Special Engineering Plastics carries no debt on its books. It has $100 million long term financing consisting entirely of equity. The firm wishes to raise another $50 million for expansion through one of the two choices, (a), it can raise all additional funds by selling ordinary shares at $50 per share, and, (b) it can raise additional funds by selling debt at 12% pa interest. The firm has earnings before interest and taxes of $15 million that are expected to rise to $27 million with expansion. The firm’s tax rate is 40% and 2,000,000 ordinary shares are presently outstanding. Find out EPS under each option. The firm has made further calculations. It finds that with equity financing, EPS falls to zero at EBIT = 0 and that for debt financing, EPS falls to zero with EBIT = $6,000,000. Draw an EBIT-EPS chart and interpret it.
Special Engineering Plastics carries no debt on its books. It has $100 million long term financing consisting entirely of equity. The firm wishes to raise another $50 million for expansion through one of the two choices, (a), it can raise all additional funds by selling ordinary shares at $50 per share, and, (b) it can raise additional funds by selling debt at 12% pa interest. The firm has earnings before interest and taxes of $15 million that are expected to rise to $27 million with expansion. The firm’s tax rate is 40% and 2,000,000 ordinary shares are presently outstanding. Find out EPS under each option. The firm has made further calculations. It finds that with equity financing, EPS falls to zero at EBIT = 0 and that for debt financing, EPS falls to zero with EBIT = $6,000,000. Draw an EBIT-EPS chart and interpret it.
Chapter12: The Cost Of Capital
Section: Chapter Questions
Problem 12P
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Special Engineering Plastics carries no debt on its books. It has $100 million long term financing consisting entirely of equity. The firm wishes to raise another $50 million for expansion through one of the two choices, (a), it can raise all additional funds by selling ordinary shares at $50 per share, and, (b) it can raise additional funds by selling debt at 12% pa interest.
- The firm has earnings before interest and taxes of $15 million that are expected to rise to $27 million with expansion. The firm’s tax rate is 40% and 2,000,000 ordinary shares are presently outstanding.
- Find out EPS under each option.
The firm has made further calculations. It finds that with equity financing, EPS falls to zero at EBIT = 0 and that for debt financing, EPS falls to zero with EBIT = $6,000,000. Draw an EBIT-EPS chart and interpret it.
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