An analyst with a mutual fund is considering buying an FCS Inc corporate bond. She has collected the balance sheet information and income statement info for FCS, as shown in Table 1 (values in thousands). Using the funds internal rating system, shown in Table 2, she computes a set of ratios to determine the appropriate risk premium for the bond. Table 1. Balance Sheet Income Statement Current Assets $4,735 Revenue $18,500 Fixed Assets $43,225 Operating and Admin. Expenses $14,050 Total Assets $47,960 Operating Income before D&A $4,450 Current Liabilities $4,500 Depreciation & Amortization $1,635 Long-term Debt $10,000 Interest Expense $926 Total Liabilities $14,500 EBT $1,889 Shareholder Equity $33,460 Taxes $697 Total Liabilities & Shareholder Equity $47,960 Net income $1,192 Table 2. Rating Table Bond Rating Interest Coverage Leverage Current Ratio Risk Premium AA 5.0 to 6.0 0.20 to 0.29 1.15 to 1.25 0.25% A 4.0 to 5.0 0.30 to 0.39 1.00 to 1.14 0.55% BBB 3.0 to 4.0 0.40 to 0.49 0.90 to 0.99 1.00% BB 2.0 to 3.0 0.50 to 0.59 0.75 to 0.89 1.25% In the fund's internal rating system, the interest coverage is defined as EBITDA divided by interest expense. The leverage is defined as long-term debt divided by book value of equity. The current ratio is defined as current assets divided by current liabilities. a) Compute the ratios to determine the appropriate bond rating for the FCS Inc bond. Round your answers to two decimals. Interest Coverage Ratio: Leverage: Current Ratio: Appropriate bond rating: Appropriate bond rating: Appropriate bond rating: (Click to select) (Click to select) (Click to select) The market debt ratio (MDR) is defined as the book value of total debt divided by the sum of the book value of total debt and the market value of equity. Assume that 1/3 of the current liabilities on FCS Inc's balance sheet are short-term debt. Currently, FCS Inc's MDR is 0.40. The beta of the company's stock is 1.20. The bond is currently trading at a risk premium of 55 basis points. b) Assuming a risk-free rate of 3.3%, a market risk premium of 6.1%, and a tax rate of 25%, find the weighted average cost of capital. Cost of equity: Cost of debt: WACC: c) FCS Inc has reached the stable growth stage. Its capital expenditures are 1.14x depreciation, and the change in net working capital is zero. Find the free cash flow to the firm (FCFF) and the enterprise value (EV). FCFF (in thousands): EV (in thousands):

FINANCIAL ACCOUNTING
10th Edition
ISBN:9781259964947
Author:Libby
Publisher:Libby
Chapter1: Financial Statements And Business Decisions
Section: Chapter Questions
Problem 1Q
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An analyst with a mutual fund is considering buying an FCS Inc corporate bond.
She has collected the balance sheet information and income statement info for FCS, as shown in Table 1 (values in thousands).
Using the funds internal rating system, shown in Table 2, she computes a set of ratios to determine the appropriate risk premium for
the bond.
Table 1.
Balance Sheet
Income Statement
Current Assets
$4,735
Revenue
$18,500
Fixed Assets
$43,225
Operating and Admin. Expenses $14,050
Total Assets
$47,960
Operating Income before D&A
$4,450
Current Liabilities
$4,500
Depreciation & Amortization
$1,635
Long-term Debt
$10,000
Interest Expense
$926
Total Liabilities
$14,500
EBT
$1,889
Shareholder Equity
$33,460
Taxes
$697
Total Liabilities & Shareholder Equity $47,960
Net income
$1,192
Table 2.
