American Home Products Case Essay

1) It is obvious that when take on more debt, the risk of ability to service the interest payment is increased. However, in case of AHP they still have a certain level to absorb more debt into their balance sheet. Even at 70% Debt to Total Capital ratio, their interest coverage still better their competitor.

How much business risk does American Home Products face? How much financial risk would American Home Products face at each of the proposed levels of debt shown in case Exhibit 3? How much potential value, if any, can American Home Products create for its shareholders at each of the proposed levels of debt?

If HCA chooses to remain at the current debt ratio take on a lower rating, suspicion might arise among investors. In both cases opportunities exist as well as consequences. The advantages and disadvantages are outlined in Scenario 1 - 3.

Risk is defined as the probability that a company will become insolvent and will not be able to meet its obligations when they become due for payment. The profitability versus

Risk refers to a likelihood, probability, a chance that a loss may occur in a given organization. Most of the times, there is a high risk when there is vulnerability. In this case, vulnerability refers to a weakness that the organization has. Risk assessment refers to the process of identification of potential hazards and proper analysis of the expected losses if those hazards occur (Homeland Security, n.d.). Risk assessment as a way of profiling risk according to impact to the organization. Some organizations have business impact analysis exercises geared towards determination of potential hazards based risk assessment approaches. Organizations’ risk differ depending on the size and the type of business they are doing. The disparity in organizations’ risk call for different adaptation of risk assessment approaches. Even with the disparities of the businesses, proper risk management not only ranks the risks according to the seriousness but also identifies the best methods to control risks in an organization.

However, two known authors in this field of study believe that companies with low business risk obtains factors of production at a lower cost which may also pave to the ability of the firm to operate more efficiently (Amit & Wernerfet, 1990). Therefore, many stockholders faced a high of uncertainty; this is because some companies do not have the financial strengths to cover its debts that even may result to bankruptcy.

Home Depot was claimed to receive summary disposition by the plaintiff who is a former employee. According to what was written in the report, “The employee was terminated after he kissed a married employee he supervised while the two were not at the store.” The plaintiff, Chris Goodrich, did a lawsuit against a home improvement store. As stated in the report, the plaintiff was complaining that he was terminated in violation of the Whistleblower's Protection Act (WPA) and the § 8 of the Bullard-Plawecki employee right to know act which is “an act to permit employees to review personnel records; to provide criteria for the review; to prescribe the information which may be contained in personnel records; and to provide penalties.” There were two basic allegations that employer did that resulted in the lawsuit.

Introduces the concepts of finance. Reviews the basic tools and their use for making financial decisions. Explains how to measure and compare risks across investment opportunities. Analyzes how the firm chooses the set of securities it will issue to raise capital from investors as well as how the firm’s capital structure is formed. Examines how the choice of capital structure affects the value of the firm. Presents valuation and integrate risk, return and the firm’s choice of capital structure.

5. What capital structure would you recommend as appropriate for AHP? Are there any other sources of value, (other than the tax benefits), to AHP’s shareholders from a leverage increase? What are the disadvantages of leveraging this company?

To evaluate the economics of increased leverage, determined two key numbers in the spirit of the Adjusted Present Value (APV) technique: the present value of the tax savings generated, and the cost of financial distress caused by the increased risk of default. We calculated the present value of the tax-shield is calculated using the formula: tax rate × BV of Debt, assuming that the discount rate and the debt’s interest rates are equal. For the risk

The use of debt is estimated to increase AHP’s stock price due primarily to increases in EPS. It would be foolhardy, however, to ignore the potential setbacks to the firm by taking on much greater levels of debt:

There can be a number of reasons for a company to go public or private. There are benefits, as well as disadvantages that go along with either course of action (Exhibit 1 for details). When firms decide to go private, they are no longer listed on any stock exchange market. The pressure of keeping accounting regularity and reporting to the public is no longer an issue. Instead, firms can be more flexible to reorganize the business profile as well as the management team. In many cases, shareholders and board members receive very rewarding financial benefits from this transaction. However, in some situations, public firms do not have a choice in the matter, as is the case in a “hostile takeover”.

Business risk is the possibility of a business not meeting anticipated sales or be impacted by an expected influence that will result in a decline in profit. In the Thurmond Pig Farm case, the company faced high business risk by selling their hogs on the market at the spot price which has great volatility resulting in high fluctuation in the market. In the case the Thurmond 's had cut as many costs as possible by cutting livestock inventory and sitting on the majority of the hogs in hopes of the prices increasing in the near future. Though they had not yet secured contracts, the family was considering utilizing future contracts for up to three months out in order to hedge at least a portion of potential losses if the market were to continue to decrease due to unpredictability. In the Community General Hospital case the hospital would have faced minimal inherent business risk compared to the hog farm. The majority of expenses were tied up in fixed costs and the hospital needed to utilize the full potential of its available space. However, the market for hospitals is more constant and predictable as there is a constant flow of people who need to use its services. In order to control their business risk, the hospital needed to make full use of its rooms by either adding additional services to the hospital or leasing out sections to private practices. By tweaking its structure to make full use of its resources the hospital would have minimal business risk as long as it

Effective financial management and what characters affect their capital structure are important for a firm to obtain better operational performance. A false decision about the capital structure may lead to financial distress and even to bankruptcy. There are numerous theories developed to analyze alternative capital structures. Among all these theories, the static trade off theory which derived by Modigliani and Miller (1963) was the earliest and most recognized which explains the formulation of capital structure. Their trade off theory assumed that there are optimal capital structures by trading off the benefits and cost of debt and equity. The main benefit of debt is tax deductibility of interest and the costs are bankruptcy cost (Kim, 1978) and agency cost (Jesen and Meckling, 1976; Myers, 1977). However, recent studies have shown a focus shift from the trade off theory to pecking order theory (Quan, 2002; Mazur, 2007).

Leverage also known as the debt to equity ratio measures how much of the company is financed by its debt holders compared with its owners and it is another measure of financial health (Gibson, 2013). A company with a large amount of debt will have a very high debt to equity ratio, whereas one with little debt will have a low debt to equity ratio (Gibson, 2013). Companies with lower leverage are generally less risky than those with higher debt to equity ratios (Gibson, 2013). In this paper, I will discuss the relation between Return on Investment (ROI) and Return on Equity (ROE). I will also discuss the leverage relation between Earnings before interest and taxes (EBIT) and net Income.