Lever Brothers has a debt ratio (debt to assets) of 60%.

Lever Brothers has a debt ratio (debt to assets) of 60%. Management is wondering if its current capital structure is too aggressive. Lever Brothers’s present EBIT is $3 million, and profits available to common shareholders are $1,440,000, with 228,571 shares of common stock outstanding. If the firm were to instead have a debt ratio of 20%, reduced interest expense would cause profits available to stockholders to increase to $1,680,000, but 457,143 common shares would be outstanding. What is the difference in EPS at a debt ratio of 20% versus 60%?
a. $-1.76
b. $-2.63
c. $-3.14
d. $-4.37

 

Solution