Question

Hotel Cortez is an all-equity firm that has 12,700 shares of stock outstanding at a market price of $44 per share. The firm‘s management has decided to
issue $78,000 worth of debt and use the funds to repurchase shares of the outstanding stock. The interest rate on the debt will be 6 percent. What is the
break-even EBIT? Multiple Choice O $33,833 0 $39,648 $35,243 0
0 $29,000
0 $36,652

Answer 1

NO. of shares after repurchase of shares = 12700 shares - ($ 78000 / $ 44) = 10927 shares

interest on debt = $ 78000 * 6% = $ 4680

Breakeven EBIT :
Break even EBIT is the EBIT where EPS plan I = EPS plan II

EBIT / No . Of shares before repurchase = ( EBIT - interest on Debt) / No . Of shares After repurchase of shares

EBIT / 12700 = (EBIT - $ 4680) / 10927

0.8604 EBIT = EBIT - $ 4680

0.1396 EBIT = $ 4680

EBIT = 33524

Breakeven EBIT = 33524

near option $ 33833