Kyle Corporation is comparing two different capital structures, an all-equity pl
ID: 2762887 • Letter: K
Question
Kyle Corporation is comparing two different capital structures, an all-equity plan (Plan I) and a levered plan (Plan II). Under Plan I, Kyle would have 750,000 shares of stock outstanding. Under Plan II, there would be 500,000 shares of stock outstanding and $8.50 million in debt outstanding. The interest rate on the debt is 8 percent, and there are no taxes.
Assume that EBIT is $2.3 million. Compute the EPS for both Plan I and Plan II
Assume that EBIT is $2.8 million. Compute the EPS for both Plan I and Plan II.
What is the break-even EBIT?
Requirement 1:Assume that EBIT is $2.3 million. Compute the EPS for both Plan I and Plan II
Requirement 2:Assume that EBIT is $2.8 million. Compute the EPS for both Plan I and Plan II.
Requirement 3:What is the break-even EBIT?
Explanation / Answer
1
Calculation of EPS for both Plan I and Plan II, if EBIT is $2.3 Million
Plan I
Plan II
EBIT
$2,300,000.00
$ 2,300,000.00
Less: Interest on Debt
$ -
$ (680,000.00)
(8500000*8%)
EBT (A)
$2,300,000.00
$ 1,620,000.00
Shares of stock outstanding (B)
750,000
500,000
EPS = A/B =
$ 3.07
$ 3.24
2
Calculation of EPS for both Plan I and Plan II, if EBIT is $2.8 Million
Plan I
Plan II
EBIT
$2,800,000.00
$ 2,800,000.00
Less: Interest on Debt
$ -
$ (680,000.00)
(8500000*8%)
EBT (A)
$2,800,000.00
$ 2,120,000.00
Shares of stock outstanding (B)
750,000
500,000
EPS = A/B =
$ 3.73
$ 4.24
3
Calculation of Break Even EBIT:
(At Break Even EBIT, the EPS of both Plan Shall be equal)
Lets say Breakeven EBIT is X
Hence,
Plan I
Plan II
EBIT
X
X
Less: Interest on Debt
$ -
$ (680,000.00)
(8500000*8%)
EBT (A)
X
X-680000
Shares of stock outstanding (B)
750,000
500,000
EPS = A/B =
X / 750000
(X-680000) / 500000
Hence ,
X / 750000 = (X-680000) / 500000
X / 1.5 = (X-680000)
X = 1.5 *(X-680000)
X = 1.5 X-1020000
0.5 X= 1020000
X = 2040000
Hence Break Even EBIT = $2,040,000
1
Calculation of EPS for both Plan I and Plan II, if EBIT is $2.3 Million
Plan I
Plan II
EBIT
$2,300,000.00
$ 2,300,000.00
Less: Interest on Debt
$ -
$ (680,000.00)
(8500000*8%)
EBT (A)
$2,300,000.00
$ 1,620,000.00
Shares of stock outstanding (B)
750,000
500,000
EPS = A/B =
$ 3.07
$ 3.24
2
Calculation of EPS for both Plan I and Plan II, if EBIT is $2.8 Million
Plan I
Plan II
EBIT
$2,800,000.00
$ 2,800,000.00
Less: Interest on Debt
$ -
$ (680,000.00)
(8500000*8%)
EBT (A)
$2,800,000.00
$ 2,120,000.00
Shares of stock outstanding (B)
750,000
500,000
EPS = A/B =
$ 3.73
$ 4.24
3
Calculation of Break Even EBIT:
(At Break Even EBIT, the EPS of both Plan Shall be equal)
Lets say Breakeven EBIT is X
Hence,
Plan I
Plan II
EBIT
X
X
Less: Interest on Debt
$ -
$ (680,000.00)
(8500000*8%)
EBT (A)
X
X-680000
Shares of stock outstanding (B)
750,000
500,000
EPS = A/B =
X / 750000
(X-680000) / 500000
Hence ,
X / 750000 = (X-680000) / 500000
X / 1.5 = (X-680000)
X = 1.5 *(X-680000)
X = 1.5 X-1020000
0.5 X= 1020000
X = 2040000
Hence Break Even EBIT = $2,040,000
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