RAK, Inc., has no debt outstanding and a total market value of $240,000. Earnings before interest and taxes, EBIT, are projected to be $26,000 if economic conditions are normal. If there is strong expansion in the economy, then EBIT will be 18 percent higher. If there is a recession, then EBIT will be 20 percent lower. RAK is considering a $150,000 debt issue with an interest rate of 8 percent. The proceeds will be used to repurchase shares of stock. There are currently 15,000 shares outstanding. Ignore taxes for questions a and b. Assume the company has a market-to-book ratio of 1.0. |
a-1 |
Calculate return on equity (ROE) under each of the three economic scenarios before any debt is issued. (Do not round intermediate calculations. Enter your answers as a percent rounded to 2 decimal places, e.g., 32.16.) |
ROE | ||
Recession | % | |
Normal | % | |
Expansion | % | |
a-2 |
Calculate the percentage changes in ROE when the economy expands or enters a recession. (Negative amounts should be indicated by a minus sign. Do not round intermediate calculations. Enter your answers as a percent rounded to 2 decimal places, e.g., 32.16.) |
% change in ROE | ||
Recession | % | |
Expansion | % | |
Assume the firm goes through with the proposed recapitalization. |
b-1 |
Calculate the return on equity (ROE) under each of the three economic scenarios. (Do not round intermediate calculations. Enter your answers as a percent rounded to 2 decimal places, e.g., 32.16.) |
ROE | ||
Recession | % | |
Normal | % | |
Expansion | % | |
b-2 |
Calculate the percentage changes in ROE when the economy expands or enters a recession. (Negative amounts should be indicated by a minus sign. Do not round intermediate calculations. Enter your answers as a percent rounded to 2 decimal places, e.g., 32.16.) |
% change in ROE | ||
Recession | % | |
Expansion | % | |
Assume the firm has a tax rate of 35 percent. |
c-1 |
Calculate return on equity (ROE) under each of the three economic scenarios before any debt is issued. (Do not round intermediate calculations. Enter your answers as a percent rounded to 2 decimal places, e.g., 32.16.) |
ROE | ||
Recession | % | |
Normal | % | |
Expansion | % | |
c-2 |
Calculate the percentage changes in ROE when the economy expands or enters a recession. (Negative amounts should be indicated by a minus sign. Do not round intermediate calculations. Enter your answers as a percent rounded to 2 decimal places, e.g., 32.16.) |
% change in ROE | ||
Recession | % | |
Expansion | % | |
c-3 |
Calculate the return on equity (ROE) under each of the three economic scenarios assuming the firm goes through with the recapitalization. (Do not round intermediate calculations. Enter your answers as a percent rounded to 2 decimal places, e.g., 32.16.) |
ROE | ||
Recession | % | |
Normal | % | |
Expansion | % | |
c-4 |
Given the recapitalization, calculate the percentage changes in ROE when the economy expands or enters a recession. (Negative amounts should be indicated by a minus sign. Round your answers to 2 decimal places. (e.g., 32.16)) |
% change in ROE | ||
Recession | % | |
Expansion | % | |
a1) | Formula=EBIT/EQUITY | |
Calculation | ROE | |
recession | 26000*0.8*100/240000 | 8.67 |
normal | 26000*100/240000 | 10.83 |
expansion | 26000*1.18*100/240000 | 12.78 |
a2) | Formula=(change-normal)/normal | |
% change in ROE | % | |
recession | (8.67-10.83)*100/10.83 | -19.94 |
expansion | (12.78-10.83)*100/10.83 | 18.01 |
b1) | ||
Calculation | ROE | |
recession | (26000-12000)*0.8*100/90000 | 12.44 |
normal | (26000-12000)*100/90000 | 15.56 |
expansion | (26000-12000)*1.18*100/90000 | 18.36 |
b2) | ||
% change in ROE | % | |
recession | (12.44-15.56)*100/15.56 | -20.05 |
expansion | (18.36-15.56)*100/15.56 | 17.99 |
c1) | ||
Calculation | ROE | |
recession | 26000*0.8*0.65*100/240000 | 5.63 |
normal | 26000*0.65*100/240000 | 7.04 |
expansion | 26000*1.18*0.65*100/240000 | 8.31 |
c2) | ||
% change in ROE | % | |
recession | (5.63-7.04)*100/7.04 | -20.03 |
expansion | (8.31-7.04)*100/7.04 | 18.04 |
c3) | ||
Calculation | ROE | |
recession | (26000-12000)*0.8*0.65*100/90000 | 8.09 |
normal | (26000-12000)*0.65*100/90000 | 10.11 |
expansion | (26000-12000)*1.18*0.65*100/90000 | 11.93 |
c4) | ||
% change in ROE | % | |
recession | (8.09-10.11)*100/10.11 | -19.98 |
expansion | (11.93-10.11)*100/10.11 | 18.00 |
RAK, Inc., has no debt outstanding and a total market value of $240,000. Earnings before interest...
