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Date Submitted: 10/01/2014 06:49 AM
Bed, Bath & Beyond: The Capital Structure Decision
Advanced Corporate Finance
September 15th, 2014
Short introduction:
BBBY was founded in 1971 by Warren Eisenberg and Leonard Feinstein. At first they opened two specialty stores. In 1985 the company opened the first superstore. With some good strategies BBBY differed from its competitors. The main factors were: Good customer experience leading to high store productivity, decentralized store control, high margins and low cost structure.
Question 1
D= Debt Interest rate=4.50%
E= Shareholders equity Corporate tax rate=38.50%
Excess cash($)= 400,000(₁) Perpetual debt policy
Scenario 1 (35%) :
(D+E) ($)=1,990,820(₂)-400,000=1,590,820
D/1,590,820=0.35
D($)=556,787
E($)=1,034,033
Rate for interest income is 10,202(₂)/866,595(₂)≈1,1773%
Interest income($)=866,595-400,00=466,595- 466,595×1,1773%=5,493
Interest expense($)=4.5%×556,787=25,055
Operating profit($) | 639,343 |
Interest income($) | +5,493 |
EBIT($) | = 644,836 |
Interest expense($) | +(25,055) |
Profit before taxes($) | =619,781 |
(PV) tax shield($)=619,781×38.50%=238,616
Scenario 2 (85%) :
(D+E) ($)=1,990,820-400,000=1,590,820
D/1,590,820=0.85
D($)=1,352,197
E($)=238,623
Rate for interest income is 10,202/866,595≈1,1773%
Interest income($)=866,595-400,00=466,595- 466,595×1,1773%=5,493
Interest expense($)=4.5%×1,352,197=60,849
Operating profit($) | 639,343 |
Interest income($) | +5,493 |
EBIT($) | =644,836 |
Interest expense($) | +(60,849) |
Profit before taxes($) | =583,987 |
(PV) tax shield($)=583,987×38.50%=224,835
(₁) $ are in thousands
(₂)See Exhibit 8 for the values
Question 2
Scenario 1 (35%)
In the previous question we found that the profit before taxes was $619,781.
The taxes are 38,5%, so 0,385*619,781= 238,616
Profit before taxes | 619,781 |
Taxes |...