Kaelea, Inc., has no debt outstanding and a total market value of $100,000. Earn
ID: 2645989 • Letter: K
Question
Kaelea, Inc., has no debt outstanding and a total market value of $100,000. Earnings before interest and taxes, EBIT, are projected to be $8,400 if economic conditions are normal. If there is strong expansion in the economy, then EBIT will be 24 percent higher. If there is a recession, then EBIT will be 31 percent lower. Kaelea is considering a $35,000 debt issue with an interest rate of 6 percent. The proceeds will be used to repurchase shares of stock. There are currently 4,000 shares outstanding. Assume Kaelea has a market-to-book ratio of 1.0.
Calculate return on equity, ROE, under each of the three economic scenarios before any debt is issued, assuming no taxes. (Do not round intermediate calculations. Round your answers to 2 decimal places (e.g., 32.16).)
Calculate the percentage changes in ROE when the economy expands or enters a recession, assuming no taxes. (Do not round intermediate calculations. Negative amounts should be indicated by a minus sign.)
Calculate return on equity, ROE, under each of the three economic scenarios after the recapitalization. (Do not round intermediate calculations. Enter your answer as a percentage rounded to 2 decimal places (e.g., 32.16).)
Calculate the percentage changes in ROE for economic expansion and recession. (Do not round intermediate calculations. Negative amounts should be indicated by a minus sign. Enter your answer as a percentage rounded to 2 decimal places (e.g., 32.16).)
Calculate return on equity, ROE, under each of the three economic scenarios before any debt is issued. Also, calculate the percentage changes in ROE for economic expansion and recession. (Do not round intermediate calculations. Negative amounts should be indicated by a minus sign.Enter your answer as a percentage rounded to 2 decimal places (e.g., 32.16).)
Calculate return on equity, ROE, under each of the three economic scenarios after the recapitalization. Also, calculate the percentage changes in ROE for economic expansion and recession, assuming the firm goes through with the proposed recapitalization. (Do not round intermediate calculations Negative amounts should be indicated by a minus sign. Enter your answer as a percentage rounded to 2 decimal places (e.g., 32.16).)
Kaelea, Inc., has no debt outstanding and a total market value of $100,000. Earnings before interest and taxes, EBIT, are projected to be $8,400 if economic conditions are normal. If there is strong expansion in the economy, then EBIT will be 24 percent higher. If there is a recession, then EBIT will be 31 percent lower. Kaelea is considering a $35,000 debt issue with an interest rate of 6 percent. The proceeds will be used to repurchase shares of stock. There are currently 4,000 shares outstanding. Assume Kaelea has a market-to-book ratio of 1.0.
Explanation / Answer
Requirement 1:
Calculate return on equity, ROE, under each of the three economic scenarios before any debt is issued, assuming no taxes. (Do not round intermediate calculations. Round your answers to 2 decimal places (e.g., 32.16).)
ROE = Net Income/Total Equity
Normal
ROE = Net Income/Total Equity
ROE = 8400/100000
ROE = 8.40%
Recession
ROE = Net Income/Total Equity
ROE = (8400-31%*8400)/100000
ROE = 5.796%
Expansion
ROE = Net Income/Total Equity
ROE = (8400+24%*8400)/100000
ROE = 10.416%
Answer
Calculate the percentage changes in ROE when the economy expands or enters a recession, assuming no taxes. (Do not round intermediate calculations. Negative amounts should be indicated by a minus sign.)
Recession
Changes in ROE = 5.796 - 8.40
Changes in ROE = - 2.604%
Percentage Change in ROE = -2.604/8.40 = -31%
Expansion
Changes in ROE = 10.416 - 8.40
Changes in ROE = 2.016%
Percentage Change in ROE = 2.016/8.40 = 24%
Requirement 2:
Calculate return on equity, ROE, 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).)
Total Equity after recapitalisation = 100000 - 35000 = 65000
ROE = Net Income/Total Equity
Normal
ROE = Net Income/Total Equity
ROE = (8400-35000*6%)/65000
ROE = 9.69%
Recession
ROE = Net Income/Total Equity
ROE = (8400-8400*31%-35000*6%)/65000
ROE = 5.69%
Expansion
ROE = Net Income/Total Equity
ROE = (8400+24%*8400-35000*6%)/65000
ROE =12.79%
Answer
Calculate the percentage changes in ROE when the economy expands or enters a recession, assuming no taxes. (Do not round intermediate calculations. Negative amounts should be indicated by a minus sign.)
Recession
Changes in ROE = 5.69 - 9.69
Changes in ROE = - 4%
Percentage Change in ROE = -4/9.69 = -41.33%
Expansion
Changes in ROE = 12.79- 9.69
Changes in ROE = 3.10%
Percentage Change in ROE = 3.10/9.69 = 32%
(a)Calculate return on equity, ROE, under each of the three economic scenarios before any debt is issued, assuming no taxes. (Do not round intermediate calculations. Round your answers to 2 decimal places (e.g., 32.16).)
Related Questions
Navigate
Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.