Question: A firm has no outstanding debt & a total market value of 200,000. Earnings before interest & taxes (EBIT) are projected to be 25,000 if economic situations are normal. If there is a strong expansion, EBIT is expected to increase to 35,000, & if there is a recession the firm's EBIT is expected to refuse to 10,000. The firm is considering a 70,000 debt issue with a 6% interest rate, where the proceeds will be used to repurchase shares of stock. There are currently 4,000 shares outstanding. Ignore all taxes.
[A] Compute earnings per share [EPS] under each of the three economic scenarios before any debt is issued. Also, calculate the percentage changes in earnings per share when the economy enlarges or enters into a recession.
[B] Repeat part [A] suppose that the firm goes through with the recapitalization.