3. The effect of financial leverage on ROE

Consider the following case:

Newtown Propane is considering a project that will require $650,000 in assets. The project will be financed with 100% equity. The company faces a tax rate of 35%. What will the ROE for this project if it produces an EBIT of $145,000?

o 15.2%

o 10.2%

o 14.5%

o 16.0%

Determine what the project's ROE will be if its EBIT is -$60,000. When calculating the tax effects, assume that Newtown Propane as a whole will have a large, positive income this year.

o -6.9

o -5.1

o -7.2

o -6.0

Newtown Propane is also considering financing the project with 50% equity and 50% debt. The interest rate on teh company's debt will be 13%. What will be the project's ROE if it produces and EBIT of $145,000?

o 20.6

o 23.7

o 21.6

o 19.6

What will the project's ROE if it produces an EBIT of -$60,000 and it finances 50% of teh project with equity and 50% with debt? When calculating the tax effects, assume that Newtown Propane as a whole will have a large, positive income this year.

o -22.6

o -21.5

o -24.6

o -20.5

D&M warehousing currently is financed with 10% debt and 90% equity. However, its CFO has proposed that the firm issue new long-term debt and repurchase some of the firm's common stock. ITs advisers believe that the long-term debt would require a before-tax yield of 10%, while the firm's basic earning power is 14%. The firm's operating income and total assets will not be affected. The CFO has tld the rest of teh managment team that he beleives this move will increase the firm's stock price. If D&M proceeds with the recapitalization, which of the following items are also likely to increase? Check all that apply

o net income

o basic earning power

o return on assets

o cost of equity

o cost of debt