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You are the CFO of Agora Shipping Company, which currently has no debt
You are the CFO of Agora Shipping Company, which currently has no debt. You want to issue some debt, but you need to calculate the breakeven EBIT. You have the following information: With no debt, 800,000 shares outstanding and no interest expense; with debt, 400,000 shares outstanding and $50,000 of interest expense. What is your breakeven EBIT?
Expert Solution
Answer:
Financing Plan 1:
Interest Expense = $0
Shares Outstanding = 800,000 Shares
Financing Plan 2:
Interest Expense = $50,000
Shares Outstanding = 400,000 Shares
At Breakeven EBIT, EPS under both the Financing Plan will be equal
[(EBIT – Interest Expense1) * (1 – Tax Rate)] /Shares Outstanding1 = [(EBIT – Interest Expense2) * (1 – Tax Rate)] /Shares Outstanding2
[(EBIT - $0) * (1 – 0)] / 800,000 = [(EBIT - $50,000) * (1 – 0)] / 400,000
EBIT / 800,000 = (EBIT - $50,000) / 400,000
400,000 * EBIT = 800,000 * EBIT - $40,000,000,000
$40,000,000,000 = 400,000 * EBIT
$100,000 = EBIT
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