Firms HL and LL are identical except for their financial leverage ratios and the interest rates they pay on debt. Each has $29 million in invested capital, has $7.25 million of EBIT, and is in the 40% federal-plus- state tax bracket. Firm HL, however, has a debt-to-capital ratio of 55% and pays 11% interest on its debt, whereas LL has a 35% debt-to-capital ratio and pays only 10% interest on its debt. Neither firm uses preferred stock in its capital structure. a. Calculate the return on invested capital (ROIC) for each firm. Round your answers to two decimal places. ROIC for firm LL is ROIC for firm HL is % % b. Calculate the rate of return on equity (ROE) for each firm. Round your answers to two decimal places. ROE for firm LL is ROE for firm HL is % % % c. Observing that HL has a higher ROE, LL's treasurer is thinking of raising the debt-to-capital ratio from 35% to 60% even though that would increase LL's interest rate on all debt to 15%. Calculate the new ROE for LL. Round your answer to two decimal places.

Firms HL and LL are identical except for their financial leverage ratios and the interest rates they pay on debt. Each has $29 million in invested capital, has $7.25 million of EBIT, and is in the 40% federal-plus- state tax bracket. Firm HL, however, has a debt-to-capital ratio of 55% and pays 11% interest on its debt, whereas LL has a 35% debt-to-capital ratio and pays only 10% interest on its debt. Neither firm uses preferred stock in its capital structure. a. Calculate the return on invested capital (ROIC) for each firm. Round your answers to two decimal places. ROIC for firm LL is ROIC for firm HL is % % b. Calculate the rate of return on equity (ROE) for each firm. Round your answers to two decimal places. ROE for firm LL is ROE for firm HL is % % % c. Observing that HL has a higher ROE, LL's treasurer is thinking of raising the debt-to-capital ratio from 35% to 60% even though that would increase LL's interest rate on all debt to 15%. Calculate the new ROE for LL. Round your answer to two decimal places.

Name: Firms HL and LL are identical except for their financial leverage rat
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Description: Firms HL and LL are identical except for their financial leverage ratios and the interest rates they pay on debt. Each has $29 million in invested capital, has $7.25 million of EBIT, and is in the 40% federal-plus-state tax bracket. Firm HL, however

Essentials Of Investments

11th Edition

ISBN:9781260013924

Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.

Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.

Chapter1: Investments: Background And Issues

Section: Chapter Questions

Problem 1PS

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Haricot Corporation and Pinto Corporation both have operating profits of $155 million. Haricot is financed solely by equity, while Pinto has issued $205 million of 5% debt. If the corporate tax rate is 21%:Required:How much tax does each company pay? What is the total payout to investors (debtholders plus shareholders) of each company?
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