RAK, Inc., has no debt outstanding and a total market value of $150,000. Earning

Question

RAK, Inc., has no debt outstanding and a total market value of $150,000. Earnings before interest and taxes, EBIT, are projected to be $36,000 if economic conditions are normal. If there is strong expansion in the economy, then EBIT will be 15 percent higher. If there is a recession, then EBIT will be 25 percent lower. RAK is considering a $95,000 debt issue with an interest rate of 8 percent. The proceeds will be used to repurchase shares of stock. There are currently 6,000 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 and 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. Do not round intermediate calculations. Enter your answers as a percent rounded to 2 decimal places, e.g., 32.16.)

Calculate earnings per share (EPS) under each of the three economic scenarios assuming the company goes through with recapitalization. (Leave no cells blank - be certain to enter "0" wherever required. Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)

Given the recapitalization, calculate the percentage changes in EPS when the economy expands or enters a recession. (Negative amounts should be indicated by a minus sign. Enter your answers as a percent rounded to 2 decimal places, e.g., 32.16.)

RAK, Inc., has no debt outstanding and a total market value of $150,000. Earnings before interest and taxes, EBIT, are projected to be $36,000 if economic conditions are normal. If there is strong expansion in the economy, then EBIT will be 15 percent higher. If there is a recession, then EBIT will be 25 percent lower. RAK is considering a $95,000 debt issue with an interest rate of 8 percent. The proceeds will be used to repurchase shares of stock. There are currently 6,000 shares outstanding. Ignore taxes for this problem.

Explanation / Answer

RAK Inc.            1 Current Situation Normal   Expansion Recession a1 Equity value              150,000      150,000            150,000 No of Equity shares                     6,000           6,000                 6,000 Debt (5% interest rate )                          -                    -                          -   EBIT                   36,000         41,400              27,000 Less Interest Income before Tax Less Tax Net Income for Equity holders                 36,000         41,400              27,000 EPS =                     6.00             6.90                   4.50 a2 Details Normal   Expansion Recession % Change in ROE= 15.00% -25.00%            2 b1 After recapitalization : Revised situation Normal   Expansion Recession Equity value                 55,000         55,000              55,000 No of Equity shares                     2,200           2,200                 2,200 Debt (8% interest rate )                 95,000         95,000              95,000 EBIT                   36,000         41,400              27,000 Less Interest                   7,600           7,600                 7,600 Income before Tax                 28,400         33,800              19,400 Less Tax Net Income for Equity holders                 28,400         33,800              19,400 EPS =                   12.91           15.36                   8.82 b2 Details Normal   Expansion Recession % Change in ROE= 15.98% -74.23%

Related Questions

Navigate

• Browse (All)
• Browse R
• Subjects

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.