Calculate the return on invested capital for each firm

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Reference no: EM13336294

Firms HL and LL are identical except for their leverage ratios and the interest rates they pay on debt. Each has $16 million in invested capital, has $4.8 million of EBIT, and is in the 40% federal-plus-state tax bracket. Firm HL, however, has a debt-to-capital ratio of 60% and pays 12% interest on its debt, whereas LL has a 20% debt-to-capital ratio and pays only 10% interest on its debt. Neither firm uses preferred stock in its capital structure.

Calculate the return on invested capital (ROIC) for each firm

Calculate the rate of return on equity (ROE) for each firm.

Observing that HL has a higher ROE, LL's treasurer is thinking of raising the debt-to-capital ratio from 20% to 60%, even though that would increase LL's interest rate on all debt to 15%. Calculate the new ROE for LL.

Reference no: EM13336294

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