4 (of 10) 3.00 points GTB. Inc., has a 20 percent tax rate and has $71.680.000 i

Question

4 (of 10) 3.00 points GTB. Inc., has a 20 percent tax rate and has $71.680.000 in assets, currently financed entirely with equity Equity is worth $5 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities as shown below 0.51 $ 5.60 million Probability of state 0.49 $ 19 60 million EBIT in state rcent debt capital structure, and has determined that it would The firm is considering switching to a have to pay a 12 percent yield on perpetual debt in either event What will be the break-even level of EBIT? (Enter your answer in dollars, not in millions,. Do not round intermediate calculations and round your final answer to the nearest whole dollar amount.) EBIT Hintsll ReferencesBook & Resources

Explanation / Answer

GTB Inc

Assets Value = $71,680,000

Price per share = $5

Shares Outstanding in the beginning = Total Asset value /Price per share = $71,680,000/$5 = 14336000

When capital structure changes from all equity to 20% debt, EBIT will reduce by the amount of interest paid out

Interest paid for debt = 12% of Debt Value = 12% of 20% of $71,680,000 = 0.12* 0.2 * $71,680,000 = $1720320

Number of shares outstanding after debt issue = 80% of $71,680,000 / $5 = 11468800

Break even level of EBIT would be that value of EBIT at which the Earnings per share before debt issue and after debt issue are equal

Earnings per Share = Net Income/ Total number of shares outstanding

= EBIT * (1 - tax rate) / Total number of shares outstanding

Equating EPS before and after debt issue, we have

EPS100% Equity = EPS20% Debt

EBIT * (1-20%)/14336000 = (EBIT - $1720320) * (1- 20%)/11468800

EBIT /14336000 = (EBIT - $1720320) /11468800

EBIT * 11468800 = (EBIT - $1720320) * 14336000

$24662507520000 = EBIT *(14336000 - 11468800)

EBIT = $24662507520000/ 2867200 = $8601600

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