Question
I am attaching a homework file in regard to financial statement analysis. I have looked at 6 documents on the course hero site and 3
I am attaching a homework file in regard to financial statement analysis. I have looked at 6 documents on the course hero site and 3 have a different answer than the other three. I am attaching the one that has me confused. The attached file shows net income to be 5 million and NOPAT to be 3 million. Reading the problem, the expansion hasn't happened yet, but there is and interest amount of 1,000,000 in the computations. Help me to understand this 1 million interest and the 3 and 5 million. My answer to this problem in 10,000,000.00 X 10% = 1,000,000.00. Which answer is correct? Thanks!
Exercise 8-2 Analyzing Return and Strategies of Alternate Financing Roll Corporation's return on net operating assets (RNOA) is 10% and its tax rate is 40%. Its net operating assets ($10 million) are financed entirely by common shareholders' equity. Management is considering using bonds to finance an expansion costing $6 million. It expects return on net operating assets to remain unchanged. These are two alternatives to finance the expansion: 1. Issue $2 million bonds with 5% coupon and $4 million common stock. 2. Issue $6 million bonds with 6% coupon. Required: a. Compute Rolls' current net operating income after tax (NOPAT) and net income. Return on net operating assets (RNOA) Tax Rate Net operating assets Expansion cost 10% 40% 10,000,000 6,000,000 Total tax Total interest Net income $ 4,000,000 1,000,000 5,000,000 Net operating income after tax (NOPAT) $ 3,000,000 b. Determine net income and net operating income after tax for each alternative financing plan. Alternative 1 Net operating income after tax (NOPAT) Net Income $ $ 1,600,000 1,540,000 Alternative 2 Net operating income after tax (NOPAT) Net Income $ $ 1,600,000 1,384,000 c. Compute return on common shareholders' equity for each alternative (use ending equity). Alternative 1 Return on common shareholders' equity 11.00% Alternative 2 Return on common shareholders' equity 13.84% d. Explain any difference in the ROCE for the alternative plans computed in c). Include a discussion of leverage in your response. The difference between the two alternatives when it comes to return on common shareholders' equity is pretty notable due to the successful equity trade. With the second alternative, return on common shareholders' equity is higher, so the company should go for alternative two. Exercise 8-6 Analyzing Financial Leverage for Shareholders' Returns Rose Corporation's condensed balance sheet for Year 2 is reproduced below: Assets Current assets Noncurrent assets Total assets Liabilities and Equity Current liabilities Noncurrent liabilities (8% bonds) Common stockholders' equity Total liabilities and equity $ 250,000 1,750,000 $ 2,000,000 $ 200,000 675,000 1,125,000 $ 2,000,000 Additional Information: 1. Net income for Year 2 is $157,500. 2. Income tax rate is 50%. 3. Amounts for total assets and shareholders' equity are the same for Years 1 and 2. 4. All assets and current liabilities are considered to be operating. Required: a. Determine whether leverage (from long-term debt) benefits Rose's shareholders. (Hint: Examine ROCE with and without leverage.) Net Income (w/leverage) Plus: Saved interest Less: Tax effect Resulting net income (w/o leverage) $ 157,500 $ 27,000 184,500 54,000 27,000 ROCE with leverage ROCE 14.00% ROCE without leverage ROCE 10.25% The ROCE with leverage is beneficial to the shareholders since it is higher at 14% with leverage than without which is only at 10.25%. b. Compute Rose's NOPAT and RNOA (use ending NOA). Net operating income after tax (NOPAT) Return on net operating assets (RNOA) $ 184,500 10.25% c. Demonstrate the favorable effect of leverage given the disaggregation of ROCE and your answer to part b. The favorable effect of leverage comes from the fact of using borrowed funds for capital structure. Once again, since the ROCE is higher than the RNOA, financial leverage benefits the shareholdersStep by Step Solution
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