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    McGraw Industries' Capital Structure

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    CASE McGraw Industries, an established producer of printing equipment, expects its sales to remain flat for the next 3 to 5 years because of both a weak economic outlook and an expectation of little new printing technology development over that period. On the basis of this scenario, the firm's management has been instructed by its board to institute programs that will allow it to operate more efficiently, earn higher profits, and, most important, maximize share value. In this regard, the firm's chief financial officer (CFO), Ron Lewis, has been charged with evaluating the firm's capital structure. Lewis believes that the current capital structure, which contains 10% debt and 90% equity, may lack adequate financial leverage. To evaluate the firm's capital structure, Lewis has gathered the data summarized in the following table on the current capital structure (10% debt ratio) and two alternative capital structures?A (30% debt ratio) and B (50% debt ratio)?that he would like to consider.

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    We calculate the EPS for the three structures at given level of EBIT = $1,200,000

    Current Alternative A Alternative B
    10% Debt 30% Debt 50% Debt
    100,000 Shares 70,000 Shares 40,000 Shares
    EBIT $1,200,000 ...

    Solution Summary

    The solution explains how to evaluate the capital structure based on EPS

    $2.19

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