Ecoglobal Products, a manufacturer of solar heating panels, is currently selling $30 million annually to dealers on 30-day credit terms. Management believes that sales could be increased by changing its credit policy. The firm's present collection period is 30 days and it is presently considering the following credit policies.

  

A

45 days

$33 million

B

60 days

$35 million

C

100 days

$36 million

If the firm's variable costs average 75 percent and its opportunity cost of funds is 20 percent, which policy should be adopted? (Assume a 360-day year.)

2.You are doing some comparison shopping. Five stores offer the product you want at basically the same price.

(a)Compute annual and effective interest rates implicit in each credit term.

(b)Which of the stores offers the best credit terms if you plan on taking the discount?

(c)Which of the stores offers the best credit terms if you plan on foregoing the discount?

 

A

1/10, net 20

B

2/10, net 20

C

2/5, net 30

D

1/15, net 45

E

2/15, net 30

3.Taylor Industries needs to raise funds on a short-term basis. One alternative is to borrow from the bank at an 18 percent annual interest rate, while the second involves foregoing cash discounts from a supplier whose trade credit terms are 2/10, net 60. Which alternative has the lower effective interest cost (assume a 360 day year)?

4.Back Woods Coffee (BWC) has expected earnings before interest and taxes of $34,500, an unlevered cost of capital of 14 percent, and debt with both a book and face value of $20,000. The debt has an annual 7 percent coupon. The tax rate is 35 percent. What is the value of the firm and equity?

5.Uptown Appliances has an unlevered cost of capital of 14 percent, a tax rate of 35 percent, and expected earnings before interest and taxes of $8,200. The company has $15,000 in bonds outstanding that have a 7.5 percent coupon and pay interest annually. The bonds are selling at par value. What is the cost of equity?

 6.Berkley's has expected earnings before interest and taxes of $3,800. Its unlevered cost of capital is 14.5 percent and its tax rate is 35 percent. Berkley's has debt with both a book and a face value of $2,200. This debt has a 7.5 percent coupon and pays interest annually.  

(i)What is Barkley's value if it is an all-equity company?

(ii)What will be Barkley's value when it uses a debt of $2200? What if the debt increases to $4,000? What if the debt increases to $5,000?

(iii)What is Barkley's weighted average cost of capital when the level of outstanding debt is zero, $2,200, $4,000 and $5,000, respectively.