BUSI 320-Corporate Finance Exam 3

1. Bambino Sporting Goods makes baseball gloves that are very popular in the spring and early summer season. Units sold are anticipated as follows: March 3,150 April 7,150 May 11,300 June 9,300 ________________________________________ 30,900 ________________________________________________________________________________ ________________________________________ If seasonal production is used, it is assumed that inventory will directly match sales for each month and there will be no inventory buildup. 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 30,900 units over four months at a level of 7,725 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. (Leave no cells blank - be certain to enter "0" wherever required.) Ending Inventory March units April units May units June units ________________________________________ b. If the inventory costs $16 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 1.0 percent as the monthly rate.) (Leave no cells blank - be certain to enter "0" wherever required.) Inventory Financing Cost March $ April May June ________________________________________ Total financing cost $ Explanation: a. Bambino Sporting Goods Units Sold Units Produced Change in Inventory Ending Inventory Units March 3,150 7,725 4,575 4,575 April 7,150 7,725 575 5,150 May 11,300 7,725 –3,575 1,575 June 9,300 7,725 –1,575 0 ________________________________________ b. Bambino Sporting Goods Ending Inventory Units Total Cost ($16 per unit) Inventory Financing Cost (at 1.0% per month) March 4,575 $73,200 $ 732 April 5,150 82,400 824 May 1,575 25,200 252 June 0 0 0 ________________________________________ ________________________________________ ________________________________________ Total financing cost = $ 1,808 ________________________________________________________________________________ ________________________________________________________________________________ ________________________________________________________________________________ ________________________________________ 2. Biochemical Corp. requires $620,000 in financing over the next three years. The firm can borrow the funds for three years at 11.60 percent interest per year. The CEO decides to do a forecast and predicts that if she utilizes short-term financing instead, she will pay 8.25 percent interest in the first year, 12.75 percent interest in the second year, and 9.50 percent interest in the third year. Assume interest is paid in full at the end of each year. a. Determine the total interest cost under each plan. Interest Cost Long-term fixed-rate $ Short-term variable-rate $ ________________________________________ b. Which plan is less costly? Short-term variable-rate plan Long-term fixed-rate plan Explanation: a. Long-term fixed-rate interest cost = 3 × (.1160 × $620,000) = $215,760 Short-term variable-rate interest cost: Year 1 interest = .0825 × $620,000 = $51,150 Year 2 interest = .1275 × $620,000 = $79,050 Year 3 interest = .0950 × $620,000 = $58,900 Total interest = $51,150 + 79,050 + 58,900 = $189,100 b. The short-term variable-rate financing plan has the lower cost. 3. Sauer Food Company has decided to buy a new computer system with an expected life of three years. The cost is $210,000. The company can borrow $210,000 for three years at 11 percent annual interest or for one year at 9 percent annual interest. Assume interest is paid in full at the end of each year. a. How much would Sauer Food Company save in interest over the three-year life of the computer system if the one-year loan is utilized and the loan is rolled over (reborrowed) each year at the same 9 percent rate? Compare this to the 11 percent three-year loan. Interest 9 percent loan $ 11 percent loan $ Interest savings $ ________________________________________ b. What if interest rates on the 9 percent loan go up to 14 percent in year 2 and 17 percent in year 3? What would be the total interest cost compared to the 11 percent, three-year loan? Interest Fixed-rate 11% loan $ Variable-rate loan $ Additional interest cost $ ________________________________________ Explanation: a. 9% fixed-rate interest cost = 3 × (.09 × $210,000) = $56,700 11% fixed-rate interest cost = 3 × (.11 × $210,000) = $69,300 Interest savings = $69,300 − 56,700 = $12,600 b. 11% fixed-rate interest cost = 3 × (.11 × $210,000) = $69,300. Short-term variable-rate interest cost: Year 1 interest = .09 × $210,000 = $18,900 Year 2 interest = .14 × $210,000 = $29,400 Year 3 interest = .17 × $210,000 = $35,700 Total interest = $18,900 + 29,400 + 35,700 = $84,000 Additional interest cost = $84,000 − 69,300 = $14,700 4. Assume that Hogan Surgical Instruments Co. has $3,900,000 in assets. If it goes with a low-liquidity plan for the assets, it can earn a return of 17 percent, but with a high-liquidity plan, the return will be 13 percent. If the firm goes with a short-term financing plan, the financing costs on the $3,900,000 will be 9 percent, and with a long-term financing plan, the financing costs on the $3,900,000 will be 11 percent. a. Compute the anticipated return after financing costs with the most aggressive asset-financing mix. Anticipated return $ b. Compute the anticipated return after financing costs with the most conservative asset-financing mix. Anticipated return $ c. Compute the anticipated return after financing costs with the two moderate approaches to the asset-financing mix. Anticipated