(EBIT-EPS analysis) A group of college professors has decided to form a small manu- facturing corporation....
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(EBIT-EPS analysis) A group of college professors has decided to form a small manu- facturing corporation. The company will produce a full line of contemporary furniture. Two financing plans have been proposed by the investors. Plan A is an all-common-equity alternative. Under this arrangement, 1,400,000 common shares will be sold to net the firm $10 per share. Plan B involves the use of financial leverage. A debt issue with a 20-year maturity period will be privately placed. The debt issue will carry an interest rate of 8 percent and the principal bor- rowed will amount to $4 million. Under this plan, another $10 million would be raised by selling 1 million shares of common stock. The corporate tax rate is 50 percent. a. Find the EBIT indifference level associated with the two financing proposals. b. Prepare an analytical income statement that proves EPS will be the same regardless of the plan chosen at the EBIT level found in part (a). c. Prepare an EBIT-EPS analysis chart for this situation. d. If a detailed financial analysis projects that long-term EBIT will always be close to $1,800,000 annually, which plan will provide for the higher EPS? (EBIT-EPS analysis) A group of college professors has decided to form a small manu- facturing corporation. The company will produce a full line of contemporary furniture. Two financing plans have been proposed by the investors. Plan A is an all-common-equity alternative. Under this arrangement, 1,400,000 common shares will be sold to net the firm $10 per share. Plan B involves the use of financial leverage. A debt issue with a 20-year maturity period will be privately placed. The debt issue will carry an interest rate of 8 percent and the principal bor- rowed will amount to $4 million. Under this plan, another $10 million would be raised by selling 1 million shares of common stock. The corporate tax rate is 50 percent. a. Find the EBIT indifference level associated with the two financing proposals. b. Prepare an analytical income statement that proves EPS will be the same regardless of the plan chosen at the EBIT level found in part (a). c. Prepare an EBIT-EPS analysis chart for this situation. d. If a detailed financial analysis projects that long-term EBIT will always be close to $1,800,000 annually, which plan will provide for the higher EPS?
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a EBIT Indifference Level Plan A All Equity EBIT Taxable Income Net Income Plan B Debt and Equity EB... View the full answer
Related Book For
Foundations of Finance The Logic and Practice of Financial Management
ISBN: 978-0132994873
8th edition
Authors: Arthur J. Keown, John D. Martin, J. William Petty
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