ABC Inc has total market capitalization of 5 million with no debt outstanding. Earnings before interest and taxes, EBIT, are projected to be 1.5 million if economic conditions are normal. If the economy experiences strong expansion then EBIT will be 30 per cent higher than the normal. ABC is considering a change in capital structure with 40% debt issue bearing a 5 percent interest rate. The proceeds will be used to repurchase the equity shares. Current share price of company is 25 and tax rate is 35%.

a. Calculate company's degree of financial leverage in current and proposed capital structure

b. Calculate breakeven EBIT-EPS at proposed level of leverage.

c. Why breakeven EBIT is an important consideration for a levered firm? Explain.