Question

Lenow’s Drug Stores and Hall’s Pharmaceuticals are competitors in the discount drug chain store business. The separate capital structures for Lenow and Hall are presented here.

Lenow				Hall
Debt @ 10%	$	260,000		Debt @ 10%	$	520,000
Common stock, $10 par		520,000		Common stock, $10 par		260,000
Total	$	780,000		Total	$	780,000
Common shares		52,000		Common shares		26,000

a. Complete the following table given earnings before interest and taxes of $30,000, $78,000, and $80,000. Assume the tax rate is 30 percent. (Negative amounts should be indicated by parentheses or a minus sign. Round your answers to 2 decimal places.)

						What is the relationship between
EBIT	Total assets	EBIT/TA	%	Lenow EPS	Hall EPS	the EPS of the two firms?
$30,000	$780,000		%
$78,000	$780,000		%
$80,000	$780,000		%

  

b-1. What is the EBIT/TA rate when the firm's have equal EPS?
  

b-2. What is the cost of debt?
  

b-3. State the relationship between earnings per share and the level of EBIT.
  

c. If the cost of debt went up to 12 percent and all other factors remained equal, what would be the break-even level for EBIT?
  

Answer 1