You have the following information about two firms, Debt Free, Incorporated and Debt Spree, Incorporated. Both firms have the same prospects for sales and EBIT, and both have the same level of assets, tax rate and borrowing rate. They differ in their use of debt financing. Scenario Bad year Normal year Good year Total assets Tax rate Debt Equity Borrowing rate Sales $200 $ 275 $ 380 Debt Free $ 250 21% EBIT $12 $34 $51 $0 $ 250 16% Required: a. Calculate the interest expense for each firm: Debt Spree $ 250 21% $ 150 $ 100 16%

Essentials Of Investments
11th Edition
ISBN:9781260013924
Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Chapter1: Investments: Background And Issues
Section: Chapter Questions
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You have the following information about two firms, Debt Free, Incorporated and Debt Spree, Incorporated. Both firms have the same
prospects for sales and EBIT, and both have the same level of assets, tax rate and borrowing rate. They differ in their use of debt
financing.
Scenario
Bad year
Normal year
Good year
Total assets
Tax rate
Debt
Equity
Borrowing rate
Sales
Interest expense for Debt Free
Interest expense for Debt Spree
$200
$275
$380
Debt Free
$ 250
21%
EBIT
$12
$ 34
$ 51
$0
$ 250
16%
Required:
a. Calculate the interest expense for each firm:
Debt Spree
$ 250
21%
$150
$ 100
16%
Transcribed Image Text:You have the following information about two firms, Debt Free, Incorporated and Debt Spree, Incorporated. Both firms have the same prospects for sales and EBIT, and both have the same level of assets, tax rate and borrowing rate. They differ in their use of debt financing. Scenario Bad year Normal year Good year Total assets Tax rate Debt Equity Borrowing rate Sales Interest expense for Debt Free Interest expense for Debt Spree $200 $275 $380 Debt Free $ 250 21% EBIT $12 $ 34 $ 51 $0 $ 250 16% Required: a. Calculate the interest expense for each firm: Debt Spree $ 250 21% $150 $ 100 16%
Required:
a. Calculate the interest expense for each firm:
Interest expense for Debt Free
Interest expense for Debt Spree
b. Calculate the following items for each firm for each scenario (bad year, normal year, good year): return on assets (ROA), net profit,
and return on equity (ROE). (Use a minus sign to indicate negative answers. Round your answers to 2 decimal places.)
Scenario
Bad year
Normal year
Good year
ROA
%
%
%
Debt Free
Net Profit
ROE
%
%
%
ROA
%
%
%
Debt Spree
Net Profit
ROE
%
%
%
Transcribed Image Text:Required: a. Calculate the interest expense for each firm: Interest expense for Debt Free Interest expense for Debt Spree b. Calculate the following items for each firm for each scenario (bad year, normal year, good year): return on assets (ROA), net profit, and return on equity (ROE). (Use a minus sign to indicate negative answers. Round your answers to 2 decimal places.) Scenario Bad year Normal year Good year ROA % % % Debt Free Net Profit ROE % % % ROA % % % Debt Spree Net Profit ROE % % %
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