The Collins Company, expertly run by Mr. Collins who is the CEO, CFO, and Chairman of the
Question:
The Collins Company, expertly run by Mr. Collins who is the CEO, CFO, and Chairman of the Board, on which a couple of his very good friends sit, needs to expand its production. Current sales are $6,700,000 and that is expected to grow by 30% next year. Its current machines are operating at 92% of capacity. The supplier of machines has the X-1500 for sale, which can generate $1,000,000 worth of sales in a year.
The Balance Sheet of the Collins Company has $9,000,000 in assets and $150,000 in Account Payable. It is financed for 50% using equity, in the form of 30,000 Common Stock outstanding. Preferred Stock represents 12.5% of the capital, in the form of 16,667 Preferred Stock outstanding. Finally, there is $275,000 in retained earnings on the Balance Sheet.
According to the Income Statement the firm had a taxable income of $312,667, over which it paid $78,167 in taxes. From the resulting Net Income it paid a total of $25,000 of Preferred Stock dividend. Last year the firm paid $0.29 each quarter on the Common Stock outstanding, which is expected to grow next year to $0.30 each quarter. Note: When determining the Dividend Payout Ratio you need to combine the Preferred Stock dividend and the Common Stock dividend.
The current Common Stock price is $18.05 and the beta associated with the stock is -0.8.
The current Preferred Stock price is $21.62.
It has callable bonds outstanding, which were issued in February 2012, with a maturity of 20 years. They can be called in February 2024 with a call premium of 4% of the Par Value. They currently trade at 102.5% of Par Value and have an interest rate of 6%. New bonds will be issued with a maturity of 15 years. The current risk-free rate of return is 3.5%, while the market has historically had a return of 12%.
If the ROA is 11%, is there favorable leverage for the Collins Company with respect to Debt and Preferred Stock? Make sure that you discuss both in your explanation.
Foundations of Finance The Logic and Practice of Financial Management
ISBN: 978-0132994873
8th edition
Authors: Arthur J. Keown, John D. Martin, J. William Petty