# Finance 1a Capital Structure Can Essay Download this Essay in word format (.doc)

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5x -- 50,000

200,000 / 7.5 = 26,6667 units

1e) the ROE for the first scenario is 140,000 / (0.85*350,000) = 47%

the ROE for the second scenario is 140,000 / (0.65*350,000) = 61.5%

The difference is 61.5 -- 47 = 14.5%

1f) the dividend payout structure is going to be as follows. The taxable income will be as follows:

(\$200,000 * .35) = \$70,000 of debt. The interest will be (70,000)(.105) = \$7,350

So taxable income will be \$200,000 -- 7350 = \$192,650

Tax at 30% is \$57,795

Thus, net income is \$192,650 - \$57,795 = \$134,855

The equity needed for the capital budget is (.65)(150,000) = \$97,500

The dividends are therefore calculated as \$134,855 - \$97,500 = \$37,355

The payout is therefore \$37,355 / \$134,855 = 27.7%

2. a) the company faces some risks if it tightens the credit policy. It will reduce its accounts receivable if it does this, and the result will be that its liquidity ratios will decrease. The company will convert more money to cash more quickly, but in doing so it will put itself in a position of having fewer current assets with which to deal -- it must invest its cash well if it tightens its credit policy.

2b) Depreciation should not affect the working capital analysis. Depreciation should only affect capital assets, which are not included in the current assets, the part of the assets that are included in the working capital.

2c) Using short-term debt financing as a source of financing is has advantages and disadvantages. Short-term debt is easy to use, and carries with it a lower cost because of the short time frame. Banks are willing to lend in the short-term as well. In addition, the firm can affect short-term credit financing even without banks, for example by stretching payables. The main disadvantage, however, is that this technique restricts the firm's working capital. More of its near-term income is dedicated to debt service, increasing the firm's overall risk level.

2d) the daily sales are \$9,589. The cash conversion cycle initially is:

(\$1,200,000/9589)+(\$650,000)(9589) -- 30 = x

125+68 -- 30 = 163 days

The new cash conversion cycle is:

(\$1,020,000/9589)+(\$552,500/9589)-40 =

106+57-40 = 123 days

The cash conversion cycle will be shortened by 40 days.

2e) to calculate the pre-tax annual savings,…

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