Your Company Has a 21% Tax Rate and Has $800

question 10

Multiple Choice

Your company has a 21% tax rate and has $800 million in assets, currently financed entirely with equity. Equity is worth $60 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:
$$\begin{array} { c c c c } \text { State } & \text { Recession } & \text { Average } & \text { Boom } \\\text { Probability of state } & 0.15 & 0.60 & 0.25 \\\text { Expected EBIT in state } & \$ 20 \text { million } & \$ 50 \text { million } & \$ 100 \text { million }\end{array}$$
The firm is considering switching to a 20 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 standard deviation in EPS if they switch to the proposed capital structure?

• A) 1.95
• B) 2.35
• C) 3.32
• D) 11.04

---

Definitions:

Continuity

The unbroken and consistent existence or operation of something over a period of time.

Peer Influence

The impact that peers, or individuals of similar age or status, have on each other's attitudes, values, and behaviors.

Decreases

A reduction in quantity, size, or degree.

Housework

Tasks and chores related to the maintenance and management of a home, such as cleaning, cooking, and laundry.