Question 1

Delcy Incorporated operates out of Guam Island, but is currently experiencing financial shocks due the Covid 19 pandemic plaguing the world. As a strategy to deal with the financial fallouts associated with this pandemic, Delcy is exploring two possible capital structures as follows;

• Capital Structure 1 - 40,000 shares with $540,000 in debt.
• Capital structure 2 30,400 shares with $1,188,000 in debt.

. Delcys current interest rate on debts and other loans are 8%.

1- You are required to compare both plans above to an all equity plan. Delcys all equity plan have 48,000 shares outstanding and Delcys EBIT is currently $240,000. Which plan will have the highest EPS? (5 marks)

2- What are the breakeven levels of EBIT for each plan as per part, as compared to the all equity plan? Discuss your answer. (5 marks)

3- When will EPS be identical for Capital structure 1 and 2? (5 marks)

4- Repeat items 1, 2 and 3 assuming a tax rate of 40%. Are the breakeven levels of EBIT different from before? Explain you answer. (10 marks) Total 25 marks