Haskell Corp. is comparing two different capital structures. Plan I would result
ID: 2480639 • Letter: H
Question
Haskell Corp. is comparing two different capital structures. Plan I would result in 16,000 shares of stock and $100,000 in debt. Plan II would result in 12,000 shares of stock and $200,000 in debt. The interest rate on the debt is 6 percent.
Ignoring taxes, compare both of these plans to an all-equity plan assuming that EBIT will be $80,000. The all-equity plan would result in 20,000 shares of stock outstanding. What is the EPS for each of these plans? (Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)
In part (a), what are the break-even levels of EBIT for each plan as compared to that for an all-equity plan? (Do not round intermediate calculations.)
Ignoring taxes, at what level of EBIT will EPS be identical for Plans I and II? (Do not round intermediate calculations.)
Assuming that the corporate tax rate is 40 percent, what is the EPS of the firm? (Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)
Assuming that the corporate tax rate is 40 percent, what are the break-even levels of EBIT for each plan as compared to that for an all-equity plan? (Do not round intermediate calculations.)
Assuming that the corporate tax rate is 40 percent, when will EPS be identical for Plans I and II? (Do not round intermediate calculations.)
Haskell Corp. is comparing two different capital structures. Plan I would result in 16,000 shares of stock and $100,000 in debt. Plan II would result in 12,000 shares of stock and $200,000 in debt. The interest rate on the debt is 6 percent.
Explanation / Answer
In absence of tax, EPS = Earning Before Tax (EBT) / Number of equity shares outstanding
b) Break even point is that EBIT level for which the EPS will be same.
Plan I and all-equity
let the EBIT be "x" at which the EPS under two plans are equal.
EPS under plan 1, is given by
EPS (1) = (x - Interest on debt) / Number of shares outstanding = (x - 6000) / 16000
EPS (all equity) = x / Number of outstanding shares = x / 20000
At break even,
EPS(1) = EPS (all equity)
=> (x - 6000) / 16000 = x / 20000
=> 20(x - 6000) = 16x
=> 20x - 16x = 120000
=> 4x = 120000
=> x = 120000 / 4 = $30000
Check:
EPS (plan1) = (30000 - 6000) / 16000 = $1.50
EPS (all equity) = 30000 / 20000 = $1.50
Plan II and all equity
let the EBIT be "x" at which the EPS under two plans are equal.
EPS under plan 2, is given by
EPS (2) = (x - Interest on debt) / Number of shares outstanding = (x - 12000) / 12000
EPS (all equity) = x / Number of outstanding shares = x / 20000
At break even,
EPS(2) = EPS (all equity)
=> (x - 12000) / 12000 = x / 20000
=> 20(x - 12000) = 12x
=> 20x - 12x = 240000
=> 8x = 240000
=> x = 240000 / 8 = $30000
Check:
EPS (plan1) = (30000 - 12000) / 12000 = $1.50
EPS (all equity) = 30000 / 20000 = $1.50
c)
Plan (i) and Plan (II)
(x - 6000) / 16000 = (x - 12000) / 12000
=> 12(x - 6000) = 16 (x - 12000)
=> 12x - 72000 = 16x - 192000
=> 16x - 12x = 192000 - 120000
=> 4x = 120000
=> x = 120000 / 4 = $30000
Check:
EPS (I) = (30000 - 6000) / 16000 = $1.50
EPS(II) = (30000 - 12000)/12000 = $1.50
d)
d2)
Plan I and all-equity
let the EBIT be "x" at which the EPS under two plans are equal.
EPS under plan 1, is given by
EPS (1) = (x - Interest on debt)(1 - 40%) / Number of shares outstanding = (x - 6000)x0.60 / 16000
EPS (all equity) = x (1- 0.40)/ Number of outstanding shares = 0.60 x / 20000
At break even,
EPS(1) = EPS (all equity)
=> 0.60(x - 6000) / 16000 = 0.60x / 20000
=> 20(x - 6000) = 16x
=> 20x - 16x = 120000
=> 4x = 120000
=> x = 120000 / 4 = $30000
Check:
EPS (plan1) = (30000 - 6000)x0.60 / 16000 = $0.90
EPS (all equity) = 30000*0.60 / 20000 = $0.90
Plan II and all equity
let the EBIT be "x" at which the EPS under two plans are equal.
EPS under plan 2, is given by
EPS (2) = (x - Interest on debt) (1 - tax rate) / Number of shares outstanding = (x - 12000) * 0.60 / 12000
EPS (all equity) = x (1-tax rate) / Number of outstanding shares = x * 0.60 / 20000
At break even,
EPS(2) = EPS (all equity)
=>0.60* (x - 12000) / 12000 = 0.60x / 20000
=> 20(x - 12000) = 12x
=> 20x - 12x = 240000
=> 8x = 240000
=> x = 240000 / 8 = $30000
Check:
EPS (plan1) = (30000 - 12000)*0.60 / 12000 = $0.90
EPS (all equity) = 30000*0.60 / 20000 = $0.90
c)
Plan (i) and Plan (II)
(x - 6000)*0.60 / 16000 = (x - 12000) *0.60 / 12000
=> 12(x - 6000) = 16 (x - 12000)
=> 12x - 72000 = 16x - 192000
=> 16x - 12x = 192000 - 120000
=> 4x = 120000
=> x = 120000 / 4 = $30000
Check:
EPS (I) = (30000 - 6000) *0.60 / 16000 = $0.90
EPS(II) = (30000 - 12000) * 0.90 /12000 = $0.90
Particulars Plan 1 Plan 2 Plan 3 (a) Number of equity shares 16000 12000 20000 Debt ($) 100000 200000 0 EBIT (4) 80000 80000 80000 Less: Interest @6% on debt ($) -6000 -12000 0 (b) EBT ($) 74000 68000 80000 EPS - b/a ($) 4.63 5.67 4.00Related Questions
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