Your Company Doesn't Face Any Taxes and Has $750 Million

question 70

Multiple Choice

Your company doesn't face any taxes and has $750 million in assets, currently financed entirely with equity. Equity is worth $25 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:
$$\begin{array} { c c c } \text { State } & \text { Pessimistic } & \text { optimistic } & \\\text { Probability of state } & 0.55 & 0.45 \\\text { Expected EBIT in state } & \$ 20 \text { million } & \$ 70 \text { million } \end{array}$$
The firm is considering switching to a 25 percent debt capital structure, and has determined that they would have to pay a 10 percent yield on perpetual debt in either event. What will be the break-even level of EBIT?

• A) $20 million
• B) $23.75 million
• C) $42.5 million
• D) $75 million

---

Definitions:

Problem-solving

The process of identifying a problem, devising alternatives for dealing with it, and then selecting and implementing one of those alternatives in order to reach a solution.

Goal-setting

The process of identifying specific, measurable, achievable, relevant, and time-bound objectives to guide actions and behaviors.

Organising

The process of arranging resources and tasks to achieve objectives, including structuring teams, assigning tasks, and allocating resources.

Scenario Planning

Identifies alternative future scenarios and makes plans to deal with each. In a fast-changing and unpredictable world, it is often necessary to have multiple scenarios for planning purposes.