1-Using the information demonstrate the impact of leverage on share price
Asset value = firm value = $300 million Unlevered firm shares outstanding is 50 million
For unlevered firm how much is the stock price?
Create levered firm - Borrow half of firm value to buy back shares.
Once shares are repurchased, how much is debt value? Equity value? Shares outstanding? Share price?
2-Use the information below to demonstrate the impact on EPS, cost of equity and share price.
Start with data and solutions for question 1.
EBIT is $25 million Risk free rate is 5%.
How much are the EPS of unlevered and levered firm?
How much are the cost of equity of unlevered KU and levered firm KL?
Using KU and KL and the EPSs show the increase in EPS offsets the increase in cost of equity leaving the share price of equity unchanged.