You have the following information about two firms, Debt Free, Incorporated and Debt Spree, Incorporated. Both firms have the same prospects for sales and EBIT, and both have the same level of assets, tax rate and borrowing rate. They differ in their use of debt financing. Scenario Sales EBIT Bad year $ 200 $ 12 Normal year $ 275 $ 38 Good year $ 380 $ 46 Debt Free Debt Spree Total assets $ 250 $ 250 Tax rate 21% 21% Debt $ 0 $ 150 Equity $ 250 $ 100 Borrowing rate 16% 16% Required: a. Calculate the interest expense for each firm: Interest expense for Debt Free = $ Interest expense for Debt Spree = $ b. Calculate the following items for each firm for each scenario (bad year, normal year, good year): return on assets (ROA), net profit, and return on equity (ROE). (Use a minus sign to indicate negative answers. Round your answers to 2 decimal places.) Debt Free Debt Spree Scenario ROA Net Profit ROE ROA Net Profit ROE Bad year % % % % Normal year % % % % Good year % % % %
You have the following information about two firms, Debt Free, Incorporated and Debt Spree, Incorporated. Both firms have the same prospects for sales and EBIT, and both have the same level of assets, tax rate and borrowing rate. They differ in their use of debt financing. Scenario Sales EBIT Bad year $ 200 $ 12 Normal year $ 275 $ 38 Good year $ 380 $ 46 Debt Free Debt Spree Total assets $ 250 $ 250 Tax rate 21% 21% Debt $ 0 $ 150 Equity $ 250 $ 100 Borrowing rate 16% 16% Required: a. Calculate the interest expense for each firm: Interest expense for Debt Free = $ Interest expense for Debt Spree = $ b. Calculate the following items for each firm for each scenario (bad year, normal year, good year): return on assets (ROA), net profit, and return on equity (ROE). (Use a minus sign to indicate negative answers. Round your answers to 2 decimal places.) Debt Free Debt Spree Scenario ROA Net Profit ROE ROA Net Profit ROE Bad year % % % % Normal year % % % % Good year % % % %
Chapter1: Financial Statements And Business Decisions
Section: Chapter Questions
Problem 1Q
Related questions
Question
100%
You have the following information about two firms, Debt Free, Incorporated and Debt Spree, Incorporated. Both firms have the same prospects for sales and EBIT, and both have the same level of assets, tax rate and borrowing rate. They differ in their use of debt financing.
| Scenario | Sales | EBIT |
|---|---|---|
| Bad year | $ 200 | $ 12 |
| Normal year | $ 275 | $ 38 |
| Good year | $ 380 | $ 46 |
| Debt Free | Debt Spree | |
|---|---|---|
| Total assets | $ 250 | $ 250 |
| Tax rate | 21% | 21% |
| Debt | $ 0 | $ 150 |
| Equity | $ 250 | $ 100 |
| Borrowing rate | 16% | 16% |
Required:
a. Calculate the interest expense for each firm:
Interest expense for Debt Free = $
Interest expense for Debt Spree = $
b. Calculate the following items for each firm for each scenario (bad year, normal year, good year): return on assets (ROA), net profit, and return on equity (ROE). (Use a minus sign to indicate negative answers. Round your answers to 2 decimal places.)
| Debt Free | Debt Spree | |||||||||
| Scenario | ROA | Net Profit | ROE | ROA | Net Profit | ROE | ||||
| Bad year | % | % | % | % | ||||||
| Normal year | % | % | % | % | ||||||
| Good year | % | % | % | % |
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