Response to the following problem:
Reynolds Construction needs a piece of equipment that costs $200. Reynolds either can lease the equipment or borrow $200 from a local bank and buy the equipment. If the equipment is leased, the lease would not have to be capitalized. Reynolds's balance sheet prior to the acquisition of the equipment is as follows:
|
Current assets
|
$300
|
Debt
|
$400
|
|
Net fixed assets
|
500
|
Equity
|
400
|
|
Total assets
|
$800
|
Total claims
|
$800
|
a. (1) What is Reynolds's current debt ratio?
(2) What would be the company's debt ratio if it purchased the equipment?
(3) What would be the debt ratio if the equipment were leased?
b. Would the company's financial risk be different under the leasing and purchasing alternatives?