Haricot Corp. and Pinto Corp. both have operating profits of $150 million. Haricot is financed solely by equity, while Pinto has issued $200 million of 6% debt. If the corporate tax rate is 30%:

Required:

a. How much tax does each company pay?

b. What is the total payout to investors (debtholders plus shareholders) of each company?

a. Haricot: 45 million

Pinto: 41.4

b. Haricot:

debtholders: 0

shareholders: 105 million

Pinto:

debtholders: 12 millipon

shareholders: 96.6 million

Step-by-step explanation:

We have to:

a.

Tax on Haricot 150 * 30% = 45

that is 45 million

interest on debt of Pinto = 200 * 6% = 12

that is to say 12 million

Profit of Pinto 150 million less the interest that would be 12 million

150 - 12 = 138

we calculate the tax

138 * 30% = 41.4 million

Therefore Tax amount

Haricot = 45 million

Pinto = 41.4 million

B.

return to shareholders of Haricot = 150 - 45 = 105 million

return to shareholders of Pinto = 150 - 12 - 41.4 = 96.6 million

Also:

return to debtholders of Haricot = 0

return to debtholders of Pinto = 12 million