Consider the following case of Happy Turtle Transportation Company:

Suppose Happy Turtle Transportation Company is considering a project that will require $350,000 in assets.

	The company is small, so it is exempt from the interest deduction limitation under the new tax law.
	The project is expected to produce earnings before interest and taxes (EBIT) of $55,000.
	Common equity outstanding will be 15,000 shares.
	The company incurs a tax rate of 25%.

If the project is financed using 100% equity capital, then Happy Turtle Transportation Companys return on equity (ROE) on the project will be . In addition, Happy Turtles earnings per share (EPS) will be .

Alternatively, Happy Turtle Transportation Companys CFO is also considering financing the project with 50% debt and 50% equity capital. The interest rate on the companys debt will be 13%. Because the company will finance only 50% of the project with equity, it will have only 7,500 shares outstanding. Happy Turtle Transportation Companys ROE and the companys EPS will be if management decides to finance the project with 50% debt and 50% equity.

When a firm uses debt financing, the business risk exposure for the firms common shareholders will .

2. Business and financial risk The impact of financial leverage on return on equity and earnings per st Consider the following case of Happy Turtle Transportation Company: Suppose Happy Turtle Transportation Company is considering a project that - The company is small, so it is exempt from the interest deduction limita - The project is expected to produce earnings before interest and taxes - Common equity outstanding will be 15,000 shares. - The company incurs a tax rate of 25%. If the project is financed using 100% equity capital, then Happy Turtle Transporta In addition, Happy Turtle's earnings per share (EPS) will be 1, Happy Turtle Transportation Company's CFO is also considering finan company's debt will be 13%. Because the company will finance only 50 . Happy Turtle Transportation Company's ROE and the company's EPS nance the project with 50% debt and 50% equity. uses debt financing, the business risk exposure for the firm's common capital, then Happy Turtle Trans Company's return on equity (ROE) on the p e's earnings per share (EPS) will be Company's CFO is also considering financing the project with 50% debt and 50% equity Because the company will finance only 50% of the project with equity, it will have only 7 Company's ROE and the company's EPS will be debt and 50% equity. iness risk exposure for the firm's common shareholders will that will require $350,000 in assets. n limitation under the new tax law. taxes (EBIT) of $55,000. 11.75% and $2.75, respectively the project will be equity capital. The interest only 7,500 shares if management s common shareholders will Continue without saving ect that will require $350,000 in assets. on limitation under the new tax law. taxes (EBIT) of $55,000. ransportation Company's return on equity (ROE) on the project will be be ering financing the project with 50% debt and 50% equity capital. The int ce only 50% of the project with equitv. it will have only 7,500 shares any's EPS will be if management 's common shareholders will