To develop an example that can be presented to CDs management as an illustration, consider two small hypothetical firms: Firm U with zero debt financing and Firm L with $10,000 of 12% debt. Both firms have $20,000 in invested capital and a 25% federal-plus-state tax rate, and they have the following EBIT probability distribution for next year:

Probability	EBIT
0.25	$2,000
0.50	3,000
0.25	4,000

1.

Complete the partial income statements and the firms ratios in Table IC 14.1.

2.

Be prepared to discuss each entry in the table and to explain how this example illustrates the effect of financial leverage on expected rate of return and risk.