Medallion Cooling Systems, Inc., has total assets of

$ 9 comma 600 comma 000$9,600,000,

EBIT of

$ 2 comma 020 comma 000$2,020,000,

and preferred dividends of

$ 198 comma 000$198,000

and is taxed at a rate of

40 %40%.

In an effort to determine the optimal capital structure, the firm has assembled data on the cost of debt, the number of shares of common stock for various levels of indebtedness, and the overall required return on investment:

Capital structure debt ratio	Cost of debt, r Subscript drd	Number of common stock shares	Required return, r Subscript srs
0 %0%	0 %0%	201 comma 000201,000	12.3 %12.3%
1515	8.18.1	169 comma 000169,000	13.313.3
3030	8.78.7	143 comma 000143,000	13.813.8
4545	11.811.8	112 comma 000112,000	16.216.2
6060	15.115.1	80 comma 00080,000	19.819.8

a. Calculate earnings per share for each level of indebtedness.

b. Use the equation

Upper P 0 equals EPS divided by r Subscript sP0=EPS/rs

and the earnings per share calculated in part

(a)

to calculate a price per share for each level of indebtedness.

c. Choose the optimal capital structure. Justify your choice.

a. Calculate earnings per share for each level of indebtedness.

Calculate the EPS below: (Round to the nearest dollar. Round the EPS to the nearest cent.)

Debt Ratio		0%
EBIT	$	2,020,000
Less: Interest	$
EBT	$
Taxes @40%	$
Net profit	$
Less: Preferred dividends	$
Profits available to
common stockholders	$
# shares outstanding	$	201,000
EPS	$

Calculate the EPS below: (Round to the nearest dollar. Round the EPS to the nearest cent.)

Debt Ratio		15%
EBIT	$	2,020,000
Less: Interest	$
EBT	$
Taxes @40%	$
Net profit	$
Less: Preferred dividends	$
Profits available to
common stockholders	$
# shares outstanding	$	169,000
EPS	$

Calculate the EPS below:(Round to the nearest dollar. Round the EPS to the nearest cent.)

Debt Ratio		30%
EBIT	$	2,020,000
Less: Interest	$
EBT	$
Taxes @40%	$
Net profit	$
Less: Preferred dividends	$
Profits available to
common stockholders	$
# shares outstanding	$	143,000
EPS	$

Calculate the EPS below:(Round to the nearest dollar. Round the EPS to the nearest cent.)

Debt Ratio		45%
EBIT	$	2,020,000
Less: Interest	$
EBT	$
Taxes @40%	$
Net profit	$
Less: Preferred dividends	$
Profits available to
common stockholders	$
# shares outstanding	$	112,000
EPS	$

Calculate the EPS below: (Round to the nearest dollar. Round the EPS to the nearest cent.)

Debt Ratio		60%
EBIT	$	2,020,000
Less: Interest	$
EBT	$
Taxes @40%	$
Net profit	$
Less: Preferred dividends	$
Profits available to
common stockholders	$
# shares outstanding	$	80,000
EPS	$

b. The price per share for the

0 %0%

level of indebtedness is

$nothing.

(Round to the nearest cent.)The price per share for the

15 %15%

level of indebtedness is

$nothing.

(Round to the nearest cent.)The price per share for the

30 %30%

level of indebtedness is

$nothing.

(Round to the nearest cent.)The price per share for the

45 %45%

level of indebtedness is

$nothing.

(Round to the nearest cent.)The price per share for the

60 %60%

level of indebtedness is

$nothing.

(Round to the nearest cent.)

c. Choose the optimal capital structure. Justify your choice. (Select the best answer below.)

A.The optimal capital structure would be

15 %15%

debt and

85 %85%

equity because this is the debt/equity mix that maximizes the price of the common stock.

B.The optimal capital structure would be

45 %45%

debt and

55 %55%

equity because this is the debt/equity mix that maximizes the price of the common stock.

C.The optimal capital structure would be

60 %60%

debt and

40 %40%

equity because this is the debt/equity mix that maximizes the price of the common stock.

D.The optimal capital structure would be

30 %30%

debt and

70 %70%

equity because this is the debt/equity mix that maximizes the price of the common stock.