HiLo Inc doesnt face any taxes and has 6912 million in asset

HiLo, Inc., doesn’t face any taxes and has $69.12 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’s 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:

The firm is considering switching to a 25-percent-debt capital structure, and has determined that it would have to pay a 9 percent yield on perpetual debt in either event. What will be the standard deviation in EPS if the firm switches to the proposed capital structure? (Do not round intermediate calculations and round your final answer to 2 decimal places.)

State	Pessimistic	Optimistic
Probability of State	0.40	0.60
Expected EBIT in State	$1,900,800	$16,502,400

Solution

New equity= 75%*69120000= 51840000 New Debt= 25% *69120000= 17280000 Interest= 9%* 17280000= 1555200 Shares outstanding as per new capital structure= 51840000/$6= 8640000 Particulars Pessimistic Optimistic Expected earnings before interest and taxes 1900800 16502400 Debt 17280000 17280000 Interest rate 9% 9% Interest 1555200 1555200 Net income 1900800-1555200=345600 16502400-1555200=14947200 EPS (net income/no. of shares) 0.04 1.73 Expected value of earnings per share .4*.04 +.6*1.73= 1.054 Variance= .4.*(.04-1.054)^2 + .60 *(1.73-1.054)^2 Variance= .6854 Standard Deviation= Square root of .6854= .827