In: Finance
The Neal company wants to estimate next year's (ROE) under
different financial leverage ratios. Neal's total capital is
$14million, it currently uses only common equity, it has no future
plans to use preferred stock in its capital structure and its
federal-plus-state tax rate is 40%. The CFO has estimated next
years EBIT for three possible states of the world: $4.2 million
with a 0.2 probability, $2.8 million with a 0.5 probability, and
$700,000 with a 0.3 probability . Calculate Neal's expected ROE,
standard deviation, and coefficient of variation for each of the
following debt-to-capital ratios; then evaluate the results:
Debt/capital ratio- interest rate
0%- ----------
10- 9%
50- 11
60- 14