Kaelea, Inc., has no debt outstanding and a total market value of $106,000. Earn
ID: 2714436 • Letter: K
Question
Kaelea, Inc., has no debt outstanding and a total market value of $106,000. Earnings before interest and taxes, EBIT, are projected to be $9,700 if economic conditions are normal. If there is strong expansion in the economy, then EBIT will be 22 percent higher. If there is a recession, then EBIT will be 33 percent lower. Kaelea is considering a $30,600 debt issue with an interest rate of 7 percent. The proceeds will be used to repurchase shares of stock. There are currently 5,300 shares outstanding. Ignore taxes for this problem.
Calculate earnings per share, EPS, under each of the three economic scenarios before any debt is issued. (Do not round intermediate calculations. Round your answers to 2 decimal places (e.g., 32.16).)
Calculate the percentage changes in EPS when the economy expands or enters a recession. (Do not round intermediate calculations. Negative amounts should be indicated by a minus sign. Round your answers to 2 decimal places (e.g., 32.16).)
Calculate earnings per share, EPS, under each of the three economic scenarios after the recapitalization. (Do not round intermediate calculations. Round your answers to 2 decimal places (e.g., 32.16).)
Calculate the percentage changes in EPS when the economy expands or enters a recession. (Negative amounts should be indicated by a minus sign. Round your answers to 2 decimal places (e.g., 32.16).)
Kaelea, Inc., has no debt outstanding and a total market value of $106,000. Earnings before interest and taxes, EBIT, are projected to be $9,700 if economic conditions are normal. If there is strong expansion in the economy, then EBIT will be 22 percent higher. If there is a recession, then EBIT will be 33 percent lower. Kaelea is considering a $30,600 debt issue with an interest rate of 7 percent. The proceeds will be used to repurchase shares of stock. There are currently 5,300 shares outstanding. Ignore taxes for this problem.
Explanation / Answer
1.(a) CALCULATION OF EPS UNDER FOLLOWING SCENARIOS:
EPS=EBIT/NO.OF SHARES OUTSTANDING
(b)CALCULATION OF % CHANGE IN EPS
WHEN ECONOMY EXPANDS=($2.23-$1.83)/$1.83=21.86%
WHEN ENTERS RECESSION=($1.83-$1.23)/$1.83=32.79%
2.MARKET VALUE=$1,06,000
NO.OF SHARES==5,300
PRICE PER SHARE=$1,06,000/5300=$20
DEBT ISSUED=$30,600
INTEREST=7%*$30,600=$2,142
NO.OF SHARES REPURCHASED=$30,600/$20=1,530
NO.OF SHARES REMAINING AFTER REPURCHASE=5,300-1,530=3,770
CALCULATION OF EPS UNDER FOLLOWING SCENARIOS:
EBIT($)
(1)
INTEREST($)
(2)
EBT($)
(3)=(2)-(1)
NO.OF SHARES
(4)
EPS($)
(3)/(4)
(b)CALCULATION OF %CHANGE IN EPS
WHEN ECONOMY EXPANDS=($2.57-$2)/$2=28.5%
WHEN ENTERS RECESSION=($2-$1.16)/$2=42%
SCENARIO EBIT($)(1) NO.OF SHARES OUTSTANDING(2) EPS($)(1)/(2) RECESSION 9,700-33%=6,499 5,300 1.23 NORMAL 9,700 5,300 1.83 EXPANSION 9,700+22%=11,834 5,300 2.23Related Questions
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