Marcy Corporation's current ratio is currently 1.75. The firm's current ratio cannot fall below 1.5 without violating agreements with its bondholders. If current liabilities are presently $250 million, the maximum new short-term debt that can be issued to finance an equivalent amount of inventory expansion is:

Question

Quizplus · Accepted Answer

To find out the maximum new short-term debt that can be issued for inventory expansion, we need to use the formula for the current ratio:

Current Ratio = Current Assets / Current Liabilities

We know that the current ratio cannot fall below 1.5, and Marcy Corporation's current ratio is 1.75, so we can set up the following equation and solve for current assets:

1.5 = Current Assets / 250 million

Current Assets = 375 million

Now, we need to find out how much new short-term debt can be issued without reducing the current ratio below 1.5. If we assume that the new short-term debt will be used solely for inventory expansion, then the new current assets will be:

Current Assets + Inventory Expansion = 375 million + X

And we need to ensure that the new current ratio remains above 1.5, so we set up the following equation and solve for X:

1.5 = (375 million + X) / 250 million

X = 125 million

Therefore, the maximum new short-term debt that can be issued for inventory expansion is $125 million, and the answer is (C).

Marcy Corporation's Current Ratio Is Currently 1