Sample Engineering Paper on Frank Smith Plumbing case study

Limited leverage refers to the use of borrowed money in increasing the volume of production, and thus the earnings and sales. It is measured using the ratio of the total debt to the total assets. The higher the amount of the debt the higher the financial leverage. Limited leverage is good for businesses for varies reasons. For instance, it enables one to retain the full ownership of the firm. In the case study, Frank is unable to make a decision of whether to take a loan to purchase and equipment or not. Therefore, the financial statement of the company is used in analyzing whether it should take the loan.

Reasons why limited leverage is good for a business

It offers great access to capital

The first benefit of the financial leverage is that is robust access to the capital. If one finances the company with the equity financing, then one has to sell the portion of ownership of the firm (Lee, 2012). Due to this, one should work in conjunction with the other owners of the business while making decisions. Additionally, in case one requires full management of the firm, then using the limited leverage offers one with the option as an alternative to having the shared control.

Eventual repayment

If the debt is used in financing the business operations, then one will have to repay the debt in future. Although this is a short-term financial burden, one will have to pay the debt off (Lee, 2012). On the other hand, if equity financing instead, then one will have to share the future profits with the other shareholders in the firm. Furthermore, the investors are not usually paid unless the shares are bought back. (Fabozzi, 2008) Another advantage of using in financing the operations of the business is that it offers the tax breaks. If one has to pay the interest of the purpose of the firm, the internal revenue service enables one to deduct it on the tax return. The amount of paid interest on the loan decreases the amount of the taxable income of the enterprise. Therefore, due to this, it reduces the efficient cost which is related to the borrowing of funds for business purposes.

It has less formality

As compared to the financing of business using equity, the use of debt is considered more formal. When equity is used in financing the operations of the firm, then share of stocks should be issued and hold the shareholders meeting and offer correspondence to the investors. By comparing the two, dealing with the loan is much easier (Lee, 2012). The only requirement is to make the loan payments on a monthly basis, and the issue is attended. Furthermore, in case one focuses on the activities the business engage best in then leverage is considered the best option.

The project is profitable at the end because one will only pay the amount borrowed on a monthly basis. Furthermore, the period given for one to pay the loan enables the individual to work hard and repay the loan (Fabozzi, 2008). Business limited leverage is less profitable, and this will benefit the company because it is easier to deal with a credit. The project is also beneficial because Frank will have great access to capital. Eventual repayment will also benefit the plumbing business. Therefore, it is evident that limited leverage is good for business. It will also offer the owner with the chance of having share control over the firm.



Why it is unethical to call bank manger and the wife

Stephanie should convince her mother that is it is inappropriate to call the manager and the wife for assistance in getting the approval of a loan. The mother should understand that the banks do operate differently unlike the other businesses. Ethics is an important virtue in the financial service industry. After the 2008 financial crisis that occurred, the banks have turned to be very strict on the issuance of loans to the customers. Honesty and doing things appropriately is an important virtue that Stephanie’s mother should know (Morrissey & Reddy, 2006). Calling the bank manager and the wife may not help if Frank does not have all the required documents.

Analyzing whether the investment in truck is profitable

The investment on the truck is not beneficial according to the provided financial statement.  Frank should not proceed with the investment because it has -29,993 net present values. Furthermore, the rate of return of the company is 9.6%, which is less than the rate that has been projected.  The profitability index of this project is 0.96, and this is less than 1. Additionally, the discounted payback period is more than eight years, and this is the period, which is set for the investment. The total cost of the truck is $200,000 and the present value of the truck is -29,993. These figures indicate that the company requires a lot of capital to invest in the track business although it is making losses. On the contrary, although the company is making losses, after borrowing the funds from the bank, it might be able to expand its business because limited leveraging is flexible.

Is it beneficial for Frank to close his business?

Therefore, according to the information provided, Frank should abandon the business because it will not be beneficial in the end. He should stop the activity involving truck and channel the money into another profitable avenue. The business involving truck will make him continue losing money. Furthermore, he will continue using the cash that was supposed to be invested I another avenue. Having the profitability index of less than one indicate that the present value of the project is less than the initial investment made on the project. Therefore, the profitability index of the company, which is 0.96, is an indication that the company is making losses.

What to do when in a similar situation

In case I was in a similar case as Frank, then the best step to take is to abandon the business. According to the information, it is evident that having limited leverage will not benefit the company. Although limited leverage is important to a company, I will not benefit the plumbing firm of Frank because of the rates of return. The net present value of the company is negative, and the profitability index is less than one. Therefore, the best option is abandoning the business and investing in another profitable business instead of making loses continually.


To sum up, limited leverage enables one to have a powerful access to capital.  Eventual payment and the issue of less formality are other benefits of limited leverage. According to the case study of Smith plumbing, it is evident that the NPV and the profitability ratio indicate that the firm is making losses. Therefore, it is beneficial for Frank to invest in another business instead of making losses ad consuming his cash in purchasing another truck.




Lee, I. (2012). Electronic commerce management for business activities and global enterprises: Competitive advantages. Hershey, PA: Business Science Reference.

Fabozzi, F. J. (2008). Handbook of Finance: Financial Markets and Instruments. Hoboken: John Wiley & Sons.

Morrissey, S. A., & Reddy, P. (2006). Ethics and professional practice for psychologists. South Melbourne, Vic: Thomson Learning Australia.