Return Low liquidity $ High liquidity $ ________________________________________ Explanation: a. Most aggressive: Low liquidity return $ 3,900,000 × .17 = $ 663,000 Short-term financing cost 3,900,000 × .09 = – 351,000 ________________________________________ ________________________________________ Anticipated return $ 312,000 ________________________________________________________________________________ ________________________________________________________________________________ ________________________________________ b. Most conservative: High liquidity return $ 3,900,000 × .13 = $ 507,000 Long-term financing cost 3,900,000 × .11 = – 429,000 ________________________________________ ________________________________________ Anticipated return $ 78,000 ________________________________________________________________________________ ________________________________________________________________________________ ________________________________________ c. Moderate approach: Low liquidity return $ 3,900,000 × .17 = $ 663,000 Long-term financing cost 3,900,000 × .11 = – 429,000 ________________________________________ ________________________________________ $ 234,000 ________________________________________________________________________________ ________________________________________________________________________________ High liquidity return $ 3,900,000 × .13 = $ 507,000 Short-term financing cost 3,900,000 × .09 = – 351,000 ________________________________________ ________________________________________ $ 156,000 5. Assume that Atlas Sporting Goods Inc. has $950,000 in assets. If it goes with a low-liquidity plan for the assets, it can earn a return of 12 percent, but with a high-liquidity plan the return will be 9 percent. If the firm goes with a short-term financing plan, the financing costs on the $950,000 will be 6 percent, and with a long-term financing plan, the financing costs on the $950,000 will be 8 percent. a. Compute the anticipated return after financing costs with the most aggressive asset-financing mix. Anticipated return $ b. Compute the anticipated return after financing costs with the most conservative asset-financing mix. Anticipated return $ c. Compute the anticipated return after financing costs with the two moderate approaches to the asset-financing mix. Anticipated Return Low liquidity $ High liquidity $ ________________________________________ d. If the firm used the most aggressive asset-financing mix described in part a and had the anticipated return you computed for part a, what would earnings per share be if the tax rate on the anticipated return was 30 percent and there were 20,000 shares outstanding? (Round your answer to 2 decimal places.) Earnings per share $ e-1. Now assume the most conservative asset-financing mix described in part b will be utilized. The tax rate will be 30 percent. Also assume there will only be 5,000 shares outstanding. What will earnings per share be? (Round your answer to 2 decimal places.) Earnings per share $ e-2. Would the conservative mix have higher or lower earnings per share than the aggressive mix? Higher Lower Explanation: a. Most aggressive: Low liquidity return $950,000 × .12 = $114,000 Short-term financing cost 950,000 × .06 = –57,000 ________________________________________ Anticipated return 57,000 ________________________________________________________________________________ ________________________________________ b. Most conservative: High liquidity return $950,000 × .09 = $85,500 Long-term financing cost 950,000 × .08 = –76,000 ________________________________________ Anticipated return 9,500 ________________________________________________________________________________ ________________________________________ c. Moderate approach: Low liquidity return $950,000 × .12 = $114,000 Long-term financing cost 950,000 × .08 = –76,000 ________________________________________ Anticipated return $38,000 ________________________________________________________________________________ High liquidity return $950,000 × .09 = $85,500 Short-term financing cost 950,000 × .06 = –57,000 ________________________________________ Anticipated return $28,500 ________________________________________________________________________________ ________________________________________ d. Anticipated return $57,000 Taxes (30%) 17,100 ________________________________________ Earnings after taxes $39,900 ________________________________________________________________________________ Shares 20,000 Earnings per share $2.00 ________________________________________ e-1. Anticipated return $9,500 Taxes (30%) 2,850 ________________________________________ Earnings after taxes $6,650 ________________________________________________________________________________ Shares 5,000 Earnings per share $1.33 ________________________________________ e-2. The more conservative financing mix has lower earnings per share 6. Colter Steel has $5,200,000 in assets. Temporary current assets $ 2,400,000 Permanent current assets 1,570,000 Fixed assets 1,230,000 ________________________________________ ________________________________________ Total assets $ 5,200,000 ________________________________________________________________________________ ________________________________________________________________________________ ________________________________________ Short-term rates...

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