GTB, Inc., has a 20 percent tax rate and has $68.80 million in assets, currently financed...


GTB, Inc., has a 20 percent tax rate and has $68.80 million in assets, currently financed entirely with equity. Equity is worth $6 per share, and book value of equity is equal to market value of equity. Also, let us 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 as shown below:

State Pessimistic Optimistic
Probability of state 0.40 0.60
Expected EBIT in state $2,601,500 $14,211,500

The firm is considering switching to a 25-percent-debt capital structure, and has determined that it would have to pay a 12 percent yield on perpetual debt in either event.

What will be the level of expected EPS if GTB switches to the proposed capital structure?

Capital Structure

Capital Structure refers to the ratio of financing with the instruments of equity, debt, preferred stock and retained earnings. It refers to the weights of each of the instrument in the capital invested of the business

Answer and Explanation:

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In the question,

Let us first find out the expected level of EBIT

Expected EBIT = 0.40 x 2601500 + 0.60 x 14211500 = $ 9,567,500.00

Now current...

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Capital Structure & the Cost of Capital


Chapter 15 / Lesson 1

In this lesson, we'll define capital and a firm's capital structure. We'll also discuss the costs associated with each component in the capital structure and learn about the concept of risk and return.

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