Question

EBIT—EPS and capital structure  Data-Check is considering two capital structures. The key information is shown in the following table. Assume a 21% tax rate.

Source of Capital	Structure A	Structure B
Long Term Debt	$94,000 at 15.3% coupon rate	$188,000 at 16.3% coupon rate
Common Stock	4,300 shares	2,150 shares

a. Calculate two ​EBIT-EPS coordinates for each of the structures by selecting $50,000 & $60,000 EBIT values and finding their associated EPS values.

b. Plot the two capital structures on a set of​ EBIT-EPS axes.

c. Indicate over what EBIT​ range, if​ any, each structure is preferred.

d. Discuss the leverage and risk aspects of each structure.

e. If the firm is fairly certain that its EBIT will exceed $71,000​, which structure would you​ recommend? Why? What if the tax rate was​ higher, say​ 40%?

Answer 1