Tutorial Chapter 4: Capital Structure Policy

1. Webb Solutions Inc. has the following financial structure:

Accounts Payable RM500, 000
Short term debt 250,000
Long term debt 750,000
Shareholders’ equity 500,000
Total 2,000,000

a. Computes Webb’s debt ratio and interest bearing debt ratio

b. If the market value of Webb’s equity is RM2,000,000 and the value of the firms debt is
equal to its book value, assuming excess cash is zero, what is the debt to enterprise
value ratio for Webb?
c. If you were a bank loan officer who was analyzing whether or not to loan more money
to Webb, which of the ratios calculated in parts a and b is most relevant to your
analysis?

2. Lowe’s Companies Inc. (LOW) and its subsidiaries operate as a home improvement
retailer in the Malaysia and Singapore. As February 1, 2008 it operated 1,534 stores in 50
states in both country. The company balance sheet for February 1, 2008 included the
following sources of financing:

Liabilities In thousands of RM
Current liabilities
Accounts Payable RM 4,137,000
Short term/ current debt 1,104,000
Other current liabilities 2,510,000
Total Current liabilities 7,751,000
Long term debt 5,576,000
Other Long term liabilities 670,000
Total Long term liabilities 6,246,000
Stockholder equity 16,098,000
Total 30,095,000

a. Calculate the value of Lowe’s debt ratio and interest bearing debt ratio
b. If the market value of Lowe’s common equity is RM35.86 billion and Lowe’s has no
excess cash, what is the firm’s debt to enterprise value ratio?(Assume that the market
value of the firm’s interest bearing debt equal to its book value)

3. CFC total investment is RM500,000 and earning 15% on its investment. From the total
earning CFC are required to pay 6 % interest payment on borrowed money. And the
balance of 9% goes to firms owner.
a. Calculate the value of interest paid and profit that CFC earned.
b. Define whether the financial leverage is favorable or unfavorable.