Task: EBIT-EPS and preferred stock
Litho-Print is considering two possible capital structures, A and B, shown in the table at the top of the facing page. Assume a 40% tax rate.
Source of capital Structure A Structure B
Long-term debt
$75,000 at 16% coupon rate
$50,000 at 15% coupon rate
Preferred stock
$10,000 with an 18% annual dividend
$15,000 with an 18% annual dividend
Common stock
8,000 shares
10,000 shares
Calculate two EBIT-EPS coordinates for each of the structures by selecting any two EBIT values and finding their associated EPS values.
Graph the two capital structures on the same set of EBIT-EPS axes.
Discuss the leverage and risk associated with each of the structures.
Over what range of EBIT is each structure preferred?
Which structure do you recommend if the firm expects its EBIT to be $35,000? Explain.