Pendergast, Inc., has no debt outstanding and a total market value of $130,000.
ID: 2654560 • Letter: P
Question
Pendergast, Inc., has no debt outstanding and a total market value of $130,000. Earnings before interest and taxes, EBIT, are projected to be $9,600 if economic conditions are normal. If there is strong expansion in the economy, then EBIT will be 21 percent higher. If there is a recession, then EBIT will be 34 percent lower. Pendergast is considering a $38,000 debt issue with an interest rate of 6 percent. The proceeds will be used to repurchase shares of stock. There are currently 5,200 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.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).)
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. (Negative amounts should be indicated by a minus sign. Round your answers to 2 decimal places (e.g., 32.16).)
%
Requirement 1:Explanation / Answer
Answer
Requirement 1: (a) & (b)
Figures in $
Economic Conditions
Particulars
Normal
Strong Expansion
Recession
EBIT
21% higher
34% lower
EBIT (no tax no interest)
a
9600
11616
6336
Shares outstanding
b
5200
5200
5200
Earning per share before debt issue
(a/b)
1.85
2.23
1.22
% changes in EPS
20.54
-34.05
2.23/1.85*100-100
1.22/1.85*100-100
Requirement 2: (a) & (b)
Figures in $
Economic Conditions
Particulars
Normal
Strong Expansion
Recession
EBIT
21% higher
34% lower
EBIT (No tax)
a
9600
11616
6336
Interest cost
b
2280
2280
2280
(38000*0.06)
(38000*0.06)
(38000*0.06)
EBT(No tax) (a-b)
c
7320
9336
4056
Shares outstanding
d
5200
5200
5200
Total market value of company
e
130000
130000
130000
Market value per share (e/d)
f
25
25
25
Proceeds tobe used to repurchase shares of stock
g
38000
38000
38000
No of shares of stock tobe repurchased ( g/f)
h
1520
1520
1520
Shares of stock outstanding after repurchase (d-h)
i
3680
3680
3680
Earnings per share after debt issue and repurchase of shares
(c/i)
1.99
2.54
1.10
% changes in EPS
27.64
-44.72
2.54/1.99*100-100
1.10/1.99*100-100
Figures in $
Economic Conditions
Particulars
Normal
Strong Expansion
Recession
EBIT
21% higher
34% lower
EBIT (no tax no interest)
a
9600
11616
6336
Shares outstanding
b
5200
5200
5200
Earning per share before debt issue
(a/b)
1.85
2.23
1.22
% changes in EPS
20.54
-34.05
2.23/1.85*100-100
1.22/1.85*100-100
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