b. Compute the degree of operating, financial, and total leverage for firm W.

c.
Compare the relative risk of the two firms.

d. Discuss the principals of leverage that your answers illustrate.

Problem 13-20, p. 599
Debt and financial risk:
John Tower is the sole owner of Tower Interiors, and he has made the forecast of sales shown in
the following table.
Sales
Probability
$200,00
0
0.20
300,000
0.60
400,000
0.20
The firm has fixed operating costs of $75,000 and variable operating costs equal to 70% of the sales level. The company
pays $12,000 in interest per period. The tax rate is 40%.
a. Compute the EBIT for each level of sales.
b. Compute the EPS for each level of sales, the expected EPS, and the standard deviation of the EPS, and the coefficient
of variation of EPS, assuming that there are 10,000 shares of common stock outstanding.

d. Compare your findings in parts
b
and
c
, and comment on the effect of the reduction of debt to zero on the firm’s
financial risk.

Candice Masesie
M6 Written Assignment
Corporate Finance
a. Compute the EBIT for each level of sales.
b. Compute the EPS for each level of sales, the expected EPS, and the standard deviation of the EPS, and the
coefficient of variation of EPS, assuming that there are 10,000 shares of common stock outstanding.

Candice Masesie
M6 Written Assignment
Corporate Finance
CV
=
σ
EPS
EPS
CV
=
1.138
0.18
=
6.32