DMC Corporation currently has 100,000 shares of common stock outstanding with a market price of $50

per share. It also has $2 million in 7 percent bonds (currently selling at par). The company is considering a

$4 million expansion program that it can finance with either (I) all common stock at $50 per share, or (II) all

bonds at 9 percent. The company estimates that if the expansion program is undertaken, it can attain, in

the near future, $1 million in EBIT.

a.

The company's tax rate is 40 percent. Calculate the EPS for each plan.

b.

Draw the EBIT-EPS graph.

c.

What is the indifference point between the alternatives?

d.

If the expected EBIT for the near future is greater than your answer in (c), what form of financing

would you recommend?