Question

Reliable Gearing currently is all-equity-financed. It has 10,000 shares of equity outstanding, selling at $96 a share. The firm is considering a capital restructuring. The low-debt plan calls for a debt issue of $192,000 with the proceeds used to buy back stock. The high- debt plan would exchange $384,000 of debt for equity. The debt will pay an interest rate of 11%. The firm pays no taxes. a. What will be the debt-to-equity ratio if it borrows $192,000? (Round your answer to 2 decimal places.) Debt-to-equity ratio

Answer 1

Please refer to below spreadsheet for calculation and answer. Cell reference also provided.

B Current equity outstanding Price of share Total Value of Firm(all equity) 10,000 $92.00 $920,000.00 a. If Debt issued New Equity value $192,000.00 $728,000.00 Debt to equity ratio 0.26 10 11 b. 12 13 If Debt issued No. of share repurchased Current outstanding shares 192000 2,087 7,913 14 15 16 17 EBIT Interest(11%) Net Income $105,000.00 $21,120.00 $83,880.00 0 0 PEMO999529 Raha 225 22: EPS $10.60 24 c. If Debt issued $384,000.00 25 EBIT Interest(11%) Net Income $105,000.00 $42,240.00 $62,760.00 EPS $7.93

Cell reference -

A B 10000 3 Current equity outstanding Price of share Total Value of Firm(all equity) 92 =C2*C3 a. If Debt issued New Equity value 192000 =C4-C6 Debt to equity ratio =C6/07 12 b. 13 If Debt issued No. of share repurchased Current outstanding shares 192000 =C12/C3 =C2-C13 14 15 EBIT Interest(11%) Net Income 105000 =C12*0.11 =C16-C17 EPS =C18/C14 24 c. If Debt issued 384000 EBIT Interest(11%) Net Income 105000 =C24*0.11 =C26-C27 EPS =C28/C14

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