Beckett, Inc., has no debt outstanding and a total market value of $240,000. Ear

Question

Beckett, Inc., has no debt outstanding and a total market value of $240,000. Earnings before interest and taxes, EBIT, are projected to be $28,000 if economic conditions are normal. If there is strong expansion in the economy, then EBIT will be 10 percent higher. If there is a recession, then EBIT will be 25 percent lower. Beckett is considering a debt issue of $48,000 with an interest rate of 4 percent. The proceeds will be used to repurchase shares of stock. There are currently 20,000 shares outstanding. The company has a tax rate 35 percent. a-1. Calculate earnings per share (EPS) under each of the three economic scenarios before any debt is issued. Normal, Expansion, and recession. B-1.Calculate earnings per share (EPS) under each of the three economic scenarios assuming the company goes through with recapitalization. Normal, expansion, and recession.

Explanation / Answer

A1) Computation of Earnings per share under each scenario if comoany has no debt

b-1)Earnings per share (EPS) under each of the three economic scenarios assuming the company goes through with recapitalization.

Market price of share =$ 240,000/20,000 =$ 12 per share

No of share bought back by using debt finance =$ 48,000/12 =4000 share , therefore, No. of shares outstanding after buyback =20,000-4000 = 16,000 shares

Computation of EPS per share under each Scenario

Scenario Normal expansion recession EBIT $ 28,000 $ 30,800 $ 21,000 Tax@35% $ 9,800 $ 10,780 $ 7,350 Earnigs available $ 18,200 $ 20,020 $ 13,650 No of outstanding shares 20,000 20,000 20,000 EPS $    0.91 $     1.00 $    0.68

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