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Norley Co. is contemplating adding debt to its capital structure. Up to now, the firm's $800,000 of assets have been financed entirely with 40,000 shares of common stock. Norley is considering the repurchase of 50% of the equity using proceeds from a bond issue that will require payment of 10% coupon interest. EBIT is projected to be $176,000 for next year and the applicable tax rate is 40%.
Problem a. Calculate earnings per share under the all equity financing plan and under the bond issue alternative.
Problem b. Calculate the break-even EBIT (the point at which EPS is identical under the two alternative financing plans).
Problem c. Should Norley undertake the bond issue? Explain.
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