RAK, Inc., has no debt outstanding and a total market value of $240,000. Earnings before interest and taxes, EBIT, are projected to be $26,000 if economic conditions are normal. If there is strong expansion in the economy, then EBIT will be 18 percent higher. If there is a recession, then EBIT will be 20 percent lower. RAK is considering a $150,000 debt issue with an interest rate of 8 percent. The proceeds will be used to repurchase shares of stock....
RAK, Inc., has no debt outstanding and a total market value of $240,000. Earnings before interest and taxes, EBIT, are projected to be $26,000 if economic conditions are normal. If there is strong expansion in the economy, then EBIT will be 18 percent higher. If there is a recession, then EBIT will be 20 percent lower. RAK is considering a $150,000 debt issue with an interest rate of 8 percent. The proceeds will be used to repurchase shares of stock....
RAK, Inc., has no debt outstanding and a total market value of $240,000. Earnings before interest and taxes, EBIT, are projected to be $32,000 if economic conditions are normal. If there is strong expansion in the economy, then EBIT will be 15 percent higher. If there is a recession, then EBIT will be 30 percent lower. RAK is considering a $80,000 debt issue with an interest rate of 7 percent. The proceeds will be used to repurchase shares of stock....
RAK, Inc., has no debt outstanding and a total market value of $240,000. Earnings before interest and taxes, EBIT, are projected to be $26,000 if economic conditions are normal. If there is strong expansion in the economy, then EBIT will be 18 percent higher. If there is a recession, then EBIT will be 20 percent lower. RAK is considering a $150,000 debt issue with an interest rate of 8 percent. The proceeds will be used to repurchase shares of stock....
RAK, Inc., has no debt outstanding and a total market value of $240,000. Earnings before interest and taxes, EBIT, are projected to be $26,000 if economic conditions are normal. If there is strong expansion in the economy, then EBIT will be 18 percent higher. If there is a recession, then EBIT will be 20 percent lower. RAK is considering a $150,000 debt issue with an interest rate of 8 percent. The proceeds will be used to repurchase shares of stock....
RAK, Inc., has no debt outstanding and a total market value of $250,000. Earnings before interest and taxes, EBIT, are projected to be $40,000 if economic conditions are normal. If there is strong expansion in the economy, then EBIT will be 20 percent higher. If there is a recession, then EBIT will be 20 percent lower. RAK is considering a $105,000 debt issue with an interest rate of 4 percent. The proceeds will be used to repurchase shares of stock....
RAK, Inc., has no debt outstanding and a total market value of $140,000. Earnings before interest and taxes, EBIT, are projected to be $32,000 if economic conditions are normal. If there is strong expansion in the economy, then EBIT will be 12 percent higher. If there is a recession, then EBIT will be 30 percent lower. RAK is considering a $115,000 debt issue with an interest rate of 6 percent. The proceeds will be used to repurchase shares of stock....
RAK, Inc., has no debt outstanding and a total market value of $250,000. Earnings before interest and taxes, EBIT, are projected to be $40,000 if economic conditions are normal. If there is strong expansion in the economy, then EBIT will be 20 percent higher. If there is a recession, then EBIT will be 20 percent lower. RAK is considering a $105,000 debt issue with an interest rate of 4 percent. The proceeds will be used to repurchase shares of stock....
Castle, Inc., has no debt outstanding and a total market value of $240,000. Earnings before interest and taxes, EBIT, are projected to be $28,000 if economic conditions are normal. If there is strong expansion in the economy, then EBIT will be 12 percent higher. If there is a recession, then EBIT will be 25 percent lower. The firm is considering a debt issue of $140,000 with an interest rate of 6 percent. The proceeds will be used to repurchase shares...
Music City, Inc., has no debt outstanding and a total market value of $240,000. Earnings before interest and taxes, EBIT, are projected to be $28,000 if economic conditions are normal. If there is strong expansion in the economy, then EBIT will be 12 percent higher. If there is a recession, then EBIT will be 25 percent lower. The company is considering a $140,000 debt issue with an interest rate of 6 percent. The proceeds will be used to repurchase shares...