,000 invested in foxed assets a. Lear wishes to finance all fixed assets and half of its permanent ourrent assets wilth long-tem financing costing 10 percent. The balance will be fnanced with short-term financing, which currently costs 5 percent Lear's earnings before interest and taxes are $200,000. Determine Lear's eamings after taxes under this financing plan. The tax rate is 30 percent Eamings afher taxes b. As an altermative, Lear might wish to finance all fixed assets and parmanent current assets plus half of its temporary current assets with long-tem financing and the balance with short- term inancing. The same interest rates apply as in part a. Eamings before interest and taxes will be $200,000. What will be Lear's earmings after taxes? The tax rate is 30 percent s after taxes

Explanation / Answer

a.

Total interest expense = ( $ 600,000 + $ 350,000 x 0.50) x 0.10 + $ 625,000 x 0.05 = $ 108,750.

Earnings after taxes = EBIT - Interest Expense - Tax Expense = ($ 200,000 - $ 108,750) x ( 1 - 0.30) = $ 63,875.

b.

Total interest expense = $ ( 600,000 + 350,000 + 450,000 x 0.50) x 0.10 + $ 450,000 x 0.50 x 0.05 = $ 117,500 + $ 11,250 = $ 128,750.

Earnings after taxes = $ ( 200,000 - 128,750) x 0.70 = $ 49,875.

Earnings after taxes $ 63,875

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