1. Project earnings per share for 2016 assuming that sales increase by $500,000.

Use Figure 3 as the model for the calculation.

2016
Sales $ 45,500,000.00
Less: Fixed Costs $ 12,900,000.00
Less: Variable Costs (58% of sales) $ 26,390,000.00
Operating income (EBIT) $ 6,210,000.00
Less: Interest $ 1,275,000.00
Earnings before taxes (EBT) $ 4,935,000.00
Less: Taxes (34%) $ 1,677,900.00
Earnings after taxes (EAT) $ 3,257,100.00
Shares $ 2,000,000.00
Earnings per share $ 1.63
as the model for the calculation. Further assume that the capital structure is not changed.
2. By what percent did earnings per share increase from 2015 to 2016?
EPS 2016 EPS 2015
1.63 1.56
4.49%
It increased 4.49%.
3. Now assume that $10 million of debt replaces 625,000 shares of common stock as described in the case. The interest on the
will projected earnings per share be for 2016 based on the anticipated sales increase of $500,000?

2016
Sales $ 45,500,000.00
Less: Fixed Costs $ 12,900,000.00
Less: Variable Costs (58% of sales) $ 26,390,000.00
Operating income (EBIT) $ 6,210,000.00
Less: Interest $ 2,400,000.00
Earnings before taxes (EBT) $ 3,810,000.00
Less: Taxes (34%) $ 1,295,400.00
Earnings after taxes (EAT) $ 2,514,600.00
Shares $ 1,375,000.00
Earnings per share $ 1.83
case. The interest on the new debt will be 11.25 percent. What
4. Based on your answer to question 3, by what percent would earnings per share increase from 2015 to 2016?
EPS 2016 EPS 2015
1.83 1.56
17.31%
It increased 17.31%.
2015 to 2016?
5. Compute the degree of financial leverage (DFL) for the answer to question 1 and for the answer to question 3.

2016 Q1 2016 Q3
Sales $ 45,500,000.00 Sales
Less: Fixed Costs $ 12,900,000.00 Less: Fixed Costs
Less: Variable Costs (58% of sales) $ 26,390,000.00 Less: Variable Costs (58% of sales)
Operating income (EBIT) $ 6,210,000.00 Operating income (EBIT)
Less: Interest $ 1,275,000.00 Less: Interest
Earnings before taxes (EBT) $ 4,935,000.00 Earnings before taxes (EBT)
Less: Taxes (34%) $ 1,677,900.00 Less: Taxes (34%)
Earnings after taxes (EAT) $ 3,257,100.00 Earnings after taxes (EAT)
Shares $ 2,000,000.00 Shares
Earnings per share $ 1.63 Earnings per share

DFL= EBIT/EBIT-I DFL= EBIT/EBIT-I

1.26 1.63
r to question 3.

16 Q3
$ 45,500,000.00
$ 12,900,000.00
$ 26,390,000.00
$ 6,210,000.00
$ 2,400,000.00
$ 3,810,000.00
$ 1,295,400.00
$ 2,514,600.00
$ 1,375,000.00
$ 1.83
6. Using the formula in footnote 3 of Chapter 5, compute degree of combined leverage (DCL) for the answer to question 1 and

2016 Q1 2016 Q3
Sales $ 45,500,000.00 Sales
Less: Fixed Costs $ 12,900,000.00 Less: Fixed Costs
Less: Variable Costs (58% of sales) $ 26,390,000.00 Less: Variable Costs (58% of sales)
Operating income (EBIT) $ 6,210,000.00 Operating income (EBIT)
Less: Interest $ 1,275,000.00 Less: Interest
Earnings before taxes (EBT) $ 4,935,000.00 Earnings before taxes (EBT)
Less: Taxes (34%) $ 1,677,900.00 Less: Taxes (34%)
Earnings after taxes (EAT) $ 3,257,100.00 Earnings after taxes (EAT)
Shares $ 2,000,000.00 Shares
Earnings per share $ 1.63 Earnings per share

DCL=S-TVC/S-TVC-FC-I DCL=S-TVC/S-TVC-FC-I
3.87 5.02
he answer to question 1 and the answer to question 3.

16 Q3
$ 45,500,000.00
$ 12,900,000.00
$ 26,390,000.00
$ 6,210,000.00
$ 2,400,000.00
$ 3,810,000.00
$ 1,295,400.00
$ 2,514,600.00
$ 1,375,000.00
$ 1.83
7. What is the total debt to assets ratio as shown in the 2015 balance sheet (Figure 2)?
Debt to assets=total debt/total assets
Debt to assets = (12,000,000+5,500,000)/40,500,000
43%

What will it be if $10 million worth of stockholders’ equity is replaced with debt?
Debt to assets=total debt/total assets
Debt to assets = (12,000,000+5,500,000+10,000,000)/40,500,000
68%
8. What do you think might happen to the stock price as a result of replacing $10 million worth of stockholders’ equity with de
The prudent range of debt to total assets rate is 50%. When replacing $10 million worth of stockholders' equity with debt, it e
Expanding the use of debt in the capital structure will perceive a greater financial risk for the company. Therefore, concerned
Financial leverage is a good thing, but it must be used in moderation.