Assignment: EBIT–EPS and capital structure Data-Check is considering two capital structures.
The key information is shown in the following table. Assume a 40% tax rate.
Use $50,000 and $60,000 for the two EBIT numbers.
Source of capital Structure A Structure B
Long-term debt $100,000 at 16% coupon rate $200,000 at 17% coupon rate
Common stock 4,000 shares 2,000 shares
Question 1: Calculate two EBIT–EPS coordinates for each of the structures by selecting any two EBIT values and finding their associated EPS values.
Question 2: Plot the two capital structures on a set of EBIT–EPS axes.
Question 3: Indicate over what EBIT range, if any, each structure is preferred.
Question 4: Discuss the leverage and risk aspects of each structure.
Question 5: If the firm is fairly certain that its EBIT will exceed $75,000, which structure would you recommend? Why?