Question: LeverCo is financed entirely by equity The company generates operating
LeverCo is financed entirely by equity. The company generates operating profit equal to $80 million. LeverCo currently trades at an equity value of $900 million. At a tax rate of 25 percent, what is the price-to-earnings multiple for LeverCo? New management decides to increase leverage through a share repurchase. The company issues a $400 million bond to repurchase $400 million in equity. If the bond pays interest at 5 percent and share price remains unchanged, what is the company's new price-to-earnings ratio? How can you predict the direction the P/E ratio will move without performing the calculation?
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