Problem 5-23 Leverage and sensitivity analysis [LO5-6]

DickinsonCompanyhas $12,060,000 million in assets. Currently half of these assets are financed with long-term debtat 10.3 percent and half with common stock having a par value of $8. Ms. Smith, Vice President of Finance, wishes to analyze two refinancing plans, one with more debt (D) and one with more equity (E). The company earns areturn on assetsbefore interest and taxes of 10.3 percent. The tax rate is 40 percent. Tax loss carryover provisions apply, so negative tax amounts are permissable.

Under Plan D, a $3,015,000 million long-term bond would be sold at aninterest rateof 12.3 percent and 376,875shares of stockwould be purchased in the market at $8 per share and retired.

Under Plan E, 376,875 shares of stock would be sold at $8 per share and the $3,015,000 inproceedswould be used to reduce long-termdebt.

a.How would each of these plans affectearnings per share? Consider the current plan and the two new plans.(Round your answers to 2 decimal places.)

Earnings per share:

Current Plan -

Plan D -

Plan E -

b-1.Compute the earnings per share if return onassetsfell to 5.15 percent.(Negative amounts should be indicated by a minus sign. Round your answers to 2 decimal places.)

Earnings per share:

Current Plan -

Plan D -

Plan E -

b-2.Which plan would be most favorable if return on assets fell to 5.15 percent? Consider the current plan and the two new plans.

• Plan E
• Current Plan
• Plan D

b-3.Compute the earnings per share if return on assets increased to 15.3 percent.(Round your answers to 2 decimal places.)

Earnings per share:

Current Plan -

Plan D -

Plan E -

b-4.Which plan would be most favorable if return on assets increased to 15.3 percent? Consider the current plan and the two new plans.

• Current Plan
• Plan E
• Plan D

c-1.If themarket pricefor common stock rose to $12 before the restructuring, compute the earnings per share. Continue to assume that $3,015,000 million in debt will be used to retire stock in Plan D and $3,015,000 million ofnew equitywill be sold to retire debt in Plan E. Also assume that return on assets is 10.3 percent.(Round your answers to 2 decimal places.)

Earnings per share:

Current Plan -

Plan D -

Plan E -

c-2.If the market price for common stock rose to $12 before the restructuring, which plan would then be most attractive?

• Plan D
• Current Plan
• Plan E