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

Question

Pendergrast, Inc., has no debt outstanding and a total market value of $240,000. Earnings before interest and taxes, EBIT, are projected to be $32,000 if economic conditions are normal. If there is strong expansion in the economy, then EBIT will be 15 percent higher. If there is a recession, then EBIT will be 30 percent lower. Pendergrast is considering a $80,000 debt issue with an interest rate of 7 percent. The proceeds will be used to repurchase shares of stock. There are currently 15,000 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 and 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. Do not round intermediate calculations. Enter your answers as a percent rounded to 2 decimal places, e.g., 32.16.)

  

  

Calculate earnings per share (EPS) under each of the three economic scenarios assuming the company goes through with recapitalization. (Leave no cells blank - be certain to enter "0" wherever required. Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)

  

  

Given the recapitalization, calculate the percentage changes in EPS when the economy expands or enters a recession. (Negative amounts should be indicated by a minus sign. Enter your answers as a percent rounded to 2 decimal places, e.g., 32.16.)

  

a-1

Calculate earnings per share (EPS) under each of the three economic scenarios before any debt is issued. (Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)

Explanation / Answer

A-1-

1- b-

2- a- Current price per share= $240000/15000= $16.00

Debt issue 7%= $80000

No. of share repurchased= $80000/16= 5000 shares

Remaining share= 15000-5000= 10000 share

b- 2-

Recession Normal Expansion EBIT $22,400.00 $32,000.00 $36,800.00 Less: Interest & Tax $0.00 $0.00 $0.00 Profit Available to Equityholders $22,400.00 $32,000.00 $36,800.00 No. of Share outstanding 15000 15000 15000 EPS (Profit to ESH/No. of Share) $1.49 $2.13 $2.45

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