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Guardian Inc. is trying to develop an asset-financing plan. The firm has $410,000 in temporary current...

Guardian Inc. is trying to develop an asset-financing plan. The firm has $410,000 in temporary current assets and $310,000 in permanent current assets. Guardian also has $510,000 in fixed assets. Assume a tax rate of 30 percent. a. Construct two alternative financing plans for Guardian. One of the plans should be conservative, with 70 percent of assets financed by long-term sources, and the other should be aggressive, with only 56.25 percent of assets financed by long-term sources. The current interest rate is 16 percent on long-term funds and 8 percent on short-term financing. Compute the annual interest payments under each plan. b. Given that Guardian’s earnings before interest and taxes are $290,000, calculate earnings after taxes for each of your alternatives. c. What would the annual interest and earnings after taxes for the conservative and aggressive strategies be if the short-term and long-term interest rates were reversed?

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Expert Solution

a) Annual Inrest Amount

Conservative Plan Aggressive Plan
Total Current Asset $                7,20,000.00 $                7,20,000.00
Total Fixed Asset $                5,10,000.00 $                5,10,000.00
Total Asset $              12,30,000.00 $              12,30,000.00
Long Term Finance(%) 70.00% 56.25%
Long Term Finance($) $                8,61,000.00 $                6,91,875.00
ShortTerm Finance(%) 30.00% 43.75%
ShortTerm Finance($) $                3,69,000.00 $                5,38,125.00
Annual Interest $                1,67,280.00 $                1,53,750.00
Interest Rate
Long Term Finance 16% 16%
Short Term Finance 8% 8%

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Earning after tax schedule ain both cases

Conservative Plan Aggressive Plan
EBIT $            2,90,000.00 $            2,90,000.00
Interest $            1,67,280.00 $            1,53,750.00
Tax=30%x(EBIT-Interest) $                36,816.00 $                40,875.00
Earning After Tax $                85,904.00 $                95,375.00

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Effect on annual interest and earning after tax if ST & LT interest rates are reversed>

Scenario after LT & ST interest rate reversed
Conservative Plan Aggressive Plan
Total Current Asset $                7,20,000.00 $                7,20,000.00
Total Fixed Asset $                5,10,000.00 $                5,10,000.00
Total Asset $              12,30,000.00 $              12,30,000.00
Long Term Finance(%) 70.00% 56.25%
Long Term Finance($) $                8,61,000.00 $                6,91,875.00
ShortTerm Finance(%) 30.00% 43.75%
ShortTerm Finance($) $                3,69,000.00 $                5,38,125.00
Annual Interest $                1,27,920.00 $                1,53,750.00
Interest Rate
Long Term Finance 8% 16%
Short Term Finance 16% 8%
Conservative Plan Aggressive Plan
EBIT $            2,90,000.00 $            2,90,000.00
Interest $            1,27,920.00 $            1,53,750.00
Tax=30%x(EBIT-Interest) $                48,624.00 $                40,875.00
Earning After Tax $            1,13,456.00 $                95,375.00

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