At the end of 2014, Montvale Associates borrowed $120,000 from the Bayliner Bank. The debt covenant specified
Question:
At the end of 2014, Montvale Associates borrowed $120,000 from the Bayliner Bank. The debt covenant specified that Montvale’s debt/equity ratio could not exceed 1.5:1 during the period of the loan. A summary of Montvale’s balance sheet after the loan follows.
2014
Assets
Current assets................. $130,000
Noncurrent assets .................350,000
Total assets.................. $480,000
Liabilities and Shareholders’ Equity
Current liabilities ................ $130,000
Long-term liabilities ...............150,000
Shareholders’ equity ...............200,000
Total liabilities and shareholders’ equity ........ $480,000
a. Compute Montvale’s debt/equity ratio immediately after the loan.
b. How much additional debt can the company incur without violating the debt covenant?
c. How large a dividend can the company declare and pay at the end of 2014 without violating the debt covenant?
d. If Montvale had declared, but not yet paid, a $20,000 dividend before it took out the loan, could the company pay the dividend afterward without violating the debt covenant? Why or why not?
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