Stillwell Corp currently has 500,000 shares that are trading at $15 each. They h

Question

Stillwell Corp currently has 500,000 shares that are trading at $15 each. They have no debt. For the following year, they need to raise an additional $7,500,000. The plan to either issue an additional 500,000 shares at $15 each, or 300,000 shares at $15 each and the remaining $3,000,000 in bonds at 10%. What is the crossover EBIT point where the EPS will be the same for either financing? Assume a marginal tax rate of 35%? What will be the EPS at that EBIT? Following up on question 16, instead of assuming no debt prior to raising this additional $7,500,000, assume that the firm already has existing $2,500,000 million in bonds trading at par and paying interest of 10% i.e.. How does this affect your answer? A numerical answer is required.

Explanation / Answer

Cross over EBIT

EPS under plan 1 = EPS under plan 2

(EBIT -0)*0.65 /1000000 = (EBIT-300000)*0.65/800000

0.65EBIT /1000000 = 0.65 EBIT - 195000/800000

1000000(0.65 EBIT-1950000) = 800000(0.65 EBIT)

650000EBIT-1000000*195000 = 520000EBIT

650000EBIT-520000EBIT = 1000000*195000

EBIT = 1500000

EPS=EBIT/no of shares outstanding=1,500,000/1,000,000=1.5

2) (EBIT-250000)*0.65/1000000 = (EBIT-550000)0.65/800000

1000000(0.65EBIT-357500) = 800000(0.65EBIT-162500)

650000EBIT - 357500*1000000 = 520000EBIT - 800000*162500

EBIT = 1750000

EPS= EBIT/ no of shares outstanding=1,750,000/500000=3.5

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