Question

A firm is considering two different capital structures. The first option is an all-equity firm with 41,500 shares of stock. The levered option is 28,600 shares of stock plus some debt. Ignoring taxes, the break-even EBIT between these two options is $55,600. How much money is the firm considering borrowing if the interest rate is 7.8 percent?

Answer 1

The amount is computed as shown below:

Break even EBIT / Number of shares with first option = [ Break even EBIT - (Debt Amount x interest rate) ] / Number of shares in levered option

$ 55,600 / 41,500 = [ $ 55,600 - (Debt Amount x 0.078) ] / 28,600

$ 38,317.10843 = [ $ 55,600 - (Debt Amount x 0.078) ]

Debt Amount x 0.078 = $ 55,600 - $ 38,317.10843

Debt Amount = $ 17,282.89157 / 0.078

Debt Amount = $ 221,575.53 Approximately

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