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2. Business and financial risk The impact of financial leverage on return on equity and earnings per share Consider the following case of Free Spirit Industries Inc.: Suppose Free Spirit Industries Inc. is considering a project that will require $200,000 in assets. The company is small, so it is exempt from the Interest deduction limitation under the new tax law. The project is expected to produce earnings before interest and taxes (EBIT) of $40,000. . Common equity outstanding will be 20,000 shares. . The company Incurs a tax rate of 25% In If the project is financed using 100% equity capital, then Free Spirit Industries Inc.'s retum on equity (ROE) on the project will be 12.75% addition, Free Spirit's earnings per share (EPS) will be 12.75% Alternatively, Free Spinit Industries Inc.'s CFO is also considering financing the project with 50% debt and 50% equity capital. The 14.25% se on the company's debt will be 12%. Because the company will finance only 50% of the project with equity, it will have only 10,000 sharee f. Free Spirit Industries Inc.'s ROE and the company's EPS will be of management decides to finan 15.00% bject with 50% debt and 50% equity 17.25% Typically, using financial leverage will a project's expected ROE. Grade It Now Save & Continue Continue without saving 2. Business and financial risk The impact of financial leverage on return on equity and earnings per share Consider the following case of Free Spirit Industries Inc.: Suppose Free Spirit Industries Inc. is considering a project that will require $200,000 in assets. The company is small, so it is exempt from the interest deduction limitation under the new tax law. The project is expected to produce earnings $1.58 ferest and taxes (EBIT) of $40,000. . Common equity outstanding will be 20,000 SH The company Incurs a tax rate of 25%. $1.27 $1.35 $1.50 In $1.13 If the project is financed using 100% equity capital, the Spirit Industries Inc.'s return on equity (ROE) on the project will be 12.75% addition, Free Spirit's earnings per share (EPS) will be Alternatively, Free Spirit Industries Inc.'s CFO is also considering financing the project with 50% debt and 50% equity capital. The interest rate on the company's debt will be 12%. Because the company will finance only 50% of the project with equity, it will have only 10,000 shares outstanding. Free Spirit Industries Inc.'s ROE and the company's EPs will be if management decides to finance the project with 50% debt and 50% equity. Typically, using financial leverage will a project's expected RO. Grade It Now Save & Continue Continue without saving 2. Business and financial risk The impact of financial leverage on return on equity and earnings per share Consider the following case of Free Spirit Industries Inc.: Suppose Free Spirit Industries Inc. is considering a project that will require $200,000 in assets. The company is small, so it is exempt from the interest deduction limitation under the new tax law. The project is expected to produce earnings before interest and taxes (EBIT) of $40,000. . Common equity outstanding will be 20,000 shares. The company incurs a tax rate of 25%. 17.85% and $1.79, respectively If the project is financed using 100% equity capital, then In equity (ROE) on the project will be 12.75% In 22.05% and $2.00, respectively addition, Free Spirit's earnings per share (EPS) will be 21.00% and $2.10, respectively Alternatively, Free Spirit Industries Inc.'s CFO is also consi % debt and 50% equity capital. The interest rate on the 25.20% and $2.42, respectively company's debt will be 12%. Because the company will fin Jequity, it will have only 10,000 shares outstanding, Free Spirit Industries Inc.'s ROE and the company's EPS will be if management decides to finance the project with 50% debt and 50% equity. Typically, using financial leverage will a project's expected ROE. Grade It Now Save & Continue Continue without saving 2. Business and financial risk The impact of financial leverage on return on equity and earnings per share Consider the following case of Free Spirit Industries Inc.: Suppose Free Spirit Industries Inc. is considering a project that will require $200,000 in assets. The company is small, so it is exempt from the interest deduction limitation under the new tax law. The project is expected to produce earnings before interest and taxes (EBIT) of $40,000. . Common equity outstanding will be 20,000 shares. The company incurs a tax rate of 25%. In If the project is financed using 100% equity capital, then Free Spirit Industries Inc.'s return on equity (ROE) on the project will be 12.75% addition, Free Spirit's earnings per share (EPS) will be Alternatively, Free Spirit Industries Inc. CFO is also considering financing the project with 50% debt and 50% equity capital. The interest rate on the company's debt will be 12%. Because the company will finance only 50% of the project with equity, it will have only 10,000 shares outstanding, Free Spirit Industries Inc. Rot and the codecreases will be if management decides to finance the project with 50% debt and 50% equity Increase Typically, using financial leverage will a project's expected ROI Grade It Now Save & Continue Continue without saving

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