Archimedes Torque and Gear Company has $7.4 million in long term debt having the following payment schedule:
|
|
AMOUNT |
|
15% serial bonds, $100,000 payable annually in principal |
$2,400,000 |
|
13% first mortgage bonds, $150,000 payable annually in principal |
3,000,000 |
|
18% subordinated debentures, interest only until maturity in 10 years |
2,000,000 |
|
|
$7,400,000 |
Archimedes’ common stock has a book value of $8.3 million and a market value of $6 million. The corporate tax rate, federal plus state, is 50 percent. Archimedes is in a cyclical business; its expected EBIT is $2 million, with a standard deviation of $1.5 million. The average debt to equity ratio of other companies in the industry is 0.47.
a. Determine the interest coverage and the debt service coverage ratios for the company.
b. What are the probabilities that these two ratios will go below 1:1?
c. Does Archimedes have too much debt?