Question

Hale Corporation is comparing two different capital structures, an all-equity plan (Plan I) and a levered plan (Plan II). Under Plan I, the company would have 195,000 shares of stock outstanding. Under Plan II, there would be 145,000 shares of stock outstanding and $2.1 million in debt outstanding. The interest rate on the debt is 8 percent and there are no taxes.

a. If EBIT is $550,000, what is the EPS for each plan? (Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)

		EPS
Plan I	$
Plan II	$

b. If EBIT is $800,000, what is the EPS for each plan? (Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)

  

		EPS
Plan I	$
Plan II	$

c. What is the break-even EBIT? (Do not round intermediate calculations. Enter your answer in dollars, not millions of dollars, e.g., 1,234,567.)

Break-even EBIT

Answer 1

a)

	Plan I	PlanII
EBIT	550000	550000
less: Interest	0	(168000)    [2100000*.08]
EBT	550000	382000
less:Tax	0	0
Earning after tax [A]	550000	382000
number of shares outstanding [B]	195000	145000
EPS [A/B]	2.82	2.63

B)

	Plan I	Plan II
EBIT	800000	800000
less: Interest	0	(168000)    [2100000*.08]
EBT	800000	632000
less:Tax	0	0
Earning after tax [A]	800000	632000
number of shares outstanding [B]	195000	145000
EPS [A/B]	4.10	4.36

C)At breakeven ,EPS under both Plans are equal

Plan I = EBIT /number of shares outstanding

             =EBIT /195000

Plan II =[EBIT -168000]/145000

EBIT/195000 = [EBIT -168000]/145000

145000[EBIT /195000] =EBIT -168000

     .74359 EBIT = EBIT -168000

     EBIT - .74359 EBIT = 168000

       .25641 EBIT = 168000

            EBIT = 168000/.25641

                      = 655200.66    [rounded to 655201]