Question

Colter Steel has \(4,200,000 in assets.

Temporary current assets	\)1,000,000
Permanent current assets	\(2,000,000
Fixed assets	\)1,200,000
Total assets	\(4,200,000

Short-term rates are 8 percent. Long-term rates are 13 percent. Earnings before interest and taxes are \)996,000. 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? For a graphical example of perfectly matched plans, see Figure 6-5.

Short answer

The earnings after taxes will be $300,000.

Step-by-step solution

Information given in the question

The following information is provided:

Long-term interest rates = 13%

Short-term interest rates =8%

Earnings before interest and taxes = $996,000

Tax rate = 40%

Calculation of long-term financing

The long-term financing is $3,200,000.

$$\begin{gathered} Longtermfinancing=Permanentcurrentassets+Fixedassets \\ =2,000,000+1,200,000 \\ =3,200,00 \end{gathered}$$

Calculation of Short-term financing

The short-term financing is $1,000,000. This is the amount of current temporary assets of the organization

Calculation of interest expense

The interest expense is $496,000

$$\begin{gathered} InterestExpense=LongtermInternetexpenses \\ +ShorttermInternetexpenses \\ =\left(3,200,000\times 13\%\right)+\left(1,000,000\times 8\%\right) \\ =\$416,000+\$80,000 \\ =\$496,000 \end{gathered}$$

Calculation of earnings after taxes

The earning after taxes is $300,000.

$$\begin{gathered} Earningsaftertaxes=Earningsbeforeinterestandtaxes \\ -Internetexpenses \\ -Taxes \\ =\$996,000-\$496,000-\$200,000 \\ =\$300,000 \end{gathered}$$