Question

ABC Co. and XYZ Co. are identical firms in all respects except for their capital structure. ABC is all equity financed with $475,000 in stock. XYZ uses both stock and perpetual debt; its stock is worth $237,500 and the interest rate on its debt is 10 percent. Both firms expect EBIT to be $53,000. Ignore taxes.

Answer 1

As XYZ and Co. has to pay less taxes because interest paid on debt is deducted from the EBIT

Answer 2

"Two Companies are 1. ABC Co. and 2. XYZ Co.

ABC Company is equity financed with = $475,000

XYZ Company both stock and debt = $237,500

Interest rate on debt = 10 % (percentage)

The net income for XYZ Company is mentioned below:

Mentioned on EBIT = Rs 53,000

DR = 237,500 → (475,000 - 237,500)

$Interest\quad =\quad 23750\quad \left( 237500\quad \times \quad 0.10 \right)$

Actual Net Income = 29,250"