Rating Table
Bond Rating
Interest Coverage
Leverage
Current Ratio
Risk Premium
AA
5.0 to 6.0
0.20 to 0.29
1.15 to 1.25
0.25%
A
4.0 to 5.0
0.30 to 0.39
1.00 to 1.14
0.55%
BBB
3.0 to 4.0
0.40 to 0.49
0.90 to 0.99
1.00%
BB
2.0 to 3.0
0.50 to 0.59
0.75 to 0.89
1.25%
In the fund's internal rating system, the interest coverage is defined as EBITDA divided by interest expense. The leverage is defined as
long-term debt divided by book value of equity. The current ratio is defined as current assets divided by current liabilities.
a) Compute the ratios to determine the appropriate bond rating for the FCS Inc bond. Round your answers to two decimals.
Interest Coverage Ratio:
Leverage:
Current Ratio:
Appropriate bond rating:
Appropriate bond rating:
Appropriate bond rating:
(Click to select)
(Click to select)
(Click to select)
The market debt ratio (MDR) is defined as the book value of total debt divided by the sum of the book value of total debt and the
market value of equity. Assume that 1/3 of the current liabilities on FCS Inc's balance sheet are short-term debt. Currently, FCS Inc's
MDR is 0.40. The beta of the company's stock is 1.20. The bond is currently trading at a risk premium of 55 basis points.
b) Assuming a risk-free rate of 3.3%, a market risk premium of 6.1%, and a tax rate of 25%, find the weighted average cost of capital.
Cost of equity:
Cost of debt:
WACC:
c) FCS Inc has reached the stable growth stage. Its capital expenditures are 1.14x depreciation, and the change in net working capital is
zero. Find the free cash flow to the firm (FCFF) and the enterprise value (EV).
FCFF (in thousands):
EV (in thousands):
Transcribed Image Text:An analyst with a mutual fund is considering buying an FCS Inc corporate bond. She has collected the balance sheet information and income statement info for FCS, as shown in Table 1 (values in thousands). Using the funds internal rating system, shown in Table 2, she computes a set of ratios to determine the appropriate risk premium for the bond. Table 1. Balance Sheet Income Statement Current Assets $4,735 Revenue $18,500 Fixed Assets $43,225 Operating and Admin. Expenses $14,050 Total Assets $47,960 Operating Income before D&A $4,450 Current Liabilities $4,500 Depreciation & Amortization $1,635 Long-term Debt $10,000 Interest Expense $926 Total Liabilities $14,500 EBT $1,889 Shareholder Equity $33,460 Taxes $697 Total Liabilities & Shareholder Equity $47,960 Net income $1,192 Table 2. Rating Table Bond Rating Interest Coverage Leverage Current Ratio Risk Premium AA 5.0 to 6.0 0.20 to 0.29 1.15 to 1.25 0.25% A 4.0 to 5.0 0.30 to 0.39 1.00 to 1.14 0.55% BBB 3.0 to 4.0 0.40 to 0.49 0.90 to 0.99 1.00% BB 2.0 to 3.0 0.50 to 0.59 0.75 to 0.89 1.25% In the fund's internal rating system, the interest coverage is defined as EBITDA divided by interest expense. The leverage is defined as long-term debt divided by book value of equity. The current ratio is defined as current assets divided by current liabilities. a) Compute the ratios to determine the appropriate bond rating for the FCS Inc bond. Round your answers to two decimals. Interest Coverage Ratio: Leverage: Current Ratio: Appropriate bond rating: Appropriate bond rating: Appropriate bond rating: (Click to select) (Click to select) (Click to select) The market debt ratio (MDR) is defined as the book value of total debt divided by the sum of the book value of total debt and the market value of equity. Assume that 1/3 of the current liabilities on FCS Inc's balance sheet are short-term debt. Currently, FCS Inc's MDR is 0.40. The beta of the company's stock is 1.20. The bond is currently trading at a risk premium of 55 basis points. b) Assuming a risk-free rate of 3.3%, a market risk premium of 6.1%, and a tax rate of 25%, find the weighted average cost of capital. Cost of equity: Cost of debt: WACC: c) FCS Inc has reached the stable growth stage. Its capital expenditures are 1.14x depreciation, and the change in net working capital is zero. Find the free cash flow to the firm (FCFF) and the enterprise value (EV). FCFF (in thousands): EV (in thousands):
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