Question

Firms HL and LL are identical except for their financial leverage ratios and the interest rates they pay on debt. Each has $15 million in invested capital, has $2.25 million of EBIT, and is in the 40% federal-plus-state tax bracket. Firm HL, however, has a debt-to-capital ratio of 55% and pays 11% interest on its debt, whereas LL has a 20% debt-to-capital ratio and pays only 8% interest on its debt. Neither firm uses preferred stock in its capital structure.

a: Calculate the return on invested capital (ROIC) for each
firm. Round your answers to two decimal places.

ROIC for firm LL is % ______

ROIC for firm HL is % ______

b: Calculate the rate of return on equity (ROE) for each firm. Round your answers to two decimal places.

ROE for firm LL is %

ROE for firm HL is %

c: Observing that HL has a higher ROE, LL's treasurer is thinking of raising the debt-to-capital ratio from 20% to 60% even though that would increase LL's interest rate on all debt to 15%. Calculate the new ROE for LL. Round your answer to two decimal places.

%_______

Answer #1

Firms HL and LL are identical except for their financial
leverage ratios and the interest rates they pay on debt. Each has
$27 million in invested capital, has $5.4 million of EBIT, and is
in the 40% federal-plus-state tax bracket. Firm HL, however, has a
debt-to-capital ratio of 60% and pays 11% interest on its debt,
whereas LL has a 40% debt-to-capital ratio and pays only 8%
interest on its debt. Neither firm uses preferred stock in its
capital structure....

FINANCIAL LEVERAGE EFFECTS
Firms HL and LL are identical except for their financial
leverage ratios and the interest rates they pay on debt. Each has
$13 million in invested capital, has $3.25 million of EBIT, and is
in the 40% federal-plus-state tax bracket. Firm HL, however, has a
debt-to-capital ratio of 60% and pays 11% interest on its debt,
whereas LL has a 35% debt-to-capital ratio and pays only 10%
interest on its debt. Neither firm uses preferred stock in...

INANCIAL LEVERAGE EFFECTS
Firms HL and LL are identical except for their financial
leverage ratios and the interest rates they pay on debt. Each has
$24 million in invested capital, has $3.6 million of EBIT, and is
in the 40% federal-plus-state tax bracket. Firm HL, however, has a
debt-to-capital ratio of 55% and pays 12% interest on its debt,
whereas LL has a 20% debt-to-capital ratio and pays only 8%
interest on its debt. Neither firm uses preferred stock in...

TIE AND ROIC RATIOS
The W.C. Pruett Corp. has $300,000 of interest-bearing debt
outstanding, and it pays an annual interest rate of 12%. In
addition, it has $800,000 of common stock on its balance sheet. It
finances with only debt and common equity, so it has no preferred
stock. Its annual sales are $0.84 million, its average tax rate is
40%, and its profit margin is 3%. What are its TIE ratio and its
return on invested capital (ROIC)? Round...

9. Problem 4.09
Click here to read the eBook: Profitability Ratios
BEP, ROE, AND ROIC
Broward Manufacturing recently reported the following
information:
Net income
$430,000
ROA
10%
Interest expense
$154,800
Accounts payable and accruals
$1,000,000
Broward's tax rate is 35%. Broward finances with only debt and
common equity, so it has no preferred stock. 40% of its total
invested capital is debt, while 60% of its total invested capital
is common equity. Calculate its basic earning power (BEP), its
return on...

The W.C. Pruett Corp. has $950,000 of interest-bearing debt
outstanding, and it pays an annual interest rate of 8%. In
addition, it has $800,000 of common stock on its balance sheet. It
finances with only debt and common equity, so it has no preferred
stock. Its annual sales are $3.99 million, its average tax rate is
25%, and its profit margin is 7%. What are its TIE ratio and its
return on invested capital (ROIC)? Round your answers to two...

The W.C. Pruett Corp. has $700,000 of interest-bearing debt
outstanding, and it pays an annual interest rate of 7%. In
addition, it has $700,000 of common stock on its balance sheet. It
finances with only debt and common equity, so it has no preferred
stock. Its annual sales are $4.34 million, its average tax rate is
40%, and its profit margin is 7%. What are its TIE ratio and its
return on invested capital (ROIC)? Round your answers to two...

The W.C. Pruett Corp. has $500,000 of interest-bearing debt
outstanding, and it pays an annual interest rate of 8%. In
addition, it has $700,000 of common stock on its balance sheet. It
finances with only debt and common equity, so it has no preferred
stock. Its annual sales are $3.15 million, its average tax rate is
25%, and its profit margin is 7%. What are its TIE ratio and its
return on invested capital (ROIC)? Round your answers to two...

Broward Manufacturing recently reported the following
information: Net income $760,000 ROA 12% Interest expense $250,800
Accounts payable and accruals $950,000 Broward's tax rate is 40%.
Broward finances with only debt and common equity, so it has no
preferred stock. 40% of its total invested capital is debt, while
60% of its total invested capital is common equity. Calculate its
basic earning power (BEP), its return on equity (ROE), and its
return on invested capital (ROIC). Do not round intermediate
calculations....

Broward Manufacturing recently reported the following
information:
Net income
$417,000
ROA
8%
Interest expense
$133,440
Accounts payable and accruals
$1,000,000
Broward's tax rate is 25%. Broward finances with only debt and
common equity, so it has no preferred stock. 40% of its total
invested capital is debt, and 60% of its total invested capital is
common equity. Calculate its basic earning power (BEP), its return
on equity (ROE), and its return on invested capital (ROIC). Do not
round intermediate calculations....

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