Kaelea, Inc., has no debt outstanding and a total market value of $100,000. Earn

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 tax rate of 35 percent.

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.)

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. (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).)

Requirement 1:

Explanation / Answer

Requirement 1:

a.

b.

Requirement 2:

If kaela goes through recapitalization then interest will increase and shares will decrease,

a.

b.

Normal Recession Expansion EBIT 8400 5796 10416 Less: Interest 0 0 0 EBT 8400 5796 10416 Less: Tax @ 35% 2940 2028.6 3645.6 EAT 5460 3767.4 6770.4 Total shares 4000 4000 4000 EPS 1.365 0.94185 1.6926

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