The Lopez-Portilla Company has $10 million in assets, 80 percent financed by debt and 20 percent financed by common stock. The interest rate on the debt is 15 percent, and the stock book value is $10 per share. President Lopez-Portilla is considering two financing plans for an expansion to $15 million in assets. Under Plan A, the debt-to-total-assets ratio will be maintained, but new debt will cost 18 percent! New stock will be sold at $10 per share. Under Plan B, only new common stock at $10 per share will be issued. The tax rate is 40 percent.

a. If EBIT is 15 percent on total assets, compute earnings per share (EPS) before the expansion and under the two alternatives.

b. What is the DFL under each of the three plans?

c. Calculate the EBIT /EPS indifference point.

d. If shares could be sold at $20 each due to increased expectations for the firm's sales and earnings, what impact would this have on EPS for the two expansion alternatives? Compute EPS for each.

e. Calculate the EBIT /EPS indifference point at the new share price.

f. Explain why corporate financial officers are concerned about their share values!