Medallion Cooling Systems, has total assets of $10,900,000, EBIT of $1,990,000, and preferred dividends of $205,000 and is taxed at a rate of 40%. In an effort to determine the optimal capital structure, the firm has assembled data on the cost of debt, the number of shares of common stock for various levels of indebtedness, and the overall required return on investment: Capital structure debt ratio Cost of debt, rd Number of common stock shares Required return, rs 0% 0% 198,000 12.1% 15 7.9 171,000 13.2 30 8.9 141,000 13.8 45 12.1 107,000 16.1 60 14.9 76,000 20.1 a. Calculate earnings per share for each level of indebtedness. Debt Ratio 0% EBIT $ 1,990,000 Less: Interest $ EBT $ Taxes @40% $ Net profit $ Less: Preferred dividends $ Profits available to common stockholders $ # shares outstanding $ 198,000 EPS $ b. Use the equation P0=EPS/rs and the earnings per share calculated in part (a) to calculate a price per share for each level of indebtedness. c. Choose the optimal capital structure. Justify your choice.

Medallion Cooling Systems, has total assets of $10,900,000, EBIT of $1,990,000, and preferred dividends of $205,000 and is taxed at a rate of 40%. In an effort to determine the optimal capital structure, the firm has assembled data on the cost of debt, the number of shares of common stock for various levels of indebtedness, and the overall required return on investment: Capital structure debt ratio Cost of debt, rd Number of common stock shares Required return, rs 0% 0% 198,000 12.1% 15 7.9 171,000 13.2 30 8.9 141,000 13.8 45 12.1 107,000 16.1 60 14.9 76,000 20.1 a. Calculate earnings per share for each level of indebtedness. Debt Ratio 0% EBIT $ 1,990,000 Less: Interest $ EBT $ Taxes @40% $ Net profit $ Less: Preferred dividends $ Profits available to common stockholders $ # shares outstanding $ 198,000 EPS $ b. Use the equation P0=EPS/rs and the earnings per share calculated in part (a) to calculate a price per share for each level of indebtedness. c. Choose the optimal capital structure. Justify your choice.

EBK CONTEMPORARY FINANCIAL MANAGEMENT

14th Edition

ISBN:9781337514835

Author:MOYER

Publisher:MOYER

Chapter13: Capital Structure Concepts

Section: Chapter Questions

Problem 5P

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Capital structure debt ratio	Cost of debt, rd	Number of common stock shares	Required return, rs
0%	0%	198,000	12.1%
15	7.9	171,000	13.2
30	8.9	141,000	13.8
45	12.1	107,000	16.1
60	14.9	76,000	20.1

Debt Ratio		0%
EBIT	$	1,990,000
Less: Interest	$
EBT	$
Taxes @40%	$
Net profit	$
Less: Preferred dividends	$
Profits available to
common stockholders	$
# shares outstanding	$	198,000
EPS	$