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Three companies have the capital structures shown below. Company A B C Ordinary shares 700 450 150 12% debentures 0 300 450 Total 700 750

Three companies have the capital structures shown below.

Company

A

B

C

Ordinary shares

£700

£450

£150

12% debentures

£0

£300

£450

Total

£700

£750

£600

The return on capital employed was 21% for each firm in 2067, and in 2068 was 13%. Corporation tax in both years was assumed to be 10%, and debenture interest is an allowable expense against corporation tax.

Required:

(a) Calculate the percentage return on the shareholders’ capital for each company for 2067 and 2068. Assume that all profits are distributed. (b) Use your answer to explain the merits and dangers of high gearing.

n both years was assumed to be 15%, and debenture interest is an allowable expense against corporation tax.

Required:

(a) Calculate the percentage return on the shareholders’ capital for each company for 2091 and 2092. Assume that all profits are distributed. (b) Use your answer to explain the merits and dangers of high gearing.

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