Chapter 10 Homework

Calculating EVA Brewster Company manufactures elderberry wine. Last year, Brewster eamed operating income of $187,000 after income taxes. Capitel employed equaled $2.5 million. Breaster is 40 percent equity and 60 percent 10-year bonds paying 7 percent interest. Brewster's marginal tax rate is 40 percent. The company is considered a fairly risky investment and probably commands a 12-point premium above the 5 percent rate on long-term Treasury bands. Jonathan Brewster's aunts, Abby and Martha, have just retired, and Brewster is the new CEO of Brewster Company. He would like to improve EVA for the company. Compute EVA under each of the following independent scenarios that Brewster is considering. Required: Use a spreadsheet to perform your calculations and round all interim and percentage figures to four decimal places. If the EVA is negative, enter your answer as a negative amount. 1. No thanges are made; calculate EVA using the original ciete $ -97,480 x 2. Sugar will be used to replace another natural ingredient (atomic number 33) in the elderberry wine. This should not affect costs but will begin to affect the market assessment of Brewster Company, bringing the premium above long-term Treasury bills to 10 percent the first year and 7 percent the second year Cakulate revised EVA for both years. EVA Year 1 $ -47,080 X Year 2 $ -47,080 x 3. Brewster is considering expanding but needs additional capital. The company could barrow money, but it is considering seling more common stock, which would intresse equity to 80 percent of total financing. Total capital employed would be $3,700,000. The new after tax operating income would be $370,000. Using the original data, calculate EVA. Then, recalculate EVA assuming the materials substitution described in Requirement 2. New after-tax income will be $370,000, and in Year 1, the premium will be 10 percent above the long-term Treasury rate. In Year 2, it will be 7 percent above the long-term Treasury rate. (Hint: You will calculate three EVAs for this requirement.) EVA Year 1 $ 10.18 x Year 1 (10% premium) $ -10.18 Year 2(7% premium) $ 10.18 x Teached CheckMy Art 1. To calculate EVA, first calculate the after-tax cost. After-tax cost - Interest rate - (Tax rate x Interest Rate). EVA - After-tax operating Income - (Veighted average cost of capital x Total capital employed) 2. Consider revised information. To calculate EVA, first calculate the after-tax cost. After-tax cost = interest rate - (Tax rate x Interest Rate). EVA = After-tax operating income - (Weighted average cost of capital x Total capital employed). 3. Consider revised information. To calculate EVA, first calculate the after-tax cost. After-tax cost = Interest rate - (Tax rate x Interest Rate). EVA = After-tax operating income -(Weighted average cost of capital x Total capital employed). Calculating EVA Brewster Company manufactures elderberry wine. Last year, Brewster eamed operating income of $187,000 after income taxes. Capitel employed equaled $2.5 million. Breaster is 40 percent equity and 60 percent 10-year bonds paying 7 percent interest. Brewster's marginal tax rate is 40 percent. The company is considered a fairly risky investment and probably commands a 12-point premium above the 5 percent rate on long-term Treasury bands. Jonathan Brewster's aunts, Abby and Martha, have just retired, and Brewster is the new CEO of Brewster Company. He would like to improve EVA for the company. Compute EVA under each of the following independent scenarios that Brewster is considering. Required: Use a spreadsheet to perform your calculations and round all interim and percentage figures to four decimal places. If the EVA is negative, enter your answer as a negative amount. 1. No thanges are made; calculate EVA using the original ciete $ -97,480 x 2. Sugar will be used to replace another natural ingredient (atomic number 33) in the elderberry wine. This should not affect costs but will begin to affect the market assessment of Brewster Company, bringing the premium above long-term Treasury bills to 10 percent the first year and 7 percent the second year Cakulate revised EVA for both years. EVA Year 1 $ -47,080 X Year 2 $ -47,080 x 3. Brewster is considering expanding but needs additional capital. The company could barrow money, but it is considering seling more common stock, which would intresse equity to 80 percent of total financing. Total capital employed would be $3,700,000. The new after tax operating income would be $370,000. Using the original data, calculate EVA. Then, recalculate EVA assuming the materials substitution described in Requirement 2. New after-tax income will be $370,000, and in Year 1, the premium will be 10 percent above the long-term Treasury rate. In Year 2, it will be 7 percent above the long-term Treasury rate. (Hint: You will calculate three EVAs for this requirement.) EVA Year 1 $ 10.18 x Year 1 (10% premium) $ -10.18 Year 2(7% premium) $ 10.18 x Teached CheckMy Art 1. To calculate EVA, first calculate the after-tax cost. After-tax cost - Interest rate - (Tax rate x Interest Rate). EVA - After-tax operating Income - (Veighted average cost of capital x Total capital employed) 2. Consider revised information. To calculate EVA, first calculate the after-tax cost. After-tax cost = interest rate - (Tax rate x Interest Rate). EVA = After-tax operating income - (Weighted average cost of capital x Total capital employed). 3. Consider revised information. To calculate EVA, first calculate the after-tax cost. After-tax cost = Interest rate - (Tax rate x Interest Rate). EVA = After-tax operating income -(Weighted average cost of capital x Total capital employed)