Exercise 10-25A (Algo) Determining the effects of financing alternatives on ratios LO 10-8

Clayton Industries has the following account balances.

Current assets	$ 23,000	Current liabilities	$ 8,000
Noncurrent assets	89,000	Noncurrent liabilities	57,000
		Stockholders equity	47,000

The company wishes to raise $47,000 in cash and is considering two financing options: Clayton can sell $47,000 of bonds payable, or it can issue additional common stock for $47,000. To help in the decision process, Claytons management wants to determine the effects of each alternative on its current ratio and debt-to-assets ratio. Required a-1. Compute the current ratio for Claytons management. a-2. Compute the debt-to-assets ratio for Claytons management. b. Assume that after the funds are invested, EBIT amounts to $18,900. Also assume the company pays $3,500 in dividends or $3,500 in interest depending on which source of financing is used. Based on a 40 percent tax rate, determine the amount of the increase in retained earnings that would result under each financing option.