Pendergast, Inc., has no debt outstanding and a total market value of $150,000.

Question

Pendergast, Inc., has no debt outstanding and a total market value of $150,000. Earnings before interest and taxes, EBIT, are projected to be $26,000 if economic conditions are normal. If there is strong expansion in the economy, then EBIT will be 12 percent higher. If there is a recession, then EBIT will be 20 percent lower. Pendergast is considering a $90,000 debt issue with an interest rate of 6 percent. The proceeds will be used to repurchase shares of stock. There are currently 10,000 shares outstanding. Pendergast has a tax rate of 35 percent.

Calculate earnings per share (EPS) under each of the three economic scenarios before any debt is issued. (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.)

Assume that the company goes through with recapitalization. Calculate earnings per share (EPS) under each of the three economic scenarios assuming the company goes through with recapitalization. (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. Round your answers to 2 decimal places. (e.g., 32.16))

Calculate earnings per share (EPS) under each of the three economic scenarios before any debt is issued. (Round your answers to 2 decimal places. (e.g., 32.16))

Explanation / Answer

Debt 0 MV/Share Equity 150000 10000 15 MV 150000 EBIT 26000 1 EBIT Tax @ 35% EAT No of shares EPS (EBIT/No of Shares) Strong Expansion 29120 10192 18928 10000 1.8928 Strong Recession 20800 7280 13520 10000 1.352 Normal 26000 9100 16900 10000 1.69 2 % change in EPS Recession -20% (1.352-1.69)/1.69% Expansion 12% (1.8928-1.69)/1.69% 3 IF Recapitalisation Done No of Shares Debt 90000 6000 Shares Bought Back are 6000 Equity 60000 4000 Shares Remaining after recapitalisation MV 150000 10000 Debt Interest 6% Tax EAT No of Shares EPS EBIT- Normal- 26000 Less Int on Debt- 90000*6% 20600 7210 13390 4000 3.3475 EBIT- Recesion- 20600 Less 20% 16480 5768 10712 4000 2.678 EBIT- Expansion- 20600 Plus 12% 23072 8075.2 14996.8 4000 3.7492 4 % change in EPS Recession -20 2.678-3.3475/3.3475 Expansion 12% 3.7492-3.3475/3.3475

Related Questions

Navigate

• Browse (All)
• Browse P
• Subjects

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.