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EBIT - EPS analysis

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A firm has 9k shares of equity outstanding and a market price of $100. The company does not have any debt and management is looking at 2 alternative recapitalization plans. The 1st one calls for issueing $200k of debt. The 2nd calls for issuing $400k of debt. The proceeds from the issuance would be used to purchase equity shares at market price. The cost of debt is 8% per year and ht ecompany does not pay any taxes.

1: If EBIT is equal to $100k what would EPS be under each of the two plans? What does it confirm?

2: If EBIT is either $90k or $150k what would be the company's EPS at both levels for the 2 refinancing plans? If both income possibilities are equally likely so that the expected EBIT is $130k what would be the EPS?

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Solution Summary

The solution explains the calculation of EPS given the EBIT and different financing plans

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