Abe Forrester and three of his friends from college have interested a group fo v
ID: 2650818 • Letter: A
Question
Abe Forrester and three of his friends from college have interested a group fo venture capitalists in backing their business idea. The proposed operation would consist of a series of retail outlets to distribute and service a full line of vacuum cleaners and accessories. These stores would be located in Dallas, Houston, and San Antonia. To finance the new venture two plans have been proposed:
Plan A is an all common equity structure in which $2.1 million dollars would be raised by selling 86,000 shares of common stock.
Plan B would involve issuing $1.3 million dollars in long term bonds with an effective interest rate of 12.4% plus $0.8 million would be raised by selling 43,000 shares of common stock. The debt funds raised under plan B have no fixed maturity date, in that this amount of financial leverage is considered a permanent part of the firms capital structure.
Abe and his partners plan to use a 40% tax rate in their analysis, and they have hired you on a consulting basis to do the following:A.
1. Find the EBIT indifference level associated with the two financing plans. The EBIT indifference level associated with the two financing plans is $__________ (round to the nearest dollar)
B. Prepare a pro forma income statement for the EBIT level solved for in part A. That shows that EPS will be the same regardless whether Plan A or B is chosen.
Plan A Plan B ebit Less: int expense Earnings before Taxes tax @ 40% net income no of common shares epsExplanation / Answer
Answer:1 Calculation of the EBIT indifference level:
Plan A: EBIT/86000
Plan B: (EBIT - 161200)(1-0.40)/43000
Plan A=Plan B
EBIT*43000=(EBIT-161200)(0.60)*86000
43000 EBIT=51600 EBIT-8317920000
-8600 EBIT= -8317920000
EBIT=967200
Answer:B
Particulars Plan A Plan B EBIT 967200 967200 Less: int expense 0 161200 EBT 967200 806000 Less: tax expense 386880 322400 EAT 580320 483600 No of share 86000 43000 EPS 6.75 11.25Related Questions
drjack9650@gmail.com
Navigate
Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.