Question 1: Mike Smith wanted to open up a baseball hat shop. He needs to know how many hats that must be sold in a year to break even. The stores fixed costs for the year are estimated at $85,000. He is planning on selling the hats for $20.00 a piece. His cost per hat is $10.50.
a. Find the operating breakeven point in number of hats.
b. What is the total operating costs at the breakeven volume found in a.
c. A marketing firm is estimating that he will be able to sell an average of 1000 hats per month. Should Mike start the business?
d. What will be the EBIT per month if Mike sells 1000 hats?
Question 2: Ace Cooling Systems, Inc., has total assets of $20,000,000, EBIT of $2,000,000, and preferred dividends of $250,000 and is taxed at a rate of 40%. In an effort to determine the optimal capital structure, the firm has assembled data on the cost of debt, the number of shares of common stock for various levels of indebtedness, and the overall required return on investment:
|
Capital structure
debt ratio
|
Cost of
debt, kd
|
No. of common stock shares
|
Required
return, ks
|
|
0.00%
|
0.00%
|
200000
|
10.00%
|
|
15
|
8
|
170000
|
11.00%
|
|
30
|
9
|
150000
|
12.00%
|
|
45
|
12
|
110000
|
14.00%
|
|
60
|
15
|
80000
|
18.00%
|
a. Calculate earnings per share for each level of indebtedness.
b. Calculate the price per share for each level of indebtedness.
c. Choose the best capital structure. Why?