Question

Degree of financial leverage   Northwestern Savings and Loan has a current capital structure consisting of $ 220 comma 000 of  15 % ​(annual interest) debt and 3 comma 000 shares of common stock. The firm pays taxes at the rate of 25 %. a. Using EBIT values of $ 81 comma 000 and $ 122 comma 000​, determine the associated earnings per share​ (EPS). b. Using $ 81 comma 000 of EBIT as a​ base, calculate the degree of financial leverage​ (DFL). c. Rework parts a and b assuming that the firm has $ 90 comma 000 of 15 % ​(annual interest) debt and 4 comma 000 shares of common stock..

Answer 1

a) Using EBIT values of $81000 and $122000 determine the associated earnings per share (EPS)

EBIT	$81000
Less : Interest	(13500)
Net profit before taxes	$67500
Less : Tax (25%)	(16875)
Net profit after taxes	$50625
EPS (4000 Shares)	12.66

EBIT	$122000
Less : Interest	(33000)
Net profit before taxes	$89000
Less : Tax (25%)	(22250)
Net profit after taxes	$66750
EPS (3000 Shares)	$22.25

b) Using $ 81000of EBIT as a base calculate the degree of financial leverage (DFL)

DFL = $81000 / ($81000 - $3300-0) = 1.69

c) Rework parts a and b assuming taht the firm has $90000 of 15% (annual intrest) debt and 4000 shares of common stock.

EBIT	$81000
Less : Interest	(13500)
Net profit before taxes	$67500
Less : Tax (25%)	(16875)
Net profit after taxes	$50625
EPS (4000 Shares)	$12.66

EBIT	$122000
Less : Interest	(13500)
Net profit before taxes	$108500
Less : Tax (25%)	(27125)
Net profit after taxes	$81375
EPS (4000 Shares)	$20.34

DFL = $81000 / ($81000-13500-0) = 1.2