FIN 620 Session 4 Homework Assignment Answers

# FIN 620 Session 4 Homework Assignment Answers - EPS equal...

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FIN 620 Session 4 Homework Assignment Answers: Session 4: Do problems 16-4, 16-10, and 16-18 16-4. a. Under Plan I, the unlevered company, net income is the same as EBIT with no corporate tax. The EPS under this capitalization will be: EPS = \$750,000/240,000 shares EPS = \$3.13 Under Plan II, the levered company, EBIT will be reduced by the interest payment. The interest payment is the amount of debt times the interest rate, so: NI = \$750,000 – .10(\$3,100,000) NI = \$440,000 And the EPS will be: EPS = \$440,000/160,000 shares EPS = \$2.75 Plan I has the higher EPS when EBIT is \$750,000. b. Under Plan I, the net income is \$1,500,000 and the EPS is: EPS = \$1,500,000/240,000 shares EPS = \$6.25 Under Plan II, the net income is: NI = \$1,500,000 – .10(\$3,100,000) NI = \$1,190,000 And the EPS is: EPS = \$1,190,000/160,000 shares EPS = \$7.44 Plan II has the higher EPS when EBIT is \$1,500,000. c. To find the breakeven EBIT for two different capital structures, we simply set the equations for

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Unformatted text preview: EPS equal to each other and solve for EBIT. The breakeven EBIT is: EBIT/240,000 = [EBIT – .10(\$3,100,000)]/160,000 EBIT = \$930,000 16-10. With no taxes, the value of an unlevered firm is the interest rate divided by the unlevered cost of equity, so: V = EBIT/WACC \$43,000,000 = EBIT/.11 EBIT = .11(\$43,000,000) EBIT = \$4,730,000 16-18. With no debt, we are finding the value of an unlevered firm, so: V = EBIT(1 – t C )/R V = \$15,000(1 – .35)/.17 V = \$57,352.94 With debt, we simply need to use the equation for the value of a levered firm. With 50 percent debt, one-half of the firm value is debt, so the value of the levered firm is: V = V U + t C B V = \$57,352.94 + .35(\$57,352.94/2) V = \$67,389.71 And with 100 percent debt, the value of the firm is: V = V U + t C B V = \$57,352.94 + .35(\$57,352.94) V = \$77,426.47 Sources: http://www.mhhe.com/rwj http://tychousa.umuc.edu...
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FIN 620 Session 4 Homework Assignment Answers - EPS equal...

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