Your Company Doesn't Face Any Taxes and Has $5 Million

question 81

Multiple Choice

Your company doesn't face any taxes and has $5 million in assets, currently financed entirely with equity. Equity is worth $5 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:
$$\begin{array} { c c c c } \text { State } & \text { pessmistic } & \text { optimistic } \\\text { Probability of state } & 0.45 & 0.55 \\\text { Expected EBIT in state } & \$ 2 \text { million } & \$ 8 \text { million } \end{array}$$
The firm is considering switching to a 30 percent debt capital structure, and has determined that they would have to pay an 11 percent yield on perpetual debt in either event. What will be the level of expected EPS if they switch to the proposed capital structure?

• A) $9.67
• B) $7.33
• C) $6.91
• D) $4.84

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Definitions:

Independent Variable

In experimental and statistical research, the variable that is manipulated or changed to observe its effect on a dependent variable.

Exam Scores

Numerical outcomes or grades resulting from a student’s performance on an academic test or examination.

Room Lighting

The arrangement and type of lighting sources in a space, affecting visibility, mood, and aesthetic appeal.

Dependent Variable

The variable in an experiment that is expected to change in response to manipulations of the independent variable.