Question

Select Financial Data
Long-term debt	$375.0 million
Borrowing rate	8%
Interest expense	$30 million
Tax rate	35%
Preferred stock dividends	$8 million
Earnings per share	$0

Based on the preceding information, what is the EBIT that Liverpool Inc. must achieve in order to hit its financial breakeven point?

421.15

387.31

40.19

42.31

46.54

After further analysis, Liverpool Inc. has determined that it will not be issuing preferred dividends as it had previously planned. What sort of additional decision-making flexibility will this offer the managers of Liverpool Inc., while still allowing the company to meet its financial breakeven point?

Liverpool Inc. could borrow an additional $169.4 million at its current borrowing rate to finance expansion.

Liverpool Inc. could borrow an additional $154 million at its current borrowing rate to finance expansion.

Liverpool Inc. could pay off 75% of its long-term debt.

Liverpool Inc. could repurchase 20% of its outstanding common stock.

Answer 1

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Answer:

1)

Given

Long term debt = $ 375 million

Borrowing rate = 8 %

Interest expense = 0.08 x $ 375 million = 30 million

Tax rate = 35 %

EBT x ( 1 - tax rate ) = PAT or Net income ( EBT = earnings before tax)

Preferred stock dividends = $ 8 million

EPS = $ 0

As it is for financial break even point
The Net income - Distributions = $ 0

Here distributions = $ 8 million ( Preferred dividends )
Net income - $ 8 = $ 0
Net income = $ 8 million
EBT x ( 1 - tax rate ) = Net income
Substituting the values we get
EBT x ( 1 - 0.35 ) = $ 8 million
EBT x 0.65 = $ 8 million
EBT = $ 8 m / 0.65 = $ 12.31 million

Interest expense = 30 million
EBIT = EBT + Interest expense = $ 12.31 m + $ 30 m = $ 42.31 million

2)

The preferred dividend is not paid therefore the correct option is that the company could borrow $ 154 million a the current borrowing rate of 8 % to finance its expansion

Interest expense = 8 % x $ 154 million

Interest expense = 0.08 x $ 154 m = 12.32 million which is the EBT