Sun Minerals, Inc., is considering issuing additional long-term debt to finance an expansion. Currently, the company has $50 million in 10 percent debt outstanding. Its after-tax net income is $12million, and the company is in the 40 percent tax bracket. The company is required by the debt holders to maintain its times interest earned ratio at 3.5 or greater.
a. What is the present coverage (times interest earned) ratio?
b. How much additional 10 percent debt can the company issue now and maintain its times interest earned ratio at 3.5? (Assume for this calculation that earnings before interest and taxes remain at their present level.)
c. If the interest rate on additional debt is 12 percent, how much unused “debt capacity” does the company have?
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