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Red Inc. is developing a plan to finance its asset base. The firm has $3,000,000 in current assets of which 20% are permanent and $10,000,000 in fixed assets. Long term rates are currently 8% while short term rates are at 6%. Red's tax rate is 30%
a) Construct a conservative financing plan with 80% of assets financed by long-term sources. If Volpe's earnings before interest and taxes are $4,500,000, what will their net income be?
b) An alternative and more aggressive plan would be to finance 60% of total assets with long-term financing. Assuming that EBIT was again $4,500,000, what will net income be under this alternative?
c) If the yield curve was steeply upward sloping, which plan would you recommend? Why?
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