Question
A. Consider a firm with an EBIT of $861,000. The firm finances its assets with $2,610,000 debt (costing 7.5 percent and is all tax deductible)
A. Consider a firm with an EBIT of $861,000. The firm finances its assets with $2,610,000 debt (costing 7.5 percent and is all tax deductible) and 510,000 shares of stock selling at $5.00 per share. To reduce the firms risk associated with this financial leverage, the firm is considering reducing its debt by $1,000,000 by selling an additional 310,000 shares of stock. The firms tax rate is 21 percent. The change in capital structure will have no effect on the operations of the firm. Thus, EBIT will remain at $861,000.
Calculate the change in the firms EPS from this change in capital structure. (Do not round intermediate calculations and round your final answers to 2 decimal places.)
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B.
You are considering a stock investment in one of two firms (NoEquity, Inc., and NoDebt, Inc.), both of which operate in the same industry and have identical EBITDA of $38.5 million and operating income of $24.5 million. NoEquity, Inc., finances its $70 million in assets with $69 million in debt (on which it pays 10 percent interest annually) and $1 million in equity. NoDebt, Inc., finances its $70 million in assets with no debt and $70 million in equity. Both firms pay a tax rate of 21 percent on their taxable income.
Calculate the net income and return on assetsfunders investmentsfor the two firms. (Enter your dollar answers in millions of dollars. Round "Net income" answers to 3 decimal places and "Return on assets" answers to 2 decimal places.)
NoEquity NoDebt
Net income _____million _________million
Return on assets_______% _________%
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