Question

Short-term rates are 9 percent. Long-term rates are 14 percent. Earnings before interest and taxes are $1,110,000. The tax rate is 40 percent. If long-term financing is perfectly matched (synchronized) with long-term asset needs, and the same is true of short-term financing, what will earnings after taxes be

Answer 1

$121,200.

Step-by-step explanation:

(1). Step one: Calculate the value of the Short-term financing.

Hence, Short-term financing = temporary current assets= 2,000,000.

(2). Step two: Calculate the long term financing.

long term financing = Fixed assets + Permanent current assets.

long term financing= 2,200,000 + 3,000,000 = 5,200,000.

(3). Step three: Calculate the expense of Short-term interest and long term interest respectively and then, add it up.

The expense for Short-term interest= 9/100 × 2,000,000 = 180,000.

The expense for Long term interest= 14/100 × 5,200,000 = 728,000.

Total= 728,000 + 180,000 = 908,000.

(4). Step four: Calculate the earnings before taxes.

Earnings before taxes = Earnings before interest and taxes - total expense on interest.

Earnings before taxes = 1,110,000 - 908,000 = 202,000.

(5). Step five: Calculate the 40% of the earnings before taxes which is;

40/100 × 202, 000 = 80800.

(6) Step Six : calculate earnings after tax.

earnings after tax = 202,000 - 80,800.

earnings after tax =$ 121,200.