Question

To support its operations next year, AO Smith Corporation will need total assets of $848 million and it will have available financial resources (total liabilities and equity) of $760 million. Assuming the company can finance its short-term financing needs by issuing short-term notes at a cost of 8%, by how much (in $ millions, rounded to one decimal place, e.g., $12.3 ) will the company's interest expense increase due to having to fund its growth in assets with new short-term debt?

Answer 1

AO Smith Corporation will have to finance an asset shortfall of $88 million through new short-term notes at an 8% interest rate, resulting in an increased annual interest expense of $7.0 million.

Step-by-step explanation:

To answer the question about how much AO Smith Corporation's interest expense will increase due to funding asset growth with new short-term debt, we first calculate the difference between the total assets needed and the available financial resources. The company needs $848 million in total assets and has $760 million available, resulting in a shortfall of $88 million that needs to be financed through new short-term notes.

Next, with the new short-term debt being issued at an interest rate of 8%, the increase in the company's interest expense can be calculated by multiplying the amount of new debt by the interest rate. This results in an additional interest expense of $7.04 million ($88 million × 8%), rounded to one decimal place.

Therefore, to support its operations next year, AO Smith Corporation will have an increased interest expense of $7.0 million due to the new short-term debt issued to fund asset growth.