10:31 AM oo Verizon LTE ezto.mheducation.com Connect Jessica Edwards Corporate F

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10:31 AM oo Verizon LTE ezto.mheducation.com Connect Jessica Edwards Corporate Finance--Kenneth Roskelley FINANCE Spring 20 instructions help Chapter 16 MBA Capital Structure Save & Exit submit Question 5 (of 10) 0.00 points You currently own 1300 shares of JKL, Inc. JKL is an all equity that has 300000 shares of stock outstanding at a market price of $45 a share. The company's earnings before interest and taxes are $2,700,000. You believe that the JKL should finance 50 percent of assets with debt, but management refuses to leverage the company. Given that similar firms' pay 7 percent interest on their debt, answer the following questions. Part A: How much money should you borrow to create the leverage on your own? Assume you can borrow funds at percent interest. Part B: How many additional shares of JKL stock must you purchase to create the leverage on your own? 2016 McGraw-Hill Education. All rights reserved

Explanation / Answer

OPTION 1 OPTION 2 Particulars JKL WITH NO DEBT JKL WITH DEBT EBIT OF JKL INC. (1) 2700000 2700000 Interest 0 472500 refer working note 1 Earning before tax but after interest 2700000 2227500 NO. OF SHARES OF JKL (2) 300000 150000 SO EARNING PER SHARE OF JKL (1)/(2) 9 14.85 No. of shares held by us 1300 1300 So Our Earning will be 11700 19305 Increase in our earning after introduction of debt = 19305-11700. 7605 PART 1 Now if we want to increase our earning by borrowing funds @ 7 % then we should borrow A sum equalts to increase in earning required divided by rate of interest on borrowing 7605/7% 108642.8571 PART 2 and if we want to increase earning by purchasing extra shares then earning per share under option 1 Is $9 PER SHARE SO ADDITION SHARE REQUIRE TO PURCHASE IS $7605/9 845 ANSWER : PART 1 $1,08,642.90 PART 2 845 SHARES Working Note 1 Now price per share (3) 45 so total value of JKL INC(2)*(3) 13500000 Now suppose JKL Introduces 50% debt 6750000 total value/2 and interest element on debt @7% 472500

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