Question

Considering the following financial information for Atlas Awesome Manufacturing, Inc. and Delilah Superior Manufacturing Inc. Both companies are in the same industry and have identical operating income of $8.4 million. Atlas finances its $15 million in assets with $2 million debt ( on which it pays 9 percent interest) and 13 million in equity. Delilah finances its $15 million in assets with $12 million in debt ( on which it pays 8 percent interest). Both companies pay 32 percent tax on their taxable income.

Calculate the following:

A. Each firms net income

B. The income each firm has available to pay its debt holders and stock holders (the firms asset funders)

C. The returns available to the asset funders on their investment in each company (the return on asset-funders investment)

D. Which company offers a higher return on investment to its asset funders? Explain why this company is able to offer a higher rate of return on investment to its asset funders.

Please show all calculations in digital typed format. Please don't use hand writing.

Also please answer all A,B,C,D. Thank you so much.

Answer 1

A. Formula of net income calculation is as below:

Net income = (Operating income - interest expense)*(1-tax rate)

Net income for Atlas Awesome Manufacturing, Inc.

Net income = [$8.4 million - ($2 million*9%)]*(1-0.32) = ($8.4 - $0.18)*0.68 = $8.22*0.68 = $5.5896 million

Net Income for Delilah Superior Manufacturing Inc.

Net income = [$8.4 million - ($12 million*8%)]*(1-0.32) = ($8.4 - $0.96)*0.68 = $7.44*0.68 = $5.0592 million

B. Atlas Awesome Manufacturing, Inc

Income available to pay its debt holders is its operating income which is $8.4 million and Income available to pay its stock holders is its net income which is $5.5896 million.

Delilah Superior Manufacturing Inc.

Income available to pay its debt holders is its operating income which is $8.4 million and Income available to pay its stock holders is its net income which is $5.0592 million.

C. the return on asset-funders investment = Net income available to stock holders or asset-funders/asset-funders' investment

Atlas Awesome Manufacturing, Inc

return on asset-funders investment = $5.5896 million/$13 million = 42.99%

Delilah Superior Manufacturing Inc.

return on asset-funders investment = $5.0592 million/$3 million = 168.64%

D. Delilah Superior Manufacturing Inc. offers a higher return on investment to its asset-funders of 168.64% because major part of its asset is funded by debt ($12 million/$15 million = 80%) and only 20% or $3 million is funded by stock holders. so income for asset-funders is higher than their investment which is translating to higher return.

in comparison Atlas Awesome Manufacturing, Inc's asset  is funded by debt ($2 million/$15 million = 13.3%) and 86.3% or $13 million is funded by stock holders. so income for asset-funders is lower than their investment which is translating to lower return.