CHAPTER 13: CAPITAL STRUCTURE MANAGEMENT

Name:

Short Answer

Two Canadian forestry companies with similar operations and products:

	Canadian Lumber		Northern Lumber
	2003	2002	2003	2002
Sales	$100 MM	$94 MM	$100 MM	$94 MM
EBIT	$13.2 MM	$12.0 MM	$13.2 MM	$12.0 MM
Cost of Debt	8.5%	8.5%	8.5%	8.5%
Corporate Tax Rate	20%	20%	20%	20%
Debt	$80.5MM	$80.5 MM	$44.5MM	$44.5 MM
Common Shares	$69.5MM	$69.5 MM	$105.5 MM	$105.5 MM
Common Shares Outstanding	6.95 MM	6.95 MM	10.55 MM	10.55 MM

Calculate the degree of operating and financial leverage for each company?

For the past three years, the forestry industry has been anxiously awaiting the outcome of the Softwood Lumber dispute between Canada and the United States. In the event that tariffs are eliminated, Canadian Lumber and Northern Lumber will see their EBIT increase to $20.0 MM. In the event that the tariffs continue to hold, both companies will see their EBIT drop to $8.0MM. Calculate the earnings per share for both companies under the two scenarios. Assuming that both companies have a price-earnings ratio of 8, what are the share prices under both scenarios?

At which EBIT level does Canadian Lumber’s capital structure provide a higher EPS than Northern Lumber? At which EBIT level does Northern Lumber’s capital structure provide a higher EPS than Canadian Lumber?