SALES REVENUES IN THE MOST RECENT YEAR? AND EXPECTS SALES GROWTH TO BE 25% THIS YEAR PAYNE WOULD LIKE TO DETERMINE THE EFFECT OF VARIOUS CURRENT ASSET POLICIES ? ON ITS FINANCIAL PEPRFORMANCE. PAYNE HAS $1 MILLION OF FIXED ASSETS AND INTENDS TO KEEO ITS DEBT RATIO AT ITS HISTORICAL LEVEL OF 60%. PAYNE'S DEBT INTEREST RATE IS CURRENTLY 8%. YOU ARE TO EVALUATE ? THREE DIFFERENT ASSET POLICIES: (1) A RESTRICTED POLICY IN WHICH CURRENT ASSETS ARE 45% OF PROJECTED SALES, (2) A MODERATE POLICY WITH 50% OF SALES TIED UP IN CURRENT ASSETS, AND (3) A RELAXED POLICY ? REQUIRING CURRENT ASSETS OF 60% OF SALES. EARNINGS BEFORE INTEREST AND TAXES ARE EXPECTED TO BE 12% OF SALES. PAYNE'S TAX RATE IS 40%. ? ? ? ? ? ? ? ? ? ? ? ? ? ?
A. WHAT IS THE EXPECTED RETURN ON EQUITY UNDER EACH CURRENT ASSET LEVEL? ? ? ? ? ? ? ? ? ?
B.IN THIS PROBLEM, WE HAVE ASSUMED THAT THE LEVEL OF EXPECTED SALES IS INDEPDENT OF CURRENT ASSET POLICY. IS THIS A VALID ASSUMPTION? WHY OR WHY NOT? ? ? ? ??
C. HOW WOULD THE OVERALL RISK OF THE FIRM VARY UNDEREACH POLICY? ? ? ? ?
I already have the answers in the back of the book, but what are the steps and formulas to solve the problem?
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