Sugar Corporation is considering what level of current assets to maintain, as well as whether to use more or less long-term debt, as opposed to short-term debt. Factors to consider: Fixed assets - $6,000,000 Earnings before interest and taxes - $ 800,000 Tax rate – 30 percent Optimal capital structure – 60 percent equity, 40 percent debt Interest on short-term debt – 5 percent Interest on long-term debt – 8 percent Current asset level possibilities. Aggressive - $1,000,000 Conservative - $1,500,000. Level of short-term debt possibilities. Aggressive – 70 percent of total debt.  Conservative – 40 percent of total debt.   Required: Calculate the return on equity for the aggressive and conservative plans. Discuss which plan you would choose.

EBK CONTEMPORARY FINANCIAL MANAGEMENT
14th Edition
ISBN:9781337514835
Author:MOYER
Publisher:MOYER
Chapter13: Capital Structure Concepts
Section: Chapter Questions
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Sugar Corporation is considering what level of current assets to maintain, as well as whether to use more or less long-term debt, as opposed to short-term debt.

Factors to consider:

  • Fixed assets - $6,000,000
  • Earnings before interest and taxes - $ 800,000
  • Tax rate – 30 percent
  • Optimal capital structure – 60 percent equity, 40 percent debt
  • Interest on short-term debt – 5 percent
  • Interest on long-term debt – 8 percent
  • Current asset level possibilities. Aggressive - $1,000,000 Conservative - $1,500,000.
  • Level of short-term debt possibilities. Aggressive – 70 percent of total debt.  Conservative – 40 percent of total debt.

 

Required:

  1. Calculate the return on equity for the aggressive and conservative plans.
  2. Discuss which plan you would choose.

 

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