Kaelea, Inc., has no debt outstanding and a total market value of $98,000. Earni
ID: 2751206 • Letter: K
Question
Kaelea, Inc., has no debt outstanding and a total market value of $98,000. Earnings before interest and taxes, EBIT, are projected to be $9,300 if economic conditions are normal. If there is strong expansion in the economy, then EBIT will be 23 percent higher. If there is a recession, then EBIT will be 32 percent lower. Kaelea is considering a $29,800 debt issue with an interest rate of 7 percent. The proceeds will be used to repurchase shares of stock. There are currently 4,900 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).)
Kaelea, Inc., has no debt outstanding and a total market value of $98,000. Earnings before interest and taxes, EBIT, are projected to be $9,300 if economic conditions are normal. If there is strong expansion in the economy, then EBIT will be 23 percent higher. If there is a recession, then EBIT will be 32 percent lower. Kaelea is considering a $29,800 debt issue with an interest rate of 7 percent. The proceeds will be used to repurchase shares of stock. There are currently 4,900 shares outstanding. Ignore taxes for this problem.
Explanation / Answer
Answer:
1. Calculations before debt issue;
a.
b. Percentage change in EPS when;
Recession = (1.8979 - 1.2906) / 1.8979 = 31.998 or 32% decrease
Expanssion = (2.334489 - 1.8979) / 1.8979 = 23% increase
2. Calculation after debt issue / recapitalisation
a. EBT = EBIT - Interest = $ 9,300 - 7% of $ 29,800 = $ 9,300 - $ 2,086 = $ 7,214; and
Revised number of equity shares = 4,900 - $ 29,800 / 20 = 4,900 - 1,490 = 3,410
b. Percentage change in EPS when;
Recession = (2.115542 - 1.4385689) / 2.115542 = 31.998 or 32% decrease
Expanssion = (2.602117 - 2.115542) / 2.115542 = 23% increase
Market Condition Earnings per share Recession ($ 9,300 - 32%) / 4,900 = 1.2906 per share Normal $ 9,300 / 4,900 = $ 1.8979 per share Expansion ($ 9,300 + 23%) / 4,900 = 2.334489 per shareRelated Questions
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