Assume the debt financing would cost 15 percent, Financial Accounting

Seattle Health Plans currently uses zero debt financing.  Its operating income (EBIT) $1 million, and it pays taxes at a 40 percent rate.  It has $5 million in assests and because it is all equity financed $5 million in equity.  Suppose the firm is considering replacing half of its equity financing with debt financing bearing an interest rate of 8 percent.
a.What impact would the new capital structure have on the firm's net income, total dollar return to investors, and ROE?

b.Redo the analysis, but now assume the debt financing would cost 15 percent?

c.Return to the initial 8 percent interest rate.  Now, assume that EBIT could be as low as $500,000 (with a probability of 20 percent) or as high as $1.5 million (with a probability of 20 percent).  There remains a 60 percent chance that EBIT would be $1 million.  Redo the analysis for each level of EBIT, and find the expected values for the firm's net income, total dollar return to investors, and ROE.  What lessons about capital structure and risk does this illustration provide?

d.Repeat the analysis required for Part a, but now assume the Seattle Health Plans is a not-for-profit corporation and hence pays no taxes.  Compare the results with those obtained in Part a.

Posted Date: 3/14/2013 4:10:12 AM | Location : United States

Related Discussions:- Assume the debt financing would cost 15 percent, Assignment Help, Ask Question on Assume the debt financing would cost 15 percent, Get Answer, Expert's Help, Assume the debt financing would cost 15 percent Discussions

Write discussion on Assume the debt financing would cost 15 percent
Your posts are moderated
Related Questions
Q. Calculation of internal rate of return? The company is accurate in its belief that NPV measures the potential increase in company value of an investment project since theore

Who are the users of accounting information? For accounting information to be useful, accountant should be clear for whom the information is being prepared and for what purpose

Combined income statement The figures to appear in the combined income statement are based on the following diagram: 1) An arrow pointing into a box refers to purchase

First's current stock price is $260. The price may rise to $300 or fall to $170 in one month. The risk-free interest rate is 18% per year. a. Using the replication portfolio app

Two items are omitted from each of the following summaries of balance sheet and income statement data for two corporations for the year 2014, Steven Craig and Georgia Enterprises.

Below are excerpts from Safeway's 2010 Annual Report, including its Consolidated Balance Sheets, a portion of Note E, Lease Obligations, and Note H, Taxes on Income, from the Notes

Real estate depreciated under MACRS rules is subject to cost recovery using a mid-year convention. Mike converted his personal residence (acquired in 2001) to rental property th

Dillings Ltd is a wholesaler and distributor of catering of office equipment. The following list of balances was extracted from its books at 31 March 2004: The following ad

Q. Show danger of high financial gearing? A additional danger of high financial gearing is that a company may move into a loss-making position as a result of high interest paym

Explain in detail about the Sole proprietorship Sole proprietorship, as the name suggests, is where an individual is the sole owner of a business. This type of business is